Working Paper: NBER ID: w28525
Authors: Stefano Carattini; Garth Heutel; Givi Melkadze
Abstract: We study climate and macroprudential policies in an economy with financial frictions. Using a dynamic stochastic general equilibrium model featuring both a pollution market failure and a market failure in the financial sector, we explore transition risk – whether ambitious climate policy can lead to macroeconomic instability. It can, but the risk can be alleviated through macroprudential policies – taxes or subsidies on banks’ assets. Then, we explore efficient climate and macroprudential policy in the long run and over business cycles. The presence of financial frictions affects the steady-state value and dynamic properties of the efficient carbon tax. Macroprudential policy alone, without a carbon tax, is not very effective at addressing the pollution externality.
Keywords: No keywords provided
JEL Codes: E32; G18; Q58
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Permanent carbon tax (Q58) | Transition away from brown production (L69) |
| Permanent carbon tax (Q58) | Recession (due to financial instability) (E32) |
| Transition risk (P27) | Banking sector instability (F65) |
| Macroprudential policy (E60) | Alleviation of transition risk (G33) |
| Financial frictions (G19) | Efficient design of climate policy (Q58) |
| Carbon tax (without financial frictions) (H29) | First-best outcome in emissions reduction (H21) |
| Carbon tax (with financial frictions) (G19) | Lower than first-best efficient carbon tax (H21) |