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Estimating the impact of climate change on GDP

Authored by Kieran Davies, Chief Macro Strategist, Coolabah Capital Investments.

Governments have made progress in measuring the economic impact of climate change to date, but there are still large gaps in coverage. There is a growing, but still limited, number of studies that have modelled the potential future impact of climate change – usually proxied by a rising global temperature – on world GDP over the very long term. These estimates are relatively modest because cold/temperate countries – which are mostly advanced economies – are thought to be less affected by rising temperatures, partly offsetting the larger negative impact on hotter countries – which are mainly emerging markets with large agricultural sectors. A larger estimate of the impact of climate change depends on assuming that hotter weather has a non-linear (but realistic) negative impact on productivity and/or affects economic growth as well as the level of output. Estimates of the impact on wealth are more uncertain because they are highly sensitive to the choice of discount rate, and there is no obvious consensus on the matter.

In addition to questions over how models are specified, the overarching uncertainty relates to how well they can reflect the economic impact of an unprecedented increase in world temperatures based on recent history, particularly when some aspects of climate change are likely irreversible and/or hard to limit, such as higher sea levels, the destruction of habitats, and more frequent and larger natural disasters. Hotter temperatures should also have other important economic effects, placing upward pressure on food prices, leading to increased poverty and inequality, while triggering large population shifts, where climate change will join war and economic opportunity in driving substantial flows of refugees.

An alternative to focusing solely on the potential impact of climate change on GDP is to stress the importance of decisive policy action as insurance against the low-probability scenario of a substantial increase in global temperature that would have disastrous economic and social effects. After all, the balance of risks regarding the outlook is skewed to worse outcomes given it is easy to imagine a scenario where governments worldwide fail to take timely action to address climate change.

Download our full research report on estimating the impact of climate change on GDP here.

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