The effects of climate change on the natural rate of interest: A critical survey

This survey reviews the literature about the possible impacts of climate change on the natural rate of interest (r*), an important yardstick for monetary policy. Prima facie, economic, and financial developments can lower r* in scenarios with increasing climate-related damages and uncertainty that reduce productivity growth and raise precautionary savings. Orderly climate policies have a pivotal role in facilitating the transition to a carbon-neutral economy and supporting a steady investment flow. We discuss the main models used to simulate the effects of climate change on r* and summarize the outcomes. However, in scenarios that assume innovations and investments induced by transition policies, r* could be affected positively. Overall, the downward effects of climate change on r* can be substantial, even considering the high degree of uncertainty about the outcomes, with tipping points and nonlinear effects aggravating the economic impacts. The downward pressure on r* will further challenge monetary policy in the long run, by limiting its policy space.This article is categorized under:Climate Economics > Economics and Climate ChangeAssessing Impacts of Climate Change > Evaluating Future Impacts of Climate Change

Automated summary

This survey reviews the literature on the impacts of climate change on the natural rate of interest (r*), emphasizing the potential negative effects but also considering positive effects under certain scenarios. The study finds that climate change can have substantial downward effects on r*, with uncertainty, tipping points, and nonlinear effects exacerbating the economic impacts. However, orderly climate policies and investments induced by transition policies could mitigate the negative effects and even have positive impacts on r*.