10. Carbon neutrality and evidence about the future in fiscal and economic policy
Finland aims to be carbon neutral by 2035 and eventually become the world’s first fossil-fuel free welfare society. To reach this goal incorporating anticipation into fiscal and economic decision-making is essential. This pilot case study outlines different models through with uncertainty can be included into fiscal planning in the context of carbon neutrality.
The purpose of the carbon neutrality research is to contribute to further building Finland’s anticipatory governance capacity by identifying interesting international cases of how governments (can/could) deal with (climate change) uncertainty in fiscal modelling, policy and budgeting in practice.
Also at the core of this case is anticipatory governance, since carbon neutrality is (like many policy fields) in a context of uncertainty, complexity, and novelty. This is because it is subject to evolutions and transformations in the future involving society, technology, environment, and the economy. No governance model—even with the most successful of reforms—can deliver support to transition to carbon neutrality over meaningful periods of time, unless it has the ability to constantly perceive, understand, and act upon the changes of the future as they emerge.
To identify ways forward, the OECD undertook multiple activities to support the analysis in this document:
Carbon neutrality task force: a dozen experts in carbon neutrality, senior policy makers, and public officials met during October 2021 to March 2022 to provide information on the Finnish context, reflect on critical questions, and provide feedback on the ongoing study.
Workshops and expert consultations: experts and peers from the Ministry of Finance, Prime Ministers Office, Environment Ministry, and Sitra participated in discussions on elements of the analysis, and responded to information and updates on the study.
International case study analysis and learning sessions: in consultation with Finnish partners, a set of case studies from was chosen to highlight successful practices in anticipatory mechanisms as applied to carbon neutrality; country peers presented their approaches with the carbon neutrality task force; results include a set of most pertinent findings for Finland, provided in this report.
OECD consultation: experts from several OECD directorates in the field of green budgeting, carbon modelling, net-zero transitions, and governance brought multidisciplinary knowledge to bear.
Findings in this report are supported at several instances with anonymised quotes from task force members, as well as participants in dialogues between civil servants and policy makers, hosted internally by the Finnish Government.
Uncertainty and complexity in carbon neutral transitions
The challenge of carbon neutrality is characterised as having numerous interconnected factors, incomplete and contradictory information, and no clear idea of what an ideal solution would be if it existed. Nevertheless, the problem of climate change is one of the most pressing existential challenges of our time. To solve the challenge, the solution necessarily must not be relegated to an individual institution or ministry; indeed, Ministries of Environment have in many cases been solely responsible for driving the issue. However, it is increasingly necessary for a network of domains to address this wicked problem in concert with its overall strategic importance for governments.
The changing roles of Ministries of Finance
Ministries of Finance are key players in addressing the issue of long-term investment levels not matching up with the reality of the threats nor mid and long-term government goals. Finance ministries are also key players in the green transition as they are responsible for ensuring adequate fiscal management to mitigate risks and for implementing public investment, spending and taxation policies to leverage the opportunities offered by the green economy. These play a key role in promoting a just transition. However, in most cases, governments around the world are only now beginning to incorporate emissions targets in their budgeting processes. Green Public Finance Management (PFM) practices are mostly in an embryonic stage even in the advanced economies (International Monetary Fund, 2021[1]). An (OECD[2]) survey of green budgeting practices found that 60% of OECD member country budgets did not incorporate green budgeting. Currently, only 14 countries around the world have implemented some form of green budgeting, most limited to ex ante or ex post environmental impact analyses to inform their budget decisions. Implementation of green budgeting practices in Europe is limited and comprises various different methodological approaches (European Commission, 2021[3]).
Carbon neutrality goals and Finland’s Climate Law
Finland’s climate policy and targets are mainly aligned with those of the EU, with slightly higher ambitions overall. Finland has a long tradition of addressing climate issues and environmental challenges and is ahead of its European peers in terms of ambition and implementation. The Government Programme set out that Finland aims to be climate neutral by 2035 and eventually becomes the world’s first fossil-fuel free welfare society. Carbon neutrality means that emissions and the sinks that sequester carbon are in balance or that greenhouse gas (GHG) removals are as high as the emissions produced by humans. Finland’s obligation under EU law is to reduce the effort sharing sector’s GHG by 39% by 2030, compared to 2005 levels.1
According to a report submitted by the Finnish Climate Change Panel in 2020, Finland was not yet on track to reach these targets. The Panel identified a gap of about 19 megatonnes of emissions between target and actions. It estimates the size of the carbon sink to be 21.4 megatonnes. To address this, the report lays out that more rapid decisions and swift implementation of effective measures need to be put in place. This will also require a clear and effective budgetary process to implement the measures at all levels of government.
