A new report from the International Monetary Fund (IMF) warns that the path towards the climate transition will be expensive, possibly raising public debt by 45 percent to 50 percent of gross GDP by 2050.
“Many countries are facing high debt, rising interest rates, and weaker growth prospects. Debt-to-GDP ratios are projected to rise by 1 percentage point a year globally during 2023−28, faster than foreseen before the pandemic. These headwinds complicate efforts to tackle climate change,” wrote the authors in the executive summary.
1. “Policy trilemma”
IMF’s study points to a “policy trilemma” between reaching climate targets, fiscal sustainability, and political feasibility. “In other words, pursuing any two of these objectives comes at the cost of partially sacrificing the third,” reads the report titled “Climate Crossroads: Fiscal Policies in a Warming World”.
The IMF #FiscalMonitor shows that countries face a policy trilemma that will require a balance between climate goals, debt sustainability, and political feasibility. Read our new research: https://t.co/ljdRVsZR4C pic.twitter.com/OF0iRXmIbA— IMF (@IMFNews) October 4, 2023
However, the major financial agency proposes a few solutions to manage the trilemma, based on fiscal balancing with the right mix of policies. “Governments must take bold, swift, and coordinated action, and find the optimal mix of both revenue-and spending-based mitigation measures,” it adds.
Many countries are currently pursuing policies to reduce emissions in line with the Paris Agreement. Several rely heavily on spending measures, such as increasing public investment and subsidies for renewable energy, decarbonization actions that the IMF welcomes. Yet, the financial institution warns that in some cases these policies entail large fiscal costs. In some cases, it can bring about discord, as it’s happening in Poland, which has recently filed a lawsuit against key EU climate policies.
2. Carbon pricing
The IMF hails carbon pricing as a positive driver to reduce emissions but said that alone is not enough and “should be complemented by other mitigation instruments to address market failures and promote innovation and deployment of low-carbon technologies.” Countries like Chile, Singapore and Sweden have been portrayed as “successful experiences” of nations overcoming political hurdles associated to carbon pricing.
“Insights from their experience stand to benefit not only the nearly 50 advanced and emerging market economies with carbon pricing schemes already in place but also the more than 20 countries contemplating their introduction,” suggests the report.
3. Private firms to chip in
One solution to the global climate transition fiscal problem, the IMF suggests, is to have the private sector “fulfilling the bulk of the climate financing needs”. Based on the IMF’s Fiscal Monitor, both Germany and the United States revealed that firms were resilient to the 2022 energy price spikes, with limited impact on firms’ production and employment, and in many cases, firms adjusted by reducing energy use and investing in energy efficiency.
“Governments should harness the momentum of recent announcements such as the Nairobi Declaration and the participation of the African Union in the Group of Twenty to push forward a practical global deal on an international carbon price floor and support developing countries,” states the report, urging developed economies to engage on shared responsibility.