Transcript of a Press Briefing by Takatoshi Kato, Deputy Managing Director, on the Macroeconomic and Fiscal Challenges of Climate Change with Charles Collyns, Deputy Director, Research Department, and Michael Keen, Advisor, Fiscal Affairs Department

December 6, 2007

with Charles Collyns, Deputy Director, Research Department, and Michael Keen, Advisor, Fiscal Affairs Department
Washington, D.C.
Wednesday, December 5, 2007

MR. KATO: On December 11, I will attend the meeting of Finance Ministers in Bali, and then I will take part in a high level segment of the Bali Conference on December 14. On those two occasions I will make brief interventions and my addresses at those events will be subsequently released on the web.

Now let me start by discussing the IMF's perspective on the main economic challenges that are caused by long-term climate degradation and potentially frequent extreme weather events. Those challenges are many and complex; let me cite some elements.

First, there will be direct negative impacts on output and productivity in many countries. Second, the achievement of development goals may be jeopardized by deteriorating fiscal positions as a result of weakening traditional tax bases and increased expenditure on some aspects of mitigation and adaptation.

However, on the other hand, there may also be potential revenue opportunities from efficient carbon pricing schemes. And thirdly, there will be private economic costs arising from efforts to mitigate carbon emissions, for example, as a result of higher energy prices and increased investment requirements. And fourthly, there may be balance of payments problems in some countries owing to reduced exports of goods and services, such as agricultural products, fish and tourism and perhaps from the increased need for food and other essential imports. Also, I think there might exist a range of contingent risks to social and economic stability as a result of climate changes.

Now against these various and numerous economic challenges that can be potentially caused by long-term climate changes, we, at the IMF, are ready to play our part. The IMF will work in close conjunction with the World Bank and relevant agencies to contribute to the analysis of the macroeconomic implications of climate change and the spillover effects of national polices on greenhouse gas emissions.

Most specifically the IMF can provide advice through its bilateral and multilateral analysis and monitoring. One advantage of the IMF is its membership is global. The IMF's membership includes most developed and emerging as well as low income countries. So on the basis of a very universal membership we can provide bilateral and multilateral analysis and monitoring. And also, we can provide advice through our technical assistance on appropriate fiscal and other macroeconomic policies to mitigate climate changes and adapt to its consequences.

For example, we have been active in the design of relevant tax measures and other fiscal measures. In addition, the Fund can provide financial assistance to member countries in response to a range of macroeconomic disturbances including natural disasters, for example, through our Exogenous Shocks Facility for low income countries.

As you are aware, there was appendix to Chapter 1 in the last WEO, which covered fairly extensively economic impact of climate change. We are now preparing additional research on the implications of climate change for the global economy, which will be published in the next Spring WEO, World Economic Outlook. This research will analyze in greater depth the macroeconomic implications of climate change and the policy response to it, both in terms of mitigation and adaptation.

And also, I think the IMF Executive Board will discuss possibly early next year the fiscal implications of climate change. Those are in concrete terms our contribution to the process in the immediate months ahead. And with that, I think we are here to respond to any questions or comments that you might have.

QUESTIONER: You spoke about a lot of countries earning carbon credits and actually making some money out of the fact that they have tropical forests from these carbon funds. Most of these are emerging markets, you've got Indonesia and Africa as well.

What would you suggest that they would do with the money that they earned from those carbon funds? I mean should it be perhaps something like what oil rich countries have been doing is actually saving the money, the funds for the future. What would you say that they should be doing with that money?

MR. KEEN: I think perhaps I would just say, you are right, we are talking about developing and emerging markets. But we are also talking about the developed countries as well, where proper carbon pricing schemes, whether in the form of taxation or in the form of tradable permits for which a price was charged, would have revenue implications.

What one does with the revenues clearly has to be very country specific in terms of their own development priorities. What they see is where they see opportunities to strengthen other parts of their tax system. So it's really very country specific. I don't think we have a general one-size-fits-all recommendation on that.