In 2015, Finland approved its Climate Change Act that set out emission reduction targets and intended measures. It was under revision to account for the gaps identified and to include the government’s new ambitious targets and measures considered necessary to meet the EU’s 2030 emissions reduction targets and to achieve carbon neutrality by 2035. The revisions respond to the recommendations proposed by the Climate Policy Roundtable,2 which advises on the adequacy of the measures to be included in the medium-term Climate Change Policy Plan. The recommendations of the Finnish Climate Change Panel included 60% reduction in emissions by 2030, 80% by 2040 and 90% by 2050 compared to 1990 levels and the ambition to achieve carbon neutrality by 2035. Putting these inputs into practice, the new Climate Change Act was approved by government on 3 March 2022 and will enter into force on 1 July 2022. The reform also extends the scope of the Act to the land use sector, and a target to strengthen carbon sinks will also be included in the act.
The 2015 Act requires government to prepare and keep updated, a series of detailed plans to deliver the targets set out. These include: a medium-term strategy extending until 2030; a long-term strategy to tackle longstanding environmental issues; and, development of a national adaptation plan, to be updated at least every ten years. Different Ministries were involved in preparing these plans according to a sectoral division of responsibilities. The plans are discussed in the next section.
To regularly monitor the extent to which the climate plans are implemented, the Ministry of the Environment draws up an Annual Climate Change Report. It describes the trends of emission reductions and assesses the adequacy of the reduction measure relative to the targets. The report is submitted to Parliament, and it serves as the basis for public discussion on climate change mitigation and adaptation. In 2021, the report stated the Ministry of the Environment’s estimates that Finland was on track overall, but additional climate measures were needed to attain carbon neutrality by 2035. It states that a key factor for carbon neutrality is the expected carbon sink number in 2035. The necessary additional measures will be proposed in the new Energy and Climate Strategy, set to be completed and published during 2022.
Preparation of climate plans: Division of sectoral responsibilities across national ministries
Find below which ministry is responsible for preparing climate plans in the various sectors:
Ministry of Economic Affairs and Employment: the implementations of projects in industrial sectors, related to: electricity consumption; total energy consumption; supply of electricity; and district heating.
Ministry of the Environment and Climate Change: sectoral aspects of F-gas emission policy scenarios; waste sector (quantity of waste incinerated, landfill emissions, and waste water and composting emissions) policies; buildings (area, demand for heating and heat sources, and related changes); machinery energy consumption.
Ministry of Agriculture and Forestry: non-energy-related emissions, biomass volumes and energy consumption in agriculture.
Ministry of Transport and Communications: energy consumption and emissions related to road, waterborne, air and rail transport; biocomponent percentages in fuels.
Ministry of the Economic Affairs and Employment: responsible for co-ordinating the medium-term plan.
Ministry of the Environment: responsible for co-ordinating the long-term plan.
Ministry of Finance: responsible for financing issues, decisions about where to invest and these targets are included in the budget process.
Finland's Climate Policy Roundtable
Finland's Climate Policy Roundtable, an advisory body set up in 2020 and chaired by Prime Minister Sanna Marin, convenes stakeholders from local and national governments, ministries, trade associations, NGOs, and others to advise on Finland’s national climate actions. One particular focus of the Roundtable's discussions is the transition into a carbon-neutral society as a socially and regionally fair and just transition by making low-carbon solutions attractive and profitable for businesses and people. The Roundtable meets 5 to 7 times per year and has discussed topics such as sectoral low-carbon roadmaps, the Climate Change Act and green recovery.
To reach its greenhouse gas emissions target, Finland will need to implement significant measures in all sectors. Particularly crucial are the changes in energy production and consumption, transportation, construction and living, and agriculture and forestry. Inevitably, the share of electricity in final energy consumption will increase, but will require Finland to make energy production more secure and less dependent on foreign suppliers.
Within the EU, carbon neutrality strategies are drawn up partly on European and partly on national level. Industries that are included in the EU’s emissions trading scheme (electricity production, energy-intensive industries, most of Finland’s district heating and aviation) are subject to emission caps fixed at EU level that apply to all EU emissions trading sectors. The emissions trading system requires these sectors to match emission levels with predetermined allowances aligned with the EU’s reduction goal. Therefore, there is no need for national governments to define separate national emissions reduction targets for these sectors. The purpose of the emissions trading scheme is to achieve reductions where this is most economical within the EU.
