Climate Policy Transition Risk and the Macroeconomy

Abstract

Uncertainty surrounding if and when the U.S. government will implement a federal climate policy introduces risk into the decision to invest in capital used in conjunction with fossil fuels. To quantify the macroeconomic impacts of this climate policy risk, we develop a dynamic, general equilibrium model that incorporates beliefs about future climate policy. We find that climate policy risk reduces carbon emissions by causing the capital stock to shrink and become relatively cleaner. Our results reveal, however, that a carbon tax could achieve the same reduction in emissions at less than half the cost.

Carbon Pricing and the Elasticity of Co2 Emissions

“…Merely the act of introducing any non-zero carbon price might drive the apparent reductions by altering expectations (see e.g. Fried et al 2020). To assess whether higher price levels lead to larger reductions in emissions requires an estimate of the (semi-)elasticity of emissions with respect to the (emissions-weighted) carbon price.…”

Measuring and assessing the effects of climate policy uncertainty

“…Starting in the 1980s, theoretical work on overall economic uncertainty suggested that high levels of uncertainty should give firms an incentive to delay investments and hiring when investment projects are costly to undo or workers are costly to hire and fire (Bernanke, 1983[6]; Pindyck, 1988[8]; Dixit and Pindyck, 1994[9]; Bretschger and Soretz, 2018 [13]; Fried, Novan and Peterman, 2020 [14]). This theoretical work was followed by empirical studies which established evidence for detrimental economic effects of monetary, fiscal, and regulatory policy uncertainty (Fernández-Villaverde et al, 2015 [15]; Hassett and Metcalf, 2001[16]).…”