The economic and fiscal transition costs of global climate mitigation in fossil fuel export dependent economies

Abstract

Global decarbonization has large implications for trade and financial flows, and with few economies likely to be more affected than those relying heavily on exporting fossil fuels. This study first identifies 40 highly fossil fuel dependent economies and then, through several empirical strategies, examines the potential implications for oil rents, public finances and economic growth from global decarbonization. First, it is estimated that as a group, countries would lose more than 60 percent of oil rents alone, or between (present value adjusted) US$12–14 trillion, for the period 2023–2040 under a global ‘net-zero 2050’ versus a ‘business as usual’ scenario, - a loss equivalent in size to between 120 and 142 percent of GDP. Second, local projections model estimates suggest that there are large and persistent adverse growth and fiscal impacts associated with global decarbonization in emerging market and developing economy oil exporters. Here, a 10 percentage point (pp) decrease in (real) oil price inflation is associated with a decline of 1.58 percent in (real) GDP four periods after the shock; a decrease in annual government revenue (as a percentage of GDP) by between 0.6 and 0.8 pp and; an addition of about 0.5 pp to government debt per year. Finally, the study discusses relative vulnerabilities, and the domestic and international policy options needed to mitigate transition cost. Aside from a handful of primarily high-income countries, most countries have little or no savings to help them cushion an inevitable steep fall in demand for their main export and source of revenue, and more than one third of countries are characterized by either low or medium levels of human development. Whereas several countries are relatively well positioned to successfully mitigate the transition cost provided urgently prioritized domestic reforms, a substantial subgroup of countries will need international assistance to avoid potentially large negative socio-economic consequences.