Climate Finance Intermediation: Interest Spread Effects in a Climate Policy Model

37 Pages Posted: 27 May 2020

See all articles by Kai Lessmann

Kai Lessmann

Potsdam Institute of Climate Impact Research

Matthias Kalkuhl

Mercator Research Institute on Global Commons and Climate Change (MCC)

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Date Written: April 28, 2020

Abstract

Interest rates are central determinants of saving and investment decisions. Costly financial intermediation distort these price signals by creating a spread between the interest rates on deposits and loans with substantial effects on the supply of funds and the demand for credit. This study investigates how interest rate spreads affect climate policy in its ambition to shift capital from polluting to low-carbon sectors of the economy. To this end, we introduce financial intermediation costs in a dynamic general equilibrium climate policy model. We find that costly financial intermediation affects carbon emissions in various ways through a number of different channels. For low to moderate interest rate spreads, carbon emissions increase by up to 7 percent, in particular, because of lower investments into the capital intensive clean energy sector. For very high interest rate spreads, emissions fall because lower economic growth reduces carbon emissions. If a certain temperature target should be met, carbon prices have to be adjusted upwards by up to one third under the presence of capital market frictions.

Keywords: financial friction, banking, greenhouse gas mitigation

JEL Classification: E43, G21, Q54, Q58

Suggested Citation

Lessmann, Kai and Kalkuhl, Matthias, Climate Finance Intermediation: Interest Spread Effects in a Climate Policy Model (April 28, 2020). Available at SSRN: https://ssrn.com/abstract=3588014 or http://dx.doi.org/10.2139/ssrn.3588014

Kai Lessmann (Contact Author)

Potsdam Institute of Climate Impact Research ( email )

HOME PAGE: http://https://pik-potsdam.de/members/lessmann

Matthias Kalkuhl

Mercator Research Institute on Global Commons and Climate Change (MCC) ( email )

Torgauer Straße 12-15
Berlin, 10829
Germany

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