The Macroeconomic Implications of Carbon Pricing Announcements: Evidence from the EU ETS (Job Market Paper) (Revise and resubmit European Economic Review)
This paper studies the effect of carbon pricing shocks on the macroeconomy using a high-frequency identification approach. Focusing on the European carbon market, I consider whether carbon policy announcements can be summarised by a single factor, or whether there are additional dimensions that need to be accounted for. By measuring the high-frequency surprise changes of a spectrum of EUA carbon futures around 145 regulatory events, I find that the events can be summarised by two factors rather than just one factor. A particular rotation of the orthogonal instruments is used to derive two novel instruments, namely, an “action” instrument, which captures changes to the current carbon policy rate, and an “expected path” instrument, which captures changes to the expectations about future carbon policy. I measure the effects of the two factors on a class of asset prices by estimating a daily local-projection model. This is complemented by estimating a Bayesian external instruments VAR model to map out the dynamic macroeconomic effects. I document that a tighter carbon policy successfully reduces emissions, although this is simultaneously met with significantly lower economic activity and higher prices that are persistent over the horizons. More importantly, the results indicate that the ”expected path” instrument dominates in its negative implications on macroeconomic aggregates, stressing the importance of capturing the additional dimension of carbon policy announcements, particularly from a policy perspective.
The Time-Evolving Impact of Climate and Macroeconomic Uncertainty (Submitted)
This paper utilises a time-varying Factor Augmented VAR model to construct a novel measure of climate uncertainty that is common to a set of fourteen advanced economies. This measure is used to investigate the evolving transmission of the shock on various macroeconomic and financial variables. Intending to highlight its policy relevance, I simultaneously construct and compare its impact to a measure of common macroeconomic and financial uncertainty shock. The findings have significant policy implications, showing that common climate uncertainty shocks lead to contractionary effects similar to those of macroeconomic and financial uncertainty shocks, while also causing substantial inflationary pressures. I document that the impact of both types of uncertainty shocks has systematically decreased over time, though at different rates. Initially, the negative effects of common macroeconomic and financial uncertainty shocks were more pronounced. However, towards the end of the sample period, the impact of common climate uncertainty shocks became more dominant, adversely affecting real activity and financial variables. This underscores the necessity of central banks to account for the transmission of climate uncertainty shocks on the macroeconomy.
Does Climate Change Matter for Monetary Policy? Investigating the Interaction between Climate Change Shocks and Price Dynamics (Submitted)
This paper proposes a novel identification scheme to define a climate change shock that captures the maximum contribution to the spectral density of both temperature and precipitation over a long-run frequency. Utilising a panel of 139 countries from 1960 to 2020, a panel VAR model with fixed effects is estimated to examine the impact of climate change shocks on price dynamics, a primary objective for monetary policy. The findings show that the identified climate change shock significantly and negatively impacts headline consumer prices, albeit by different magnitudes for countries of different income levels. Contextualising the transmission channels relevant in explaining this outcome, such as the sub-indices for inflation and demand side channels, including investment and consumption, we show that climate change shocks transmit lower consumer prices through the dominance of negative demand-side effects. Our findings highlight the necessity for central banks to integrate climate change considerations into their policy mandates due to the significant risks climate change poses to price stability.