Investment incentive reduced by climate damages can be restored by optimal policy

Sven N Willner,Anders Levermann,Nicole Glanemann

doi:10.1038/s41467-021-23547-5

Sven N Willner, Anders Levermann + Show 1 more

Open Access

https://doi.org/10.1038/s41467-021-23547-5

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Abstract

Increasing greenhouse gas emissions are likely to impact not only natural systems but economies worldwide. If these impacts alter future economic development, the financial losses will be significantly higher than the mere direct damages. So far, potentially aggravating investment responses were considered negligible. Here we consistently incorporate an empirically derived temperature-growth relation into the simple integrated assessment model DICE. In this framework we show that, if in the next eight decades varying temperatures impact economic growth as has been observed in the past three decades, income is reduced by ~ 20% compared to an economy unaffected by climate change. Hereof ~ 40% are losses due to growth effects of which ~ 50% result from reduced incentive to invest. This additional income loss arises from a reduced incentive for future investment in anticipation of a reduced return and not from an explicit climate protection policy. Under economically optimal climate-change mitigation, however, optimal investment would only be reduced marginally as mitigation efforts keep returns high.

Highlights

Background information on the social preferencesThe preferences as displayed in Figs. 5 and 6 are represented by the initial rate of social time preference and the elasticity of the marginal utility of consumption
DICE is based on a neoclassical growth model[22,23,24], which computes economic growth effects caused by changes in investment
We develop an iterative process in DICE-2013R to find a productivity loss function that, taken together with the endogenously derived optimal investment response, reproduces the projected growth impacts in the absence of climate policy (Fig. 2; see Methods for more detailed information)

Summary

Introduction

Background information on the social preferencesThe preferences as displayed in Figs. 5 and 6 are represented by the initial rate of social time preference and the elasticity of the marginal utility of consumption. Ρ relates to impatience in consumption: a higher initial rate of social time preference gives more emphasis to present rather than to future utility. In such a case, society is inclined to consume more today and to invest less for future consumption possibilities. The elasticity of the marginal utility of consumption θ, θ ≥ 0, determines the gain in utility due to additional consumption, irrespective of the timing of its appearance. It enters the utility function as (

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Conclusion