Member state-specific reduction goals such as Finland’s are set for sectors (see Box 10.1) not covered by the EU emissions trading system (transportation, agriculture, heating of buildings, etc.; usually described as “effort sharing sectors”). Member states can exploit the emission reductions implemented by another EU member or non-member country, to contribute to their own reduction obligations. This is mostly due to cost-efficiency: emissions reductions implemented elsewhere may be significantly cheaper than domestic reductions.
The Government of Finland is working to ensure that the country reaches the objective of being carbon neutral by 2035 and carbon-negative in the future. The roadmaps’ purpose is to accurately picture the scale, costs, and conditions of the measures needed to move to a carbon-neutral country.
Led by the Ministry of Economic Affairs and Employment guidance, 13 economic sectors produced their low-carbon roadmaps in joint co-operation with their stakeholders. The sector-specific roadmaps provide a comprehensive description of the current situation, evaluation of emission-reducing technologies and measures, and estimate of achievable reductions.
The design method relies on scenario analysis to assess future developments that may affect the carbon neutrality objective. Most roadmaps also include assessments of future investment needs, such as in workers' upskilling, research and technology, and recognizing the potential of various existing resources.
The Government highlighted the roadmaps as the potential to effectively reduce greenhouse gas emissions in different sectors and reach the carbon neutrality objective by 2035. It also remarks that favourable investment conditions are critical for this. The sector-specific roadmaps will be utilised in the incoming climate and energy policy.
Source: (Government of Finland, 2021[4])
The medium-term climate change policy plan
Finland’s medium-term plan covers the period up to 2030. It falls under the responsibility of the Ministry of Environment. The most recent document was issued in 2017 (Government of Finland, 2017[5]).
This medium-term plan specifies and complements the emission reduction measures outlined in the Energy and Climate Strategy prepared by the Ministry of Economic Affairs and Employment. According to the Climate Change Act, the medium-term plan must be co-ordinated with the national energy and climate strategy in terms of timing and content. This requires both documents to be prepared at approximately the same time using similar base-line calculations.
The 2017 plan takes account of the energy policy measures included in the strategy, which will affect future emissions, and focuses on the following sectors: transport and land use; agriculture; machinery energy consumption; F-gas emissions scenarios; waste (quantity of waste incinerated, landfill emissions, and waste water and composting emissions); buildings (building area, heating demand, heat sources and related changes).
The emissions reduction measures outlined in the medium-term policy plan also support the long-term emission reduction targets for 2050. The development of long-term solutions to achieve a low-carbon society, assumes sustainable and consistent achievement of the goals set for 2030. It is clear that the long-term targets, set by the Paris Agreement, will require even greater emissions reductions, many of which will involve “effort sharing”.
The long-term climate change policy plan
The long-term policy plan falls under the responsibility of the Ministry of Employment and the Economy. It covers the period up to 2050 and the most recent plan was published in 2014 (Government of Finland, 2014[6]). The roadmap to 2050 can be considered a strategy-level guide to achievement of a carbon neutral society. The plan includes analyses of how to achieve a low-carbon society and the actions required, at multiple levels.
A major focus of Finland’s long-term strategy is transportation, which is not covered by the EU’s emissions trading system, but is particularly relevant for a large and sparsely populated country such as Finland. Currently, the most efficient way to reduce the emissions from transportation in Finland would be to replace fossil fuels with bio-based fuels. The greenhouse emissions caused by transportation must also be reduced by exploiting alternative propulsion systems and technologies.
The long-term plan also emphasises buildings. The goal is for all new buildings to be near zero-energy by the end of 2020. Finally, it calls for the promotion of cost-efficient energy and input efficiency in several sectors and more sustainable consumption and production alongside support for municipalities trying to reduce their carbon use
The national adaptation plan
The National Climate Change Adaptation Plan 2022 was published by the Ministry of Agriculture and Forestry in 2014-15 and was reviewed in 2020 (Government of Finland, 2020[7]). The plan is aimed at building capacity among Finnish society, to manage and adapt to the physical risks associated with climate change.
The Finnish Meteorological Institute has published climate projections for Finland based on fifteen global model simulations of future climate, all of which show that temperature rises in Finland will be above global mean temperatures (Jylhä, Tuomenvirta and Ruosteenoja, 2004[8]). In the short time, this could have some positive impacts, such as reduced expenditure on heating and reduced risks of the effects of cold weather on health, and the possibility to plant high-yield crops. However, in the agriculture sectors, these opportunities will only be realised if other climate risks, such as wind and pest damages, can be controