Macroeconomic implications of climate change: challenges, methodologies and latest findings
Francesco Bosello
Euro-Mediterranean Center on Climate Change, Lecce & University of Milan, Milan, Italy
Since the first IPCC report climate sciences produced great advancements in our understanding of the physics of climate and an improved knowledge of many environmental impacts associated. This seems not to apply to the macroeconomic assessment of climate change. In fact, determining the impact of climate change on the economic performances of the global economic system, countries and regions remains one of the more challenging and controversial issues within the economic discipline.
First of all, the economic evaluation results problematic, simply because it typically intervenes at the end of a complex chain of causes and effects starting from climate stressors, triggering environmental changes and ending into social economic reactions. This per se induces an amplification of uncertainty sources that reaches its maximum when the economic assessment has to be performed.
But macro social-economic assessments of climate change impacts are concerned also by specific difficulties. The major are: the need to aggregate welfare impacts across individuals and groups, due to the super national, and global dimensions of climate change; the need to aggregate welfare impacts across time, due to the long-term nature of climate change; the need to evaluate impacts on goods and services, like those provided by ecosystem and biodiversity, which often are not subjected to market transactions and accordingly are not backed by a “price” that can be used as a support for the evaluation.
The main issue here is not the impossibility to get to an evaluation. In fact, consolidated techniques are available to cope with each of these problems. Rather, it is related the subjectivity inherently associated to the application of those techniques. Respect to this, the debate on the use of appropriate equity weighting, discount rates and of revealed and stated preference methods continues unsettled. All this is reflected also in the contribution of working group II of the IPCC in the last IPCC report (IPCC 2014) showing, once again, how much these subjective assumptions can bias the evaluation of the cost of policy inaction.
This said, two broad approaches are used to provide these macro-economic assessments. The first is based on the use of integrated assessment models IAMs, the second on econometric techniques. IAMs aim to represent as comprehensively as possible the interactions between climate, environmental and social economic systems Two approaches to integration are available. In the first (hard link), the causal chain from climate drivers to the socio-economic impacts is described by linking simplified climate and economic modules in the same mathematical structure. In the second (soft link), climate, process-based, and macroeconomic models are chained sequentially in an output-input-output flow. The two methodologies are very different, however they produce results roughly comparable. Summarizing: damages are increasing in temperature with usually a quadratic trend; for temperature increases below 2 °C, the net loss at the world level is moderate (reaching at the maximum the 2% of GDP) or even slightly negative. It becomes unambiguously negative for higher temperature levels. However, the range of estimates remains large, spanning from the 5% to the 20% of GDP.
IAMs have been heavily criticized. Different authors point in turn against the weak empirical foundation of models damage functions, the incomplete representation of potentially large climate induced social impacts such as conflicts and migration, of non-market impacts such changes in human health and biodiversity losses, unrealistic representation of adaptation dynamics (Patt et al. 2011, Pindick 2013, Stern 2016, Burke et al. 2016). Notwithstanding all these criticisms, IAM conveyed enough information to highlight the main economic channels through which climate change operates and to advocate substantive mitigation policies especially in the light of the potential irreversibility linked to climate processes.
Differently, econometric approaches analyze historical data to identify and estimate the relationship between impact endpoint indicators and observed changes in climate or weather. These econometrically estimated relationships can then be combined with future projections of climate variables from climate models to evaluate the potential economic implications of future climatic conditions. This literature witnessed a real boom in the last years (for a survey see Carleton et al 2016) spurred by the increasing availability of climate data and of high resolution social economic data. The “traditional” investigations of the relation between climate change and agriculture or energy demand, have been flanked by analysis of climate change determinants on health and labour productivity, migration, conflict and GDP.
Econometric estimates of macroeconomic impact of climate change agree with IAMs on their uneven distribution and non-linear pattern. However actual estimates point to much greater impacts (see as an example the roughly 20% of global GDP loss by Burke et al (2015) also for the “low” temperature increase of 2°C). Being based on historical records, econometric models may capture more realistically the role of adaptation, and of major climate shocks that economic models and IAMs.
This said, IAMs remain unavoidable tools to describe in an explicit way the processes leading to economic losses and the reactions of economic systems. This paves the way to a spurred integration between methodologies where latest findings from econometric research could be used (a) to improve the climate change damage functions of hard linked IAMs and (b) better account for market frictions in soft linked IAMs.