The Effects of Natural Disasters on Price Stability in the Euro Area

Abstract

This paper investigates the impact of natural disasters on price stability in the euro area. We estimate panel and country-specific structural vector autoregression (VAR) models by combining estimated damages of disaster events with monthly data for the Harmonised Index of Consumer Prices (HICP) for all euro area countries over the period 1996-2021. Besides estimating the effect on overall headline inflation, we examine effects on its 12 main sub-indices and further sub-categories of food price inflation. This allows us to disentangle differences in the direction and strength of price effects across consumption categories. Our results suggest significant positive effects of natural disasters on overall headline inflation, with diverging results at the sub-index level. Positive inflation effects are particularly pronounced for prices of food and beverages, while negative effects prevail for other sub-indices. Our country-specific results suggest heterogenous inflation effects of natural disasters across different countries. A key implication of our findings is that climate change is likely to make it increasingly difficult for the European Central bank to achieve its inflation target.

Greener and cheaper: green monetary policy in the era of inflation and high interest rates

“…Using the neologisms climateflation, fossilflation, and greenflation, she distinguishes between three different types of environment and climate-related shock that can drive inflation. Climateflation describes inflationary pressures arising from climate-related shocks such as droughts and heatwaves that reduce crops and increase food prices; hurricanes and floods that destroy production capacity and raise prices; climate migration that affects labour supply and thus wages; disasters that require reconstruction which could increase the price of construction goods; and changes in the energy mix that impact relative prices and create the risk of destabilising inflation expectations (Batten et al, 2016;Beirne et al, 2022;Bremus et al, 2020;Ciccarelli et al, 2023;Coeuré, 2018;van Tilburg & Simić, 2021). All such events can also indirectly impact transport infrastructures (a drought in the region of the Panama Canal that reduces the number of ship crossings, for instance) and consequently decrease supply by impeding import activities and making it difficult to provide markets with goods (Parker, 2018).…”

“…This, in turn, can force a devaluation, leading to inflation through an increase in the prices of imports or goods denominated in foreign currency. At the same time, however, severe climate events can induce deflationary pressures by destroying assets and reducing income and thereby negatively affecting household consumption and firm investments (Beirne et al, 2022;Bremus et al, 2020;Ciccarelli & Marotta, 2024).…”

“…Kim et al (2022) show that in the United States between 1963 and 2019 severe weather shocks (including very high and very low temperatures, heavy precipitation, droughts, high winds, and changes in sea level) had a positive impact on energy and food prices, although not on core inflation. Based on their research on data from 19 euro area countries over the period from 1999 to 2021, Beirne et al (2022) estimate that headline inflation (mainly explained by food and beverage prices) increases by 0.1 percentage points in response to a disaster and subsequently declines. Findings from a study conducted by Kunawotor et al (2022) on the impact of extreme weather events on prices in 52 African countries between 1990 and 2017, demonstrate that large and severe weather events, depending on their severity, have a direct impact of between 0.075 and 0.123 percentage points on headline consumer price inflation.…”

“…Climateflation refers to price increases arising from climate-related shocks. Several scholars show that temperature variations due to climate change as well as extreme weather events or severe natural disasters such as hurricanes, droughts, floods, and others have a significant impact on inflation (Beirne et al, 2022;Bremus et al, 2020;Ciccarelli et al, 2023;Faccia et al, 2021;Kotz et al, 2023). Discussion around fossilflation highlights the inflationary cost of fossil fuel dependency in connection with the lack of progress on ecological transformation.…”

Impact of Climate Change on Inflation in 26 Selected Countries

“…Kunawotor et al [27] measured the severity of disasters by the number of deaths and economic losses caused by the disaster, classified them into three categories, and introduced floods and droughts to measure climate change. Following Fratzscher et al [28], Beirne [29] measures climate change by dividing the monetary losses due to disasters in the EM-DAT database by the GDP of the affected country at current prices before the disaster.…”