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Why Climate Policy Is Macro Policy

Power of Ideas
Why Climate Policy Is Macro Policy

The impacts of climate change on our planet’s finely tuned ecosystems are escalating. Extreme climatic events are multiplying, sea levels are rising, and polar ice loss is accelerating. What had been biblical is now commonplace.

Whether addressed or ignored, climate change is now macro critical. The conduct of climate policy will directly impact the efficacy of fiscal and monetary policies, and its interactions with the financial system will heavily influence the pace of job and wealth creation. Depending on the path we choose, we can either secure or forfeit a decade of economic growth.

The transition to net zero is a huge investment opportunity, but it will also be inflationary. Coordination across a range of monetary, fiscal, and climate policy tools will maximize returns and minimize costs.

Whether addressed or ignored, climate change is now macro critical.

Creating a Virtuous Circle for Decarbonization

Climate policy has become the third pillar of macro policy. As with monetary and fiscal policies, climate policy must be credible and predictable to be most effective.

The foundations for climate policy were laid at the 2021 United Nations Climate Change Conference (COP26) last November, where the proportion of global emissions covered by country net-zero targets rose from less than one-third two years ago to almost 90 percent. Net zero is now the organizing principle for over 7,000 of the world’s largest companies.

Governments now need to back ambition with policy action. The more credible and predictable government climate policies are, the more investors will pour in money in anticipation, creating a virtuous circle of large-scale investment, faster decarbonization, more jobs, and faster growth.

Driving Meaningful Change through the Financial System

The ability to create this virtuous circle has been greatly enhanced by progress in creating a system to finance the net-zero transition. COP26 delivered 24 major reforms to transform the information, tools, and markets at the heart of finance. These include measures to ensure clear, comparable, and decision-useful climate disclosures so markets can manage risks and seize transition opportunities.

For example, the IFRS Foundation’s new International Sustainability Standards Board will soon produce a climate disclosure standard that gives investors in over 130 countries access to the data they need. Similarly, the Securities and Exchange Commission’s current consultation on a US climate disclosure standard responds to the overwhelming demands of investors in US capital markets.

Investors increasingly recognize that addressing climate change is one of the greatest commercial opportunities of our time. That’s one reason why, as part of the Glasgow Financial Alliance for Net Zero, over 450 financial institutions from 45 countries are committing to manage their balance sheets totaling over $130 trillion in line with a 1.5° net-zero transition.

Investing in the Transition to Net Zero

The net-zero transition represents a multi-decade investment boom. Although estimates vary, they are all enormous.

To be clear, the transition doesn’t mean flipping a green switch or investing only in companies that are already green. Financial institutions must go where the emissions are and back companies—including in heavy emitting sectors like steel, cement, and transportation—that have credible plans to transform their businesses for a net-zero world. They will also finance traditional energy projects consistent with the climate transition, including helping phase out stranded assets transparently and responsibly through clear frameworks.

Bringing the Future to the Present

While fundamentally positive, the net-zero transition will put upward pressure on inflation because it is a supply shock that will affect virtually every sector of our economies. But this can be a controlled disruption. If climate policy actions are anticipated, they can be more modest, bringing forward investment, smoothing the transition, and lowering inflationary impacts.

High and volatile inflation at least can be vanquished. It need not be a permanent condition. The same cannot be said of climate change. The world is on course to exhaust our entire 1.5° carbon budget this decade. Caught in a timidity trap, we are still pursuing half measures, dithering our way towards climate disaster.

There is still time to recognize that climate change is macro critical, that climate policy is the third pillar of macro policy, and that through credible policy coordination we can catalyze enormous private investment to create jobs, accelerate growth, smooth inflation, and promote energy security.

Like the rate of inflation, the degree of climate change is a choice—one that affects the prosperity and welfare of all.

But the window for that choice is closing rapidly.

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