Research

The uncertain nature of climate change leaves room for diverse beliefs and considerable disagreement. This paper investigates the transitional effects of climate beliefs on the macroeconomy through shifts in savings behavior. I incorporate climate damages into an incomplete-markets model with aggregate risk as a non-stationary shift in the stochastic process for productivity. Beliefs about the transitional effects of climate change may be both imperfect and heterogeneous across households. The anticipation of climate damages incentivizes savings and increases capital supply in the short-run, which attenuates output losses as climate change progresses. Crucially, I find that a higher level of capital disproportionally benefits asset-poor households, decreasing wealth inequality. The accumulation of capital is dampened by heterogeneity in beliefs due to downward pressure on asset returns in general equilibrium. To validate the model, I provide observational and causal evidence on a positive relationship between individual savings and climate change concerns from UK survey data.

The substantial spread in climate projections from large-scale climate models complicates the derivation of optimal climate policies, but is also an important reminder of the limited predictability of the climate system. We build Integrated Assessment Models (IAMs) reflecting this range of temperature projections using novel linear response theory and Lasso regression-based CMIP6 temperature emulators. This allows a quantification of the policy impact of concern over climate model uncertainty under a range of preference specifications. Under expected utility maximization, the optimal policy includes full decarbonization from 2075 onwards, even though this is only the case for 30% of CMIP6 models when modeled separately. Mitigation increases with robustness concerns, but decreases when weighting climate models by historical performance.

We develop a dynamic general equilibrium model with sectoral heterogeneity and an endogenous aggregate energy substitutability that responds to climate policy. The social planner optimum is attained by taxing emissions uniformly. This uniform emissions tax leads to reallocation on all levels: within the electricity, energy and intermediate sectors and also across intermediate sectors. A low substitutability across sectors or between energy and other inputs decreases the efficacy of a carbon tax.

Extending a buffer-stock model of a government which balances economic stabilization and debt sustainability, this paper models a forward-looking government that considers growth, market-access, currency, and other stock-flow adjustment risks to optimize its fiscal stance. We recognize a trade-off: while the lower effective real interest rates of FX debt can provide more fiscal space, risks of adverse debt valuation effects due to currency depreciation reduce this space. This may call for additional buffers. We provide a fiscal stance path advice for Mexico, where 30 percent of public debt is in foreign currency. We also use the model to provide a debt target and a range of values for the primary balance consistent with a given tolerance for debt risks. We discuss results’ sensitivity, including with respect to the share of FX debt, the persistence of exchange rate movements, adjustments costs or stock-flow adjustment shocks beyond those induced by FX debt. Lastly, we provide a toolkit to facilitate applications to other countries.