Fiscal sustainability in times of climate challenges: a multidimensional approach of the interlinkages between climate change and sovereign debt

Abstract

Recent literature is paying increasing attention to how the physical and transition dimensions of climate change can influence the sovereign debt market (sovereign creditworthiness, the cost of public borrowing), with direct implications for the fiscal sustainability of a country. A systematic review and analysis of the literature and policy documents published in the last three years has revealed two main findings: i) there is clear evidence of an international policy agenda aiming to address both climate and sovereign debt challenges, acknowledging that the cost of inaction compounds over time and gives rise to a vicious circle; ii) the most current research in the field, preponderantly empirically rooted, is multifaceted and can be divided into main research streams: 1) determinants of long-term sovereign bond yields and/or spreads; 2) the nexus between climate change/the Environmental, Social, and Governance and the sovereign credit risk; 3) the need for efficient tools to incorporate climate considerations into the reformed global debt architecture.