Reporters note: Climate change should be front and center at Jackson Hole Economic Forum
By Elyse Schupak, policy advocate with Public Citizen’s Climate Program
Overview
The purpose of this note is to provide reporters with information on the relevance of the climate crisis and continued dependence on fossil fuels to The Federal Reserve’s Jackson Hole Economic Policy Symposium, “Reassessing the Effectiveness and Transmission of Monetary Policy.”
The forum at Jackson Hole is one of the highest profile events the Fed hosts, bringing together economists, academics, policymakers, and financial market participants. Thus far the Fed has neglected to devote attention at the event to climate-related financial risks, despite the threat these risks pose to U.S. economic health and financial stability.
Climate change and continued fossil fuel dependence is already having significant economic impacts. Going forward, climate impacts will make the Fed’s mandate harder to achieve, limit the effectiveness of monetary policy tools, and impair the transmission of monetary policy through numerous channels. Fed officials and other Jackson Hole participants will be remiss if they fail to integrate the economic realities of the climate crisis into the conference’s focus on monetary policy effectiveness and transmission.
Climate change will make the Fed’s mandate harder to achieve.
The Fed has a dual mandate of price stability and maximum employment. Climate change will make both of these objectives harder to achieve. Climate-related events, such as hurricanes, heatwaves, and wildfires, damage infrastructure, compromise the availability of critical natural resources such as water, and otherwise disrupt supply chains, putting upward pressure on prices. As acute climate disasters become more frequent and severe, and as chronic climate effects such as sea level rise increasingly materialize, these economic impacts are expected to worsen. Increased average temperatures and changes in precipitation patterns, for example, are likely to create price volatility across numerous sectors of the economy, including above-target food price inflation over the next decade. In congressional testimony in March, Chair Powell cited price increases in insurance, largely driven by climate disasters, as a significant source of inflation over the last few years.
Climate change is also adversely impacting jobs and productivity, impacts which will become more pronounced as climate change worsens in coming decades. Extreme heat has already led to hundreds of billions of dollars of lost productivity in the U.S. In 2020, extreme heat cost the U.S. economy approximately $100 billion. This figure is projected to grow to $500 billion annually by 2050. Network for Greening the Financial System (NGFS) estimates that without policy change, extreme heat will cause a 10 percent decline in global productivity by 2050, putting downward pressure on economic growth.
Climate change will limit the effectiveness of monetary policy tools.
The Fed’s monetary policy tools are ill-suited to address the economic disruptions caused by climate change. Setting interest rates, the Fed’s primary monetary policy tool, is designed to influence aggregate demand to stabilize prices. But interest rates will have limited utility in addressing supply-driven inflation brought about by the climate crisis. Interest rate changes cannot repair factories and transit lines damaged by extreme weather, lower temperatures so workers can do their jobs safely, or increase crop yields.
Supply chain disruptions during the COVID-19 pandemic provide a useful parallel for understanding the Fed’s limitations addressing climate-driven inflation. When supply chain disruptions and shortages led to acute price increases in sectors like cars and building materials, the Fed had limited ability to bring prices down. Interest rate increases could not compel production increases when public health conditions made operating at full capacity impossible for many businesses. Likewise, interest rate policy was an ill-suited tool for bringing down energy prices in the wake of Russia’s invasion of Ukraine.
As European Central Bank (ECB) Board Member Isabel Schnabel has highlighted, the downward pressure the climate crisis places on labor productivity and growth could also lower the equilibrium real rate of interest and diminish the space for conventional monetary policy. The lower the real rate of interest, the less opportunity the Fed has to accomplish monetary policy goals with interest rate policy alone. Moreover, low growth coupled with inflationary pressure creates a lose-lose stagflation scenario, further limiting the possibility for effective monetary policy.
Climate change will impair the transmission of monetary policy.
Monetary policy transmission, or the channels through which monetary policy decisions become visible in the real economy, will also be impacted by the climate crisis. For example, the climate crisis is expected to significantly impact credit creation, one of the primary monetary policy transmission channels. Banks are already becoming reluctant to extend credit to households and firms in climate vulnerable communities. Chair Powell noted recently that banks are managing climate risk by “pulling back from lending in coastal areas and things like that.” Withdrawals of credit do not affect all communities equally. Bluelining, or the practice of limiting credit creation and investment in climate-vulnerable areas, often leads to financial exclusion for low-income communities and communities of color.
Physical and transition risks related to climate change can affect other monetary policy transmission channels, including firm balance sheets and asset prices. Climate disasters and other physical effects of climate change can impact firm profitability, putting downward pressure on wages and employment. Likewise both transition and physical risks can impair asset prices, eroding wealth and reducing aggregate demand. Through these channels, the climate crisis tightens financial conditions regardless of the Fed’s inattention to these concerns and unwillingness to consider how they fit into its monetary policy objectives.
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