![]() cit? Using the workhorse two-country open-macro model, we derive a quadratic approximation of the utility-based global loss function in incomplete market economies, and solve for the optimal targeting rules under cooperation.ows that appreciate the currency and widen the external de.JEL Code C53 : Mathematical and Quantitative Methods→Econometric Modeling→Forecasting and Prediction Methods, Simulation Methods C55 : Mathematical and Quantitative Methods→Econometric Modeling→Modeling with Large Data Sets? G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages Q47 : Agricultural and Natural Resource Economics, Environmental and Ecological Economics→Energy→Energy Forecasting Q54 : Agricultural and Natural Resource Economics, Environmental and Ecological Economics→Environmental Economics→Climate, Natural Disasters, Global WarmingĪbstract How should monetary policy respond to excessive capital in However, the heterogeneous results across economic sectors and banks suggest that more careful monitoring of certain entity subsets and of credit exposures will be required during the transition process. ![]() An accelerated transition to a carbon-neutral economy would be helpful to contain risks for financial institutions and would not generate financial stability concerns for the euro area, provided that firms and households could finance their green investments in an orderly manner. By comparing different transition scenarios, the results of the exercise show that acting immediately and decisively would provide significant benefits for the euro area economy and financial system, not only by maintaining the optimal net-zero emissions path (and therefore limiting the physical impact of climate change), but also by limiting financial risk. Finally, this paper provides a comprehensive analysis of the impact of transition risk on the euro area private sector and on the financial system, using a granular dataset that combines climate, energy-related and financial information for millions of firms with the euro area credit register and securities database and country-level data on households. Second, the introduction of granular sectoral dynamics and energy-specific considerations by country relevant to transition risk. First, the design of three short-term transition scenarios that combine the transition paths developed by the Network for Greening the Financial System (NGFS) with macroeconomic projections that allow for the latest energy-related developments. Building on the first ECB top-down, economy-wide climate stress test, this paper contributes to the field of climate stress testing by introducing three key innovations. This paper assesses the impact of three potential transition pathways, differing in the timing and level of ambition of emissions’ reduction, and quantifies the associated investment needs, economic costs and financial risks for corporates, households and financial institutions in the euro area. Abstract Transition to a carbon-neutral economy is necessary to limit the negative impact of climate change and has become one of the world’s most urgent priorities.
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