The Stern Review says that climate change represents the greatest and widest-ranging market failure ever seen. And on the basis of this intellectually rigorous and thorough report, it is hard to disagree.

Sir Nicholas Stern, a distinguished development economist and former chief economist at the World Bank, is not a man given to hyperbole.

Yet he says “our actions over the coming few decades could create risks of major disruption to economic and social activity, later in this century and in the next, on a scale similar to those associated with the great wars and the economic depression of the first half of the 20th Century”.

His report gives prescriptions for how to minimise this economic and social disruption.

His central argument is that spending large sums of money now on measures to reduce carbon emissions will bring dividends on a colossal scale. It would be wholly irrational, therefore, not to spend this money.

However, he warns that we are too late to prevent any deleterious consequences from climate change.

The prospects are worst for Africa and developing countries, so the richer nations must provide them with financial and technological help to prepare and adapt.

Tough decisions

He believes it is practical to aim for a stabilisation of greenhouse gas levels in the atmosphere of 500 to 550 parts per million of carbon dioxide equivalent by 2050 - which is double pre-industrial levels and compares with 430ppm today.

Carbon dioxide itself stands at about 380ppm, but Sir Nicholas has used the higher figure of 430 which incorporates other greenhouse gases such as methane.

But even stabilising at that level will probably mean significant climate change.

Even to stabilise at that level, emissions per unit of gross domestic product (GDP) would need to be cut by an average of three-quarters by 2050 - a frightening statistic.

As well as decarbonising the power sector by 60%-70%, there will also have to be an end to deforestation - emissions from deforestation are estimated at more than 18% of global emissions, more than transport. And there will have to be deep cuts in emissions from transport.

The costs of these changes should be around 1% of global GDP by 2050 - in other words the world would be 1% poorer than we would otherwise have been, which would be significant but far from prohibitive.

To be clear, this does not mean we would be 1% poorer than we are today, but that global growth will be slower.

The way to look at this 1% is as an investment. Because the costs of not taking this action are mind-bogglingly large.

Rising estimates

Sir Nicholas Stern’s start point is economic modelling carried out in other studies showing that a scenario of 2-3 degrees of warming would lead to a permanent loss of up to 3% in global world output, compared to what would have happened without climate change. But he says those estimates are too low.

He believes 5-6 degrees of warming is a “real possibility” for the next century.

Having fed the probabilities of the various different degrees of global warming into his economic model, he estimates that “business as usual” would lead to a permanent reduction in global per-capita consumption of at least 5%.

But, that estimate does not include the financial cost of the direct impact on human health and the environment from global warming, or the disproportionate costs on poor regions of the world.

It also ignores so-called “feedback mechanisms”, which may mean that as the stock of greenhouse gases increases there is a disproportionate rise in warming with each new increment in emissions.

Unfair burden

Putting all these factors together, he comes up with the stark conclusion that if we do nothing to stem climate change, there could be a permanent reduction in consumption per head of 20%.

In other words, everyone in the world would be a fifth poorer than they would otherwise have been.

Even worse, these costs will not be shared evenly. There will be a disproportionate burden on the poorest countries.

So here’s the winning formula: Stern says spend 1% of world GDP to be 20% richer than we will otherwise be. It looks like a no-brainer.

There is another way of presenting this analysis of benefits versus costs.

Stern says that if you take the present value (the value in today’s money) of the benefits over the coming years of taking action to stabilise greenhouse gases by 2050, then deduct the costs, you end up with a “profit” of $2.5 trillion (£1.32 trillion).

Any way you look at it, the financial case for tackling climate change looks watertight.

Hurdles

That said, there are great impediments to harvesting this dividend.

One is the obvious problem, which is that it requires collective, coordinated action by most of the world’s governments - and securing the requisite consensus on the way forward will not be simple.

In the interests of fairness, Stern argues that the richer countries should take responsibility for between 60% and 80% of reductions in emissions from 1990 levels by 2050.

But assuming that consensus is reached, what is the best way to correct the grotesque market failure that is currently taking us on a path to poverty? How do we start to pay a price for carbon that reflects its true economic and social costs, or a price that includes the present value of future climate change?

There are two main ways of achieving this.

One is through taxation. The other is through rationing the amount of carbon emissions that any business - or any individual - can make, and then creating a proper global market.

Such a move would allow any business or institution that wants to emit more than its entitlement to buy that right, and any business that emits less than its entitlement to sell the unused portion of its entitlement - effectively carbon trading.

Another imperative for governments is to encourage research and development on low-carbon technologies.

Governments must also encourage “behavioural change”, through regulation - such as imposing tighter standards on the energy efficiency of buildings - as well as educating the public about the true costs of wasting energy.

Trouble ahead

That said, we should prepare for a whole series of shocks from the effects of climate change that are already unavoidable.

There will probably be both more droughts and more floods. An increased incidence of devastating storms is expected. And there is an increased risk of famine in the poorest countries.

So we must start to get better at monitoring of climate conditions - and adapt ourselves for the new world.

That means reinforcing buildings and infrastructure to make them sturdier in the face of extreme weather conditions, investment in new dykes, and support for financial markets so that it is possible to purchase insurance against climate-related disaster.

It will all be very expensive, disproportionately so for developing countries. So Stern argues, and it’s hard to disagree, that there is a strong moral obligation on the richer countries to help the poorest ones protect themselves against the very worst that may transpire.