Speech

Speech by Mr. Takatoshi Kato
Deputy Managing Director of the International Monetary Fund
At the Fourth Tokyo International Conference on African Development (TICAD IV)
Yokohama, Japan, May 29, 2008

As Prepared for Delivery

1. Climate change is a potentially catastrophic global externality and one of the world's greatest collective action problems. Causes and effects of climate change are distributed highly unevenly across countries, with advanced countries accounting for most of the current stock of greenhouse gas emissions resulting from the burning of fossil fuels, and emerging and developing countries driving growth of emissions and expected to be hit earlier and harder by climate change. Estimates of future damages that may result from climate change are highly uncertain, but may be catastrophic if global warming is unchecked. The costs of abating climate change are also uncertain. They are contingent on a gamut of factors, including the rate at which individual countries and the global economy as a whole grow over the long term and the pace at which clean technologies emerge and diffuse across the world.

2. Climate change poses particularly serious macroeconomic, fiscal, and financial challenges for low-income countries. These countries are more vulnerable to climate change because most of them are located in already hot tropical regions and are more heavily reliant on climate-sensitive sectors, such as agriculture, forestry, and tourism. They also have a more limited capacity to adapt to climate change, given their lower income levels and weaker institutional frameworks. Africa is the continent that is most vulnerable to climate change. In the coming years, many African countries are likely to experience more severe droughts and declines in water supply, which would further aggravate food shortages on the continent, where 95 percent of population depend on agriculture for their livelihood. Health and water systems of African countries may also come under increased stress in the coming decades from more intense and possibly more frequent natural disasters. Coasts may be flooded, and populations may seek to migrate, raising the risk of social conflicts. According to some estimates, almost one billion people in Africa and Asia could experience shortages of water by 2080, more than nine million could fall victim to coastal floods, and many could face increased hunger.

3. Among the potential problems with global warming, the risks to world agriculture and therefore food supply stand out as one of the most important. Above a certain range of temperatures, warming tends to reduce yields. Recent estimates suggest the effects will be greater in countries located closer to the equator, with potentially large losses in Africa. In some of the poorest countries, the damage—when measured as a reduction in agricultural productivity—could reach devastating levels of greater than 50 percent.

4. Countries' efforts to adapt to climate change must fit in with their broad development agendas. Economic and social development is one of the most powerful ways to increase the capacity to adapt to climate change. Rising income levels can create the fiscal space needed to meet additional demands on public spending, both on climate-related public goods (such as weather forecasting and sea defenses) and to protect programs affected by climate change (including such major areas of public spending as transport, water and health systems). There may be opportunities for spending that is "pro-development" and that helps adapt to climate change at the same time—for example, on improved malaria control and prevention. Nonetheless, it is important to guard against the possibility that efforts to adapt to climate change would detract from wider developmental objectives. These issues have been discussed in a recent IMF research paper on the fiscal implications of climate change.

5. To enhance economic growth and improve capacity to deal with climate change, developing countries must remove impediments to domestic agricultural production. This is also important in light of the current food crisis. This means improving infrastructure and distribution and storage systems, increasing competition, expanding irrigation systems, and removing barriers to trade. At the same time, countries should avoid direct price and export controls, not least because they will likely discourage food production, running counter to the long-term goals countries should be pursuing.

6. Increased financial and capacity-building assistance is needed to support adaptation to climate change, particularly in the least developed and most climate-exposed countries. Funds have been created to this end, but remain modest. Progress on scaling up flows, for example, under the UN adaptation fund as part of the Bali Action Plan─ is therefore welcome. One of the challenges in this area is the considerable uncertainty surrounding estimates of adaptation costs for developing countries. While cost estimates are rudimentary and subject to uncertainty in the cases of individual countries, current collective estimates stand at several tens of billions of dollars per year. One World Bank study puts the costs of protecting existing investments from climate changes in developing countries at $10-40 billion per year, with perhaps a third of these costs expected to fall broadly on the public accounts.

7. On the mitigation of climate change, serious global efforts to reduce emissions of greenhouse gases that drive climate change could also have wide-ranging macroeconomic consequences. Reducing emissions of greenhouse gases requires putting a price on these emissions that reflects the global damage they cause. This would raise the costs of producing and consuming emission-intensive products. The IMF's April 2008 World Economic Outlook examines the macroeconomic effects of mitigation policies, including on productivity, saving and investment, capital flows, and exchange rates, illustrating some lessons for minimizing their costs. It finds that policies should be credible and result in appropriate pricing of emissions (whether through emissions taxes or cap-and-trade of emissions permits). Emissions taxes could provide an additional source of budget revenues, helping offset rising spending pressures on adaptation. The policies should also avoid excessive volatility in those prices, and provide incentives for broad participation, without putting undue burden on countries least able to bear it. Africa is not among the world's major emitters, of course, so that the main burden of emissions reduction must come from others. Nevertheless, the collective mitigation effort highlights again the need in many African countries to eliminate remaining fuel subsidies, something that is in any event desirable on both fiscal and distributional grounds.

8. Low-income countries, including in Africa, should be ready to engage in global efforts to mitigate climate change, which would provide new opportunities for them to put development on a more sustainable basis. The scope for mitigation in Africa itself is small relative to global emissions, but any post-Kyoto framework for mitigating climate change that may emerge in the course of international negotiations is likely to include mechanisms, similar to the current Clean Development Mechanism, which would allow advanced countries to gain credits for investment in low-carbon technologies and other forms of emission reductions in developing countries. Such mechanisms could help promote development by adding to the capital stock in these countries, while reducing local pollution. Taking full advantage of these opportunities would require renewed steps to strengthen business environments, including regulatory and institutional frameworks. If managed effectively, the engagement of low-income countries in global mitigation efforts could result in sizable financial transfers toward these countries in compensation for their undertaking emission reductions. Although there is considerable uncertainty about the magnitude of potential transfers, IMF staff analysis suggest that, under some scenarios, transfers could reach around 10 percent of GDP for African countries. If foreign exchange inflows prove to be large, recipient countries would need to consider how best to accommodate them in their macroeconomic frameworks, with a view to avoiding the potential pitfall of losing competitiveness through Dutch disease.

9. The Fund is committed to continue to contribute to understanding and dealing with the macroeconomic, fiscal and financial challenges from climate change, including in Africa. Drawing on the environmental and sectoral expertise of the World Bank and others, the Fund advises members on macroeconomically relevant aspects of climate change, where these are significant, through its bilateral surveillance and technical assistance work, including through regional TA centers. We have three of these centers in Africa (AFRITACs), and we are working to establish two additional centers. The Fund aims also to increase understanding of the difficult issues of fiscal policy cooperation and design, which are likely to arise in negotiating a successor agreement to the Kyoto Protocol. Such activities are likely to be mainly demand-driven, focused on countries where the impact of climate change on their domestic and external stability is significant, and facilitate the exchange of country experiences.

10. The IMF stands ready to provide financial assistance to member countries in response to a range of macroeconomic disturbances, including natural disasters, for example, through the exogenous shock facility (ESF) that provides policy support and financial assistance to low-income countries. The Fund staff are currently reviewing the ESF facility to be able to respond more flexibly to the needs of our members, including in response to the recent rapid increases in energy and food prices. We recognize that climate change is a long-term process, and while the incidence and severity of weather-related macroeconomic shocks is likely to increase as a result of climate change, much uncertainty remains. As events unfold in the years ahead, the Fund itself will have to adapt how it helps member countries respond to challenges such as global warming.

11. In sum, the IMF is committed to playing its part to help deepen our understanding and deal with the complex challenges posed by climate change, in close cooperation with its members and other international organizations.