Towards Green Growth, Impact of Climate Change on Economy

Context

• The Reserve Bank of India’s (RBI) latest Monetary Policy Report (April Bulletin) identified climate change as a major threat to economic stability.
• Extreme weather events and climate shocks are influencing economic variables like food inflation and the natural rate of interest.
• A New-Keynesian model incorporating a “physical climate risk damage function” is employed to estimate the potential economic impacts of climate change against a scenario without climate change.

Impact of Climate Change on Monetary Policy

• Economic Forecast: The report predicted that, in the absence of climate mitigation strategies, the long-term economic output could decrease by about 9% by 2050.
• Inflation Concerns: There is a risk of inflation hysteresis becoming entrenched, which could destabilise inflation expectations, damage the RBI’s credibility, and necessitate higher interest rates, further reducing economic output.
• Shift Towards Green Economy: The RBI acknowledged the need for a transition to a green economy. It mentions India’s requirement of over $17 trillion to achieve net zero emissions by 2070.

Positive Steps

• Since a July 2022 discussion paper on ‘climate risk and sustainable finance’, the RBI has been progressively focusing on integrating climate considerations into its financial policies.
• The RBI has already issued ₹16,000 crore worth of Sovereign Green Bonds and has opened avenues for Foreign Institutional Investors in green government securities.

Learning from Others

• European Central Bank (ECB): The ECB’s green taxonomy for the Eurozone is cited as an example for India to consider. This framework has developed a green taxonomy to evaluate the sustainability of activities in the economic value chain.
• ASEAN Green Taxonomy: The report suggested that India should learn from the developing world, particularly ASEAN’s approach of a layered and evolving green taxonomy where an evolving green taxonomy continuously incorporates new insights from various sectors to guide sustainable development.

Recommended Actions

• Quantitative Assessment: The RBI needs to thoroughly assess the quantitative and qualitative impact of climate change on economic and financial stability.
• Green Taxonomy Development: The RBI is encouraged to develop a layered, dynamic green taxonomy that reflects India’s unique developmental challenges and trajectories.
• Administrative Consultation: The report encouraged administrative consultation to populate the green taxonomy.
• Mitigation: Mitigate the risks to the financial system as India transitions towards a sustainable future.

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