Climate Actions and Stranded Assets: The Role of Financial Regulation and Monetary Policy

47 Pages Posted: 22 Jul 2020

See all articles by Francesca Diluiso

Francesca Diluiso

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

Barbara Annicchiarico

University of Rome, Tor Vergata - Department of Economics and Finance; University of Rome Tor Vergata - Centre for International Studies on Economic Growth (CEIS)

Matthias Kalkuhl

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

Jan Christoph Minx

Independent

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Date Written: July 22, 2020

Abstract

Limiting global warming to well below 2*C may result in the stranding of carbon-sensitive assets. This could pose substantial threats to financial and macroeconomic stability. We use a dynamic stochastic general equilibrium model with financial frictions and climate policy to study the risks a low-carbon transition poses to financial stability and the different instruments central banks could use to manage these risks. We show that, even for very ambitious climate targets, transition risks are limited for a credible, exponentially growing carbon price, although temporary "green paradoxes" phenomena may materialize. Financial regulation encouraging the decarbonization of the banks' balance sheets via tax-subsidy schemes significantly reduces output losses and inflationary pressures but it may enhance financial fragility, making this approach a risky tool. A green credit policy as a response to a financial crisis originated in the fossil sector can potentially provide an effective stimulus without compromising the objective of price stability. Our results suggest that the involvement of central banks in climate actions must be carefully designed in compliance with their mandate to avoid unintended consequences.

Keywords: Climate policy, financial instability, financial regulation, green credit policy, monetary policy, transition risk

JEL Classification: E50, H23, Q43, Q50, Q58

Suggested Citation

Diluiso, Francesca and Annicchiarico, Barbara and Kalkuhl, Matthias and Minx, Jan Christoph, Climate Actions and Stranded Assets: The Role of Financial Regulation and Monetary Policy (July 22, 2020). CEIS Working Paper No. 501, Available at SSRN: https://ssrn.com/abstract=3658126 or http://dx.doi.org/10.2139/ssrn.3658126

Francesca Diluiso

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

Torgauer Straβe 12-15
Berlin, DE 10829
Germany

Barbara Annicchiarico (Contact Author)

University of Rome, Tor Vergata - Department of Economics and Finance ( email )

Rome, I-00133
Italy

University of Rome Tor Vergata - Centre for International Studies on Economic Growth (CEIS) ( email )

Via Columbia, 2
Rome, I-00133
Italy

Matthias Kalkuhl

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

Torgauer Straße 12-15
Berlin, 10829
Germany

Jan Christoph Minx

Independent

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