MR. COLLYNS: From a macroeconomic perspective, the potential flows from payments for carbon credits could have macroeconomic implications. That is one of the things we're going to be looking at in our chapter in our World Economic Outlook. The balance of payments implications, the exchange rate implications. One thing to be cautious about is that these revenues are well used, well directed into efficient local spending. But indeed, it's quite possible that the best use for some of these funds will be to save them to avoid a "Dutch disease" type of problem. If you ramp up spending too quickly, it could lead to a loss of competitiveness in other parts of the economy which could have negative long term implications. So I think it is important to look at the temporal aspects of these issues when choosing how to use these funds.

MR. KATO: It is very country specific. It depends upon the source of monetary credit that country might earn. And certainly if that is an important issue, that will be taken up in context of the Article IV consultation surveillance.

QUESTIONER: Could I just have a follow up as well? Currently are there countries, I mean do you think in your view the countries are already preparing for the effects of climate change and also putting aside enough money for mitigation of what the effects are going to be of climate change?

MR. KATO: That also depends. For example, on the part of island countries in the Pacific or Indian Ocean, the country authorities are very aware of the issues involved and we have started to discuss with the authorities about adaptation or mitigation measures and their fiscal impact.

MR. COLLYNS: If I could add to that, I think countries are beginning to prepare as people become very aware of the problems created by climate change. The most obvious way in which you see this is through the impact of natural disasters which can cause very heavy local costs leading to adaptation developments, and innovations in the financial markets to try to insure against the increased frequency of natural disasters.

We also see changes in agriculture and elsewhere as people begin to anticipate change. But probably the response so far is relatively muted because we have not yet had an efficient and credible framework for carbon pricing. Until people, investors face a path for prices, which represents the true cost of their carbon emissions there won't be a full response to that. That's why it's important to move ahead with a successor to the Kyoto Protocol to establish carbon prices, not just in the near term but also for the longer term.

QUESTIONER: If a carbon pricing scheme were implemented, economies would have to take some amount of time to adjust. Does the IMF have a position on how quickly carbon pricing schemes can be implemented safely?

MR. KATO: It will be discussed in context of the Bali Conference and there are various views on carbon issues. We are in the process, sort of digesting the issues and we are looking into the issue.

MR. KEEN:: Maybe also just to add that, a key aspect in a way of implementation is the credibility of the path of carbon price over the future. Really building on one of the points Charles was making, that sending the signal really is a matter of having a credible commitment over a number of years that people can base their long term investment decisions on.

So I think it's the credibility issue that is probably more challenging than implementation in a technical sense.

MR. COLLYNS: You can start off with a situation in which carbon taxes are relatively low, but provided that there is high credibility that those carbon prices will rise over time, then people will respond to the changing incentives.

QUESTIONER: Does the Fund have any sort of idea or comment or view on what the next post-Kyoto should look like?

MR. KATO: I hope I can point that back to you after my trip to Bali.

QUESTIONER: And you haven't had any input into that?

MR. KATO: Not directly.

QUESTIONER: With regard to bilateral analysis, do you have any plans to analyze or do you have any specific countries which you try to analyze such U.S. or China?

MR. KATO: The first aspect is how the international discussion on the post-Kyoto framework will go and also upon the new shape of agreement-- its potential fiscal or economic size or its extent of commitment to a certain degree. If the issue is relevant in terms of our bilateral consultation, we certainly will discuss that with authorities in the medium term framework.

MR. COLLYNS: I think the direct impact of climate change will be felt most severely on the lower income countries, particularly countries in Africa, South Asia, and Pacific Island countries. And our country teams are already beginning to look at that impact and measures to reduce that impact.

I know, for example, that there's a project going on in the Pacific Island teams to look at exactly that. So that's one aspect. But another aspect, perhaps a broader aspect, is mitigation strategy. Once you decide that you need to do something to prevent carbon emissions from accumulating, then clearly you need to look at the responses of the very large carbon emitters, for example, in the advanced countries but also the larger emerging market countries and to try to assess how those countries would respond to changes in incentives. Potential changes can be quite large. For example, one of these we looked at in the recent WEO is the impact of the policies in the United States and Europe to encourage the use of biofuels. And that has really had quite substantial impact on food prices around the world. There are big spillovers from what is being done in the U.S. and Europe to the rest of the world economy, which are important from a macroeconomic perspective. So again, we're looking at those aspects quite carefully too.

