Climate Change, Business Cycle and Asset Prices

Project Start:04/2016
Status:Completed
Researchers:Michael Donadelli, Patrick Grüning, Renatas Kizys, Max Riedel, Christian Schlag
Category: Financial Markets
Funded by:LOEWE

The ultimate goal of the project was to examine the long-run effects of rising temperature levels on key macroeconomic and financial aggregates by means of DSGE modeling. After having estimated the impact of temperature shocks on aggregate productivity in the United States using standard VAR analyses, we have embedded such evidence in a production-based asset-pricing framework featuring long-run productivity and temperature risk. Novel empirical and quantitative evidence has been collected in the SAFE Working Paper No. 177 “Temperature Shocks and Welfare Costs”. The paper has appeared in the Journal of Economic Dynamics and Control, Vol. 82, pp. 331-355 (2017).

 

Many other intriguing research questions arose in the course of this project, resulting in several extensions of our analysis. In the same spirit of our first working paper on the economic impacts of climate change-related phenomena, we have accounted for temperature risk in a stochastic endogenous growth model. This with the main goal of examining climate effects on productive spending (i.e., R&D investments). The proposed model matches the provided novel empirical evidence on the impact of temperature shocks on R&D spending in the G7 countries. These additional results can be found in the SAFE Working Paper No. 188 “Global Temperature, R&D Expenditure, and Growth”.

 

As climate change may not only affect the average temperature level but also its variation, we produced novel empirical evidence on the relevance of temperature volatility shocks for the dynamics of macroaggregates and asset prices. Using two centuries of UK temperature data, we document that the relationship between temperature volatility and productivity and stock market returns is not constant over time. Actually, temperature volatility is found to undermine productivity and equity valuations only in the post-War period. Temperature volatility shocks are also found to be priced in the cross-section of stock returns. These empirical findings are rationalized within a production economy featuring long-run productivity and temperature volatility risk.

 

Climate research also suggests an increased occurrence of natural disasters due to global warming. Our most recent work studies empirically the effects of tornadoes on house prices and stock returns across four US regions (South, West, Mid-West, and North-East). We use state-level data to examine the impact of a shock to the size of tornadoes on house and asset prices in these four regions. We employ several empirical analyses such as VAR and panel estimations and cross-sectional asset pricing tests.

Related Published Papers

Author/sTitleYearProgram AreaKeywords
Michael Donadelli, Marcus Jüppner, Max Riedel, Christian SchlagTemperature Shocks and Welfare Costs
Journal of Economic Dynamics and Control
2017 Financial Markets Temperature shocks, long-run growth, asset prices, welfare costs, adaptation

Related Working Papers

No.Author/sTitleYearProgram AreaKeywords
177Michael Donadelli, Marcus Jüppner, Max Riedel, Christian SchlagTemperature Shocks and Welfare Costs2017 Financial Markets Temperature shocks, long-run growth, asset prices, welfare costs, adaptation
188Michael Donadelli, Patrick Grüning, Marcus Jüppner, Renatas KizysGlobal Temperature, R&D Expenditure, and Growth2017 Financial Markets Global Temperature, R&D, Welfare Costs
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