Assessing green growth policies in macro-economic models – Research Plenary Session @ FINEXUS Conference

Time and Venue: Wed, 17 Jan 2018, 11:15 – 12:30. Aula KOL-G-201, Univ. of Zurich
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Summary. This session shares the methodological approach with the previous session on “Assessing financial stability policies in macro-economic models”, in terms of attention to mechanisms such as asymmetric information, agent heterogeneity and interactions, as well endogenous technical change. Differently from the previous session, it focuses on policies and financial instruments to foster the transition to a low-carbon economy. On the one hand, it examines the possible negative impact of climate change on economic dynamics and financial stability. On the other hand, it examines the role of policies (including unconventional monetary policies) in triggering the transition to sustainable growth and supporting investments in the green sector. In particular, the session aims at clarifying the mechanisms required in a macro-economic model for the green growth pathway to be a possible outcome. Further, it aims at clarifying the obstacles to be removed and the conditions for the green growth pathway to be selected.

Panelclick here for speaker biographies:

Andrea Roventini (Professor, Sant’Anna School of Advanced Studies)
  Francesco Lamperti (PostDoc, Sant’Anna School of Advanced Studies)
  Antoine Mandel (Professor, Paris School of Econ.)
Irene Monasterolo (Professor, Vienna Univ. of Econ. & Business)
  Gesine Steudle (PostDoc, Global Climate Forum)
  Bjarne Steffen (PostDoc, ETH Zurich)

Background information and policy context.

Green growth requires a disequilibrium model structure. Recent work carried out at the Global Climate Forum and at Sant’Anna School of Advances Studies point out that green growth as a win-win strategy cannot be understood within the framework of standard economic theory, because it is ruled out by construction (Lamperti et al., 2016; Wolf ea. 2016). In order, to enable an integrated-assessment climate economic model to allow for the possibility of green growth, a multi-equilibrium structure is necessary. Key factors are deep uncertainty, endogenous technical change, structural change, emerging tipping points, non-linearities and a role for agents’ expectations.

Accounting for path dependencies and lock-in is crucial to model the transition to a low-carbon economy. From a modelling perspective, the standard way of representing damages in the climate economic literature (as a percentage of lost GDP) oversimplifies the effects of climate change hiding the role of climate impact in fostering a carbon lock-in or favoring a transition to sustainable energy. Recent works conducted at Sant’Anna School of Advances Studies with the “DSK agent-based integrated assessment model” (Lamperti et. al., 2016) provide a microeconomic assessment of the impact of climate change shocks on different economic dimensions (e.g., labor productivity, energy efficiency, capital stock) and study the conditions for a transition from brown (fossil fuel based) to green (low-carbon) energy technologies and its macroeconomic implications in the presence of climate change. On the policy side, simulation results show that the carbon tax required to trigger the transition to sustainable growth is substantial and and command-and-control tools can be more effective. Moreover, policy interventions ought to be timely to avoid the carbon lock-in and reach the 2’ degree target set at COP21 conference.

Green bonds as an instrument to foster the transition to a low-carbon economy. Green bonds are perceived today as a key instrument to unlock climate finance. While their volume has grown steadily in recent years, the impact of the “green label” on the bonds market is poorly understood. Karpf et al. 2017 find that, although returns on conventional bonds are on average higher than for green bonds, differences can largely be explained by the fundamental properties of the bonds. Historically, green bonds have been penalized on the municipal market, being traded at lower prices and higher yields than expected by their credit profiles. In recent years, however, the credit quality of municipal green bonds has increased and the premium turned positive. Green bonds are thus becoming an increasingly attractive investment, with scope to bridge the climate finance gap for mitigation and adaptation.

Macro-Models to Assess Monetary Policies. Some recent quantitative modelling work (EIRIN Model by Monsterolo and Raberto 2018), has investigated the conditions under which central banks could support government’s policies aimed at fostering a smooth low-carbon transition. The analysis considers (i) conventional and unconventional monetary policies (such as a green QE) and (ii) green financial instruments (such as green sovereign bonds). It addresses the question of whether a central bank could support the scaling-up of investments in renewable energy via a green QE targeted to sovereign bonds conditioned to green investments. A related important questions is also whether there are unintended consequences. On the one hand in terms of distributive effects (depending on how the green QE and the fiscal policy are implemented). On the other hand, in terms of moral hazard (e.g., banks have no incentive to assess risk of bonds since they are immediately repurchased by the CB). An interesting methodological note is that these kind of analysis could not be conducted in the context of traditional DSGE modelling approach used at central banks (see e.g., speech by Constancio about the impact of ECB’s QE).

Development banks and state investment banks play a crucial role in climate finance. Understanding green growth requires to look at the actors that could foster the transition to the low-carbon economy. A recent strand of work has documented the crucial role of State Investment Banks (SIBs) in this respect (Mazzucato et al., 2017, and Geddes et al., 2017). In particular, according to Geddes et al., SIBs play a crucial role in addressing the low-carbon financing gap in many countries, by undertaking activities aimed at addressing the barriers faced by developers sourcing finance. These activities consist of i) market rate capital provision, aimed at addressing investment gaps for low-carbon projects with very large upfront capital costs, as well as gaps that arose due to reduced investment activity post financial crisis, and ii) de-risking activities, addressing investors’ risk aversion (both actual and perceived). However, SIBs go far beyond these two activities, they also take an i) educational role, building and developing their own capabilities in order to better identify, assess and mitigate risk, and perform a ii) ‘trust creation’ role, where their decision to support a project has a ‘labelling effect’ and their presence directly crowds-in additional finance. Finally, SIBs perform a first or early mover role by supporting risky, innovative projects to create a track record and indirectly crowd-in private finance to subsequent projects.