Climate policies are key to achieving the ambitious commitments of all of the Nordic countries to become carbon neutral in the next two to three decades. The potential macroeconomic impacts of climate change, and the costs and benefits of different policies to address it, underline the importance of incorporating climate into macroeconomic models. The information provided by integrated climate-finance models empowers policy makers and businesses to make informed decisions on specific strategies, trade-offs between different policy options - costs and benefits, and potential pathways to achieving the carbon neutrality goals and transitioning to a more sustainable and resilient economy (Braendle, 2021).

Taxation and public expenditure are two key tools to reaching the climate targets. Taxing emissions should reduce polluting activities while public investment supports the introduction of cleaner and more efficient technologies. However, assessing the environmental impacts of budgetary policies, evaluating their coherence when considering national and international climate commitments, and agreeing on the right policy mixes, are difficult to attain. 

CGE models provide a comprehensive representation of the dynamic interactions between different economic agents, namely firms, factors of production, households, the government, investors, and international trade. CGE models are, in short, “equilibrium tools that seek to explain the behaviour of supply, demand and relative prices in the whole economy with many markets” (Krook-Riekkola et al., 2017, p. 803). CGE models are used across the Nordic Region, as well as in international organizations such as the International Monetary Fund (IMF), World Bank, the World Trade Organisation (WTO), OECD, and the European Commission (EC). They have been widely used since the 1980s to assess the long-term impacts of climate change and climate mitigation policies (e.g. energy market regulation and taxation) on industries, households, international trade, etc. In this context integrated economic and climate modelling frameworks have been developed in, order to produce sensitive results on input substitution and technology innovation effects. Such integrated frameworks link energy or climate impact models to a CGE model to better capture the interactions between different sectors, policies and regions, often leading to more detailed and policy-relevant results (Böhringer, 1998; Krook-Riekkola et al., 2017; Wilson and Swisher, 1993). Generally speaking, two broad types of linking approaches can be defined, namely soft-links versus hard-links – see Table 1.

Source: Table inspired by Böhringer (1998), Böhringer and Rutherford (2009), Krook-Riekkola et al. (2017), Martinsen(2011) and the ICMM workshops.

Both soft-link and hard-link CGE models enable an analysis of the input substitution and technological innovation effects of outcome-based regulations and, thereby, both models may contribute to the understanding of the territorial and distributional impacts of climate policies.