US economist Joseph Stiglitz warns carbon pricing mismatch may trigger next global financial crisis

·4-min read

Nobel laureate economist Joseph Stiglitz warned of a more severe version of the 2008 global financial crisis by pointing out that carbon, which is priced “nowhere near” where it must be to achieve the world’s climate goals, accounts for a much bigger piece of the global economy than subprime mortgages.

“Remember that the 2008 crisis originated in one part of the economy, in the real estate sector, and one part of the real estate sector, the subprime, and there was a problem of mispricing of the risks, mispricing of the mortgages in that small part of the global financial system,” Stiglitz said at a three-day virtual conference co-sponsored by the Bank for International Settlements and International Monetary Fund.

“Reasonable carbon prices are going to be much higher than current prices, and that means … fossil fuel assets will come down, and [fossil fuel] projects will come down very dramatically, very quickly, and that in turn … imposes enormous amounts of transition risks,” he said in a keynote address at the Green Swan Conference.

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“Those risks are systemic,” Stiglitz added. “They lie not only in the fossil fuel companies, but in the companies that lend to the fossil fuels, companies that own shares in the fossil fuels, companies that trade with the fossil fuel companies.”

The world’s economy contracted for the first time in decades in 2009, owing to the financial crisis sparked a year earlier because of underperforming or worthless subprime mortgages packaged into widely traded debt instruments.

The bad debt forced banks to rein in lending, leading to what was at the time the most severe global recession since the Great Depression.

Governments have started initiatives aimed at forcing greenhouse gas emitters to figure the environmental cost – the carbon price – of these emissions into their operations. The cost comes primarily in the form of carbon taxes or through carbon emissions trading, which include caps on the maximum level of emissions and allowances to emit.

Financial industry ‘is essential in fight against climate change’

There are 64 carbon pricing initiatives rolled out worldwide on regional and national bases, according to the World Bank, but Stiglitz and other economists have warned that current efforts are not sufficient to forestall widespread destruction of property, agricultural disruption and other negative outcomes.

A reluctance among governments and industry to acknowledge the full extent of damage caused by greenhouse gas emissions and the cost to reduce the levels of carbon in the atmosphere continues to increase the ultimate costs that will be incurred to bring climate change under control, said AJ Goulding, president of Boston-based London Economics International LLC, an energy and infrastructure consulting firm.

“While an increase in carbon prices is necessary to meet climate goals, it may not occur as rapidly as is commonly supposed, providing time for fossil asset prices to adjust and carbon capture and storage technologies to improve,” Goulding said.

“An equal or greater risk to the world economy is the failure among policymakers to use least cost principles in targeting trillions of dollars of climate change related investment.”

Joseph Stiglitz in Davos, Switzerland in 2012. Photo: EPA
Joseph Stiglitz in Davos, Switzerland in 2012. Photo: EPA

Stiglitz endorsed such a regulatory approach, including straightforward no-fossil-fuel mandates, to assist in the effort.

“It’s sometimes easier to have good regulations such as no-fossil-fuel electric generating plants, no fossil-fuel or oil-based cars. It’s much easier to do that than actually having a pricing system.”

Stiglitz also called for central banks to conduct stress tests on financial institutions to see how their investments withstand increases in carbon prices, all based on the latest scientific evidence about the extent of fossil fuel related climate change.

Carbon tax regimes range from US$101.47 per ton in Liechtenstein to US$0.36 per ton in Ukraine, all substantially below the level that energy consultant Wood Mackenzie said was needed to keep climate change in check.

Wood Mackenzie said in a report published in March that carbon prices must rise more than seven-fold to US$160 per ton by 2030. That compares with a global average of US$22 per ton at the end of 2020.

The US does not levy a federal carbon tax, although several states, including California and New York, have emission reduction mandates. California, for example, makes most emitters subject to a cap-and-trade system meant to reduce the state’s greenhouse gas emissions 40 per cent below 1990 levels by 2030.

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