Economic analysis of climate change

• 1. Foundations Of Economic Analysis

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  In 2006, the British government commissioned a report that would become known as the Stern Review. Nicholas Stern led this massive project to quantify the economic scale of climate change damages. The review linked features of society and economy with the biosphere and atmosphere into one modelling framework. These models are called integrated assessment models or IAMs. They allow economists to make trade-offs between climate impacts, adaptation, and mitigation explicit. Without these tools, policymakers could not compare the cost of inaction against the price of action. Some models focus on market transactions like GDP or inflation. Others attempt to value non-market impacts such as human health or ecosystem services. A 2014 study by researchers including L. Clarke and K. Jiang used these frameworks to assess transformation pathways for global emissions. The goal is to identify the pathway of emissions reductions that will maximize total economic welfare. Damage functions play an important role in estimating costs associated with potential hazards. For example, damage functions have been developed for sea level rise, agricultural productivity, or heat effects on labour productivity. These functions quantify the relationship between hazard intensity and resulting damages.

• 2. Global Aggregate Cost Estimates

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  A 2025 study explored adding global weather changes into statistical analysis given the trade between countries. This research raised estimates of climate damages from 11% to 40% in 2100 under a very high emission scenario. Another study checked data from the last 120 years and found that climate change has already reduced welfare by 29%. That number is projected to reach 47% if temperatures continue to rise. The temperature rise between 1960 and 2019 cut current GDP per person by 18%. A one-degree increase in global temperature reduces global GDP by 12%. An increase of three degrees by 2100 could reduce capital by 50%. These figures are comparable to experiencing the Great Depression permanently. Global economic losses due to extreme weather events increased sevenfold from the 1970s to the 2010s. Direct losses from disasters averaged above US$330 billion annually between 2015 and 2021. One study estimated global losses to average US$143 billion per year between 2000 and 2019. This includes a statistical loss of life value of 90 billion and economic damages of 53 billion per year. Failure to implement current commitments raises economic losses to 150, 792 trillion dollars until 2100. Inflation impacts range from 0.32 to 1.18 percentage points per year depending on socio-economic futures.

• 3. Regional And Sectoral Disparities

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  A United States government report in November 2018 raised the possibility of US GDP going down 10% as a result of warming climate. The report included huge shifts in geography, demographics and technology. A 2021 study by reinsurance company Swiss Re found that economies of wealthy countries like the US would likely shrink by approximately 7%. Some developing nations were projected to lose around 20% or even 40% of their economic output. Climate change may increase income inequality within countries as well as between them. Low-income groups are particularly affected. The International Labour Organization published a report titled Working on a warmer planet in 2019. It claimed that even if temperature rise is limited to 1.5 degrees, climate change will cause productivity losses reaching 2.2% of all working hours every year by 2030. This loss is equivalent to 80 million full-time jobs or 2,400 billion dollars. Agriculture accounts for 60% of this loss while construction accounts for 19%. Extreme heat events and rainfall events have been identified as having shifted probability and magnitude due to climate change. Wealthy countries in colder regions felt little overall economic impact or possibly benefited. Poor hotter countries very likely grew less than if global warming had not occurred.

• 4. Mitigation Strategies And Pricing

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  A study published in 2024 showed that keeping global warming below 2°C may cost about 1% of world GDP each year. This could prevent much larger losses of 10, 20% of GDP by mid century. Macroeconomic costs in 2030 were estimated for multi-gas mitigation as between a 3% decrease in global GDP to a small increase relative to baseline. In 2050, the estimated costs ranged between a 1% gain to a 5.5% decrease in global GDP. Carbon taxes are considered useful because they benefit governments with currency or lower emissions. Backlash includes concerns that the tax can be regressive and damage the poor disproportionately who spend income on energy. One central question is how newly collected taxes will be redistributed. Emissions trading systems set total emissions to a maximum and distribute permits through auction or allocation. If a polluter wants to increase emissions they must buy permits from those willing to sell them. Many economists prefer this method as it is market based and highly cost effective. However, emissions prices remain volatile due to fixed supply of permits. Uncertainty in price prevents businesses from investing in abatement technologies with confidence. Direct global fossil fuel subsidies reached $319 billion in 2017 and $5.2 trillion when indirect costs like air pollution are priced in.

• 5. Adaptation Costs And Insurance Markets

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  Across all developing countries adaptation costs have been estimated to be about USD 215 billion per year up to 2030. These figures are expected to be higher after that date. Traditional insurance works by transferring risk to those better able or more willing to bear risk. Since risks of climate change are correlated this reduces effectiveness of pooling. Developing countries appear to be potentially most at risk from effects of climate change. Developed countries could provide insurance against these risks. Disease rising seas reduced crop yields and other harms driven by climate change will likely have major deleterious impact on economy by 2050 unless world sharply reduces greenhouse gas emissions. The Swiss Re assessment found annual output by the world economy will be reduced by $23 trillion annually unless emissions are adequately mitigated. Climate change impacts how the insurance industry prices a variety of risks. Natural disasters fueled by climate change have increased housing costs through insurance and by exacerbating housing shortages. When vulnerable communities face extreme events disasters can occur. Socio-economic factors contributed to observed trend of global disaster losses such as population growth and increased wealth. Increased exposure is the most important driver of losses but part of these are due to human-induced climate change.

• 6. Ethical Debates On Discounting

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  The choice of discount rate has a large effect on result of any climate change cost analysis. Using too high a discount rate results in too little investment in mitigation while using too low a rate results in too much investment. A high discount rate implies that present-value of a dollar is worth more than future-value of a dollar. Integrated assessment models like DICE developed by William Nordhaus use discount rates to make benefit and cost estimations. In Nordhaus view his descriptive approach translates that impact of climate change is slow so investments should compete with other areas. He defines discount rate to be rate of return on capital investments around average of 4%. Stern takes prescriptive approach where pure rate of time preference leads to conclusion that any positive pure rate of time preference is unethical. Zero pure rate of time preference indicates all generations treated equally. Future generation do not have voice on today current policies so present generation morally responsible to treat future generation fairly. IPCC found no consensus on use of long-term discount rates in this area. Prescriptive approach leads to long-term discount rates of 2, 3% in real terms while descriptive approach leads to rates of at least 4% after tax. Value judgements are necessary when deciding how to discount future impacts.