## Climate Policies and External Adjustment

_IMF Working Papers, July 26, 2024_

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## Bibliographic details
- Authors: Rudolfs Bems, Luciana Juvenal, Weifeng Liu, Warwick J. McKibbin
- Published: July 26, 2024
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9798400283116.001

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### Overview
- Assesses the economic effects of climate policies on different regions and countries with a focus on external adjustment.
- Emphasizes differences in external balance impacts across policy types and country characteristics.
- Notes dependence of outcomes on international policy coordination and credibility.

### Key findings
- Various climate policies could have substantially different impacts on external balances over the next decade.
- A credible and globally coordinated carbon tax would:
  - Decrease current account balances in greener advanced economies.
  - Increase current accounts in more fossil-fuel-dependent regions.
  - Reflect a disproportionate decline in investment for fossil-fuel-dependent regions.
- Green supply-side policies (green subsidy and infrastructure investment) would:
  - Increase investment and saving.
  - Have a more muted external sector impact because of the constrained pace of expansion for renewables or the symmetry of the infrastructure boost.
- Country characteristics ultimately determine current account responses, notably:
  - Initial carbon intensity.
  - Net fossil fuel exports.
- For the global economy, a coordinated climate change mitigation policy package would shift capital towards advanced economies.
- Global interest rates would:
  - Rise initially.
  - Fall over time with increases in the carbon tax.
- These external sector effects depend crucially on the degree of international policy coordination and credibility.

### Mechanisms and channels
- Carbon tax channel:
  - Alters relative returns across sectors and regions.
  - Drives differential investment responses, especially reducing investment in fossil-fuel-dependent regions.
- Green supply-side channel:
  - Directly increases investment and saving via subsidies and infrastructure spending.
  - External impact muted by physical constraints on renewable expansion and symmetric infrastructure effects.
- Country heterogeneity channel:
  - Initial carbon intensity and net fuel export status condition the magnitude and sign of current account responses.
- International capital flows:
  - Coordinated mitigation shifts capital towards advanced economies.

### Policy implications and recommendations
- International coordination and credibility are central to the external sector outcomes of climate policy.
- Policymakers should consider country-specific characteristics (initial carbon intensity, net fossil fuel exports) when designing mitigation packages to anticipate external adjustment needs.
- Green supply-side measures can boost investment and saving but may not produce large external balance effects in the near term due to implementation and physical constraints.
- Carbon pricing implemented credibly and globally will redistribute external balances across regions and influence global interest rates over time.

*Climate Policies and External Adjustment, IMF Working Paper No. 2024/162*

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_Source: https://www.imf.org/en/publications/wp/issues/2024/07/26/climate-policies-and-external-adjustment-552075_