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The Best Tool to Fight Climate Change

If they are serious about tackling climate change, governments must quickly establish the expectation that the price of carbon will follow a generally rising path in the future. Lofty statements from public officials and optimal calculations from climate modelers will not do the job.

AMSTERDAM – Although many supporters of US President Donald Trump seemingly believe that global warming is a hoax, almost everyone else agrees that climate change should be at the top of the list of important policy issues. Identifying the problem, however, is not much use unless we also identify the appropriate tools to address it.

In my own field of specialization, central bankers have caught climate-change fever. Under the leadership of Christine Lagarde, for example, both the International Monetary Fund and now the European Central Bank have declared the planet’s climate health to be “mission critical.”

To be sure, financial institutions must fundamentally rethink some things in the light of climate change. For example, a bank or insurance company calculating risks to real-estate loans would make a serious mistake if it followed the standard methodology and plugged into its formulas the probability of a flood based on data from the last 100 years. Instead, it should take a forward-looking approach, which means using estimates of the increasingly elevated probability of such disasters.

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