Monetary Policymaking under Climate Uncertainty

Zeynep Kantur () and Gülserim Özcan

Business and Economics Research Journal, 2022, vol. 13, issue 4, 579-591

Abstract: The most effective policy to prevent climate change is the decarbonization of the production process. Decarbonization, which should be planned and not delayed, will cause some assets to become idle or stranded, either entirely or partially. Therefore, the transition to a low-carbon economy results in sudden and unexpected fluctuations in asset prices. These shocks will affect the relevant sector and all production sectors with a domino effect and deteriorate financial stability. To the extent that these shocks are predictable, policymakers can prepare for the repercussions of green financial transformation. However, the tools needed to pre-measure them are new and dependent on many economic variables. Therefore, policymakers need a road map to act under this uncertainty. This paper theoretically provides insights into central banks’ role/engagement under climate change ambiguity. The paper shows that the less the central bank trusts its policy model, the higher the sensitivities of inflation, output-gap, and asset price-gap to climate-related shocks. Hence, an aggressive response of monetary policy is required in the face of uncertainty.

Keywords: Climate Change; Monetary Policy; Financial Stability; New Keynesian Model; Knightian Uncertainty; DSGE Model (search for similar items in EconPapers)
JEL-codes: D81 E37 E58 Q54 (search for similar items in EconPapers)
Date: 2022
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Persistent link: https://EconPapers.repec.org/RePEc:ris:buecrj:0612

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