The fiscal benefits of stringent climate change mitigation: an overview

Abstract

The Paris Agreement’s very ambitious mitigation goals, notably to ‘pursue efforts’ to limit warming to 1.5°C, imply that climate policy will remain a national affair for some time. One key obstacle to very ambitious national mitigation is that some policy makers perceive this to be in competition with major goals of fiscal policy, such as public investment or debt reduction. However, climate policy may actually contribute to these other objectives. Importantly, many fiscal implications of substantial carbon prices, which are essential for stringent mitigation targets such as the 1.5°C goal, have long been neglected by economic analyses of climate change mitigation.We systematically review recent contributions on interactions between climate policy and public finance, which include many topics beyond the classic `double dividend’ of environmental tax swaps. We can thus identify new conclusions about climate policy designs that may overcome fiscal objections and research gaps. We find that national climate policy often aligns with other objectives, provided that climate policies and fiscal policies are integrated well. A first class of interactions concerns public revenue-raising: carbon pricing can replace distortionary taxes and alleviate international tax competition; climate policy also changes asset values, which impacts the base of non-climate taxes and boosts productive investment. Second, they concern public spending, which needs to be restructured as a part of climate policy, while carbon pricing revenues may be recycled for public investment. Third, distributional impacts of climate policies include changes to household expenditures, to asset values and to employment; balancing them often requires fiscal policies.Our findings underline that jointly considering climate policy and fiscal policy can help to make substantial mitigation politically feasible.Key policy insights Climate policy, even under a very ambitious 1.5°C target, may substantially contribute to fiscal objectives, interact with fiscal policies, and lower mitigation costs.Mutual effects concern taxation, aggregate investment, public budgets, infrastructure and fiscal instruments with distributional effects.Better integrating climate policies and fiscal policies increases efficiency and supports political feasibility of very ambitious mitigation.This requires a common understanding of policy makers and academics on the most relevant interactions, based on more exchange and empirical research.

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