APPLIED MICRO: Climate Policy, Financial Frictions, and Transition Risk; Professor Garth HEUTEL (Georgia State University)

Abstract

We study climate and macroprudential policies in an economy with financial frictions. Using a dynamic stochastic general equilibrium model featuring both a pollution market failure and a market failure in the financial sector, we explore transition risk - whether ambitious climate policy can lead to macroeconomic instability. It can, but the risk can be alleviated through macroprudential policies - taxes or subsidies on banks' assets. Then, we explore efficient climate and macroprudential policy in the long run and over business cycles. The presence of financial frictions affects the steady-state value and dynamic properties of the efficient carbon tax.

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