Sobering projections

Macroeconomic impact of climate change will be big

Large parts of northern and central India are reeling from sweltering heat conditions. Given that social and economic costs associated with a warming planet are yet to fully materialise, there is a need for discussion on the macroeconomic ramifications of climate change. Attempts have been made in the past to accurately quantify the social cost of carbon (SCC) and the impact of climate change on gross domestic product (GDP), productivity, consumption, and investment spending. In this context, a recent working paper, “The Macroeconomic Impact of Climate Change: Global vs Local Temperature”, published by the National Bureau of Economic Research (NBER), raises grave concerns. It shows that the macroeconomic damages from climate change are around six times larger than previously thought. Unlike idiosyncratic spikes in local temperature, global temperature shocks have a much more pronounced impact on economic activity.

Earlier estimates suggested that a one degree Celsius increase in the average world temperature reduces global output by at least one-to-three per cent. This paper’s projections, however, can prove to be catastrophic, if they come true. By exploiting natural variability in global temperature, it shows that a 1 degree Celsius rise in the average global temperature could lower world GDP by 12 per cent at peak. According to the United Nations Environment Programme’s Emissions Gap Report 2023, the world mean temperature is set to rise by around three degrees Celsius above pre-industrial levels by the end of the century, even if countries fully implement their nationally determined contributions (NDCs). The drastic rise in temperatures will naturally lead to precipitous declines in output, capital and consumption. In this regard, the paper finds that a one-time transitory one degree Celsius rise in global mean temperature leads to a 2.5 per cent peak productivity decline and a peak rise of 30 basis points in the capital depreciation rate, both of which are likely to persist for nearly 10 years.

These changes reflect a 31 per cent welfare loss in permanent consumption equivalent in 2024, which will grow to nearly 52 per cent by 2100, implying that people may well be 50 per cent poorer by the end of the century than they would’ve been if it wasn’t for climate change. In the absence of the 0.75 degree Celsius observed increase in global mean temperature between 1960 and 2019, world per capita GDP would have been 37 per cent higher today. Additionally, the SCC is estimated at $1,056 per tonne of carbon dioxide (tCO2), almost seven times larger than the conventional SCC value of $151/tCO2. All this paints a grim picture of where the world is headed in the next few decades. Warmer countries like India will be more severely affected than colder countries in the north. In fact, around 150 countries lie in the tropical and subtropical zones, of which many are small island states that remain particularly vulnerable to rising sea levels. The repercussions of climate change inevitably intersect with the primary objectives of monetary and fiscal authorities, despite climate change mitigation not being their primary mandate. In this respect, rapid decarbonisation interventions remain the only way forward for all countries. However, given the elevated levels of public debt, it remains to be seen to what extent public investment can help attain decarbonisation.