QUESTIONER: I'm kind of interested to hear, I mean, this is a whole new way that the Fund is going to work. Five years ago I bet you weren't even thinking of talking to countries bilaterally of climate change. And the question is how the Fund adapting to it. I mean you're talking about doing analysis and so on. But in some ways it's still quite far ahead, the whole climate change thing.

People in Africa already, President of Mozambique recently was complaining about the floods and so on. Do you feel that you need to within the next year form some sort of guidelines on where this going? Is there a timeline for it?

MR. KATO: We don't have any specific timeline, but as I said in the beginning, I think early next year there will be a Board discussion on fiscal implication of climate change and there I guess we will explore the various avenues. So as you mentioned, I made a trip to Africa and there exactly the same complaint I heard from African stakeholders and small island countries are clearly aware of the issue. So the climate change issue is becoming an issue not only for intellectual engagement but also it is becoming a policy issue.

I think it needs to be looked into and addressed. And in addition, what is expected of the Fund from the international community is an analytical contribution and examination of its impact on the global economy--data analysis involving output and I think on exchange rate and on the balance of payments. For the area of design of how to address the issues of fiscal instruments, Fiscal Affairs at the Fund has been expected to provide that advice.

QUESTIONER: Do you have any sort of idea, really if there is an impact to the global economy from climate change?

MR. COLLYNS: It certainly will have an impact.

QUESTIONER: But already?

MR. COLLYNS: Already the impact is probably felt more in the increasing incident of catastrophic events, which does have effects on the financial markets. As you mentioned earlier there are already developing carbon markets, which are having balance of payments implications. And we see developments like biofuels, which are having quite substantial impacts, which are related to the implications of climate change. When you start moving into a post-Kyoto environment and if there is success in setting up a major new system of carbon pricing, that is credible, that will lead to quite substantial response in the private sector, changing saving and investment behavior, with macroeconomic implications in terms of impact on the external accounts, impact on exchange rates. It is those that we are now beginning to look at with a view to having something to say on those issues in our World Economic Outlook in the spring.

That's an area where people really haven't looked at much up until now.

MR. KEEN: Just to add a little bit more context, five years ago I don't think anyone was really looking that much at climate change, but I think it's true that a number of these issues have been raised in some country dialogs already. For example, when we talk about insurance mechanisms the Fund has been active for quite awhile in its country dialog on these kinds of issues.

Of course, one large aspect of the problem is the issue is proper energy pricing, and that of course has been a key Fund concern for many years. So I think this is far from being a new area for us. It's a sort of additional part of the context and it in some sense lends more urgency to a number of the things the Fund has been saying about energy pricing for many years now in many countries.

QUESTIONER: I was thinking about the criticism that has been directed at the IMF in past years about how programs became unfocused and concerned about issues that weren't macroeconomic issues and I know environmental conditions and programs were one example people always brought up. So I'm wondering how do you limit your focus on environmental, the macroeconomic effects but at the same time have much impact when so much of the climate change issue has to do with very specific sorts of policies like energy tax? I'm wondering how do you walk that line?

MR. KATO: Well, in the Medium Term Strategy context, I think the Fund's surveillance is expected to be well focused on the areas of the Fund's core competencies. But for example, this energy pricing is an issue we actually provide advice in the time of surveillance discussion with respect to many emerging market or low income countries. Also, how to raise fiscal revenue is another issue for us. The impact on mitigation and adaptation, fiscal expenditure, and how significant they are. It's a cost benefit. There are many aspects the Fund should play in addressing these issues.

MR. KEEN: Just maybe to add also, of course, we draw a lot on the expertise of the World Bank and other organizations that have the environmental expertise. So you are quite right. We don't claim to be experts on many of the detailed sectoral issues, but we need to draw on the work of the Bank and other to get a sense, for example, of what the overall fiscal implications might be, at what point they rise to the sort of macro-relevance that we've been concerned with.

MR. KATO: Thank you very much.


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