ADAPTING FISCAL POLICY TO
DEAL WITH CLIMATE CHANGE
Nusa Dua, Bali, 1-2 August 2008
Teresa Ter-Minassian,
Introduction
• Climate change has important macro-economic and
fiscal implications for national economies
• It is also a global externality, with unique characteristics:
¾ Costs of mitigation come long before benefits (hence discount
rate critical)
¾ Major uncertainties; risks of catastrophe; and irreversibilities
¾ Substantial differences in impact across countries
¾ Free rider problem, requiring international cooperation
Fiscal implications of Climate
Change
•
Direct effects
of climate change on public
finances:
¾
Productivity changes impacting output and revenue
growth in many countries
¾
Especially adverse impact on agriculture and tourism
in vulnerable countries
¾
Increased spending needs in infrastructure and health
•
Fiscal measures
can play a role both in
Mitigation measures: basic
principles
• Mitigation measures aim to raise the price of pollution
• Classic prescription to deal with externalities is to set a price equal
to the marginal social damage
• Views differ greatly on the appropriate starting level (often ranging
from $15-60/tC, Stern closer to $100/tC)
• But even more important is the credible expectation of a gradual but
sustained increase of emissions price over time
• In addition to efficiency, emissions pricing raises issues of equity—
IGSM 450 ppm 550 ppm 650 ppm 0 1000 2000 3000 4000 5000 6000 7000
2020 2040 2060 2100
C a r b o n p r ic e s U S $ /t C (2 0 0 0 ) 0 1 2 3 4 5 6 7 8 A n n u a l c a r b o n ta x r e v e n u e a s p e r c e n ta g e o g lo b a l G D P
450 ppm 550 ppm 650 ppm
Minicam 450 ppm 550 ppm 650 ppm 0 100 200 300 400 500 600 700 800 900 1000
2020 2040 2060 2100
C a r b o n p r ic e s U S $ /t C (2 0 0 0 ) 0 1 2 3 4 5 6 7 A n n u a l C a r b o n ta x r e v e n u e a s p e r c e n ta g o f g lo b a l G D P
Mitigation measures:
cap-and-trade, or carbon tax?
• Pollution pricing can be implemented in many ways
(carbon tax, cap-and-trade, hybrids), common objective
being to face emitters with a price reflecting the global
damage they cause
¾ Policies are equivalent if abatement costs are known and permit
rights sold (no grandfathering!)…with the additional revenue raised representing a source of benefit
¾ If abatement costs are uncertain, taxes may be preferred to
cap-and-trade (since getting emissions wrong over a short interval is not too costly)
• Political economy considerations often facilitate
introduction of carbon taxes, if proceeds are earmarked
(e.g. to supporting climate change related R&D; or
Mitigation measures: role of
subsidy reduction
In developing or emerging market countries, first
step is often a reduction in fossil fuel subsidies,
which are:
• Not an especially well-targeted way to help the poorest;
and
• Fiscally expensive
International dimensions of
cap-and-trade schemes
• International cap-and-trade leads to
cross-country flows, extent/direction of which depend
on how emission rights are allocated.
• Most schemes proposed so far would result in
OECD countries being net buyers of permits,
and Africa and India net sellers—but they differ
e.g. on whether China would be a buyer or a
seller
.
Promoting international cooperation
in mitigation
• Obstacles to cooperation:
¾ Diverging interests of fossil fuels exporters and importers
¾ Changing weight of countries in GHG emissions
¾ Free-rider problems
¾ Allocation of emission rights: efficiency vs. equity considerations
¾ Enforcement mechanisms
¾ What account to take of pre-existing fiscal regimes
• Options to encourage cooperation in mitigation:
¾ Adoption of minimum rates of carbon taxes
¾ Border tax adjustments (but consistency with WTO rules may be
an issue; trade risks; potential administration issues)
¾ Possible sectoral agreement
¾ Establish positive incentives for avoid deforestation
Some thoughts on adaptation
• Approaches to adaptation are country-specific
and largely a matter of national responsibility—
although there is scope and need for
international solidarity, especially vis a vis
vulnerable LICs
• Adaptation requires increased spending on
transport, water, sea defenses, agricultural R&D
and extension services, health systems
Some thoughts on adaptation
• Uncertainties and irreversibilities require difficult judgments on
time and extent of public interventions, especially given
competing demands on available fiscal space
• Climate change-related risks as part of broader contingent
liabilities management by governments
• Estimates of country-specific and global costs of adaptation
are scarce and vary widely. Much more work is needed,
including by relevant international organizations, in this area
• At a minimum, it is important to know how new public
investments can be climate-proofed, and the associated
country level costs
Role of IMF
• IMF is not an environmental organization. But, in collaboration
with those that are, it can exploit a comparative advantage in
macro, fiscal and financial aspects of environmental challenges
• Specifically, it can provide:
¾ Analysis and surveillance of macro-economically significant
effects, and international spillovers (such as from bio-fuels)
¾ Contributions to the wider debate on the economic impacts of
alternative fiscal responses
¾ Technical assistance on: energy and resource tax issues; design
and implementation of fiscal instruments for mitigation
¾ Financial support—the Exogenous Shocks Facility (currently
