Effects of monetary policy in a Schumpeterian economy with pollutant emissions

Abstract

While increasing research seeks to investigate the impact of monetary policy on climate change, the debate on how the central bank takes into account environmental concerns remains unresolved. This study joins this debate by developing a Schumpeterian growth model with pollutant emissions and abatement R&D to explore the effects of monetary and environmental policies on economic growth, environmental quality and social welfare. We find that higher inflation tends to depress economic growth, but it reduces pollutant emissions and improves environmental quality. Moreover, raising the fraction of seigniorage revenues to abatement R&D can increase environmental quality but retard economic growth. We have also analyzed social welfare effects of policy instruments and find that there exists an optimal policy combination that are sufficient for resorting the social optimum. By calibrating the model to the US data, the quantitative analysis shows that households’ preference for environmental quality plays an important role in determining the optimal monetary and environmental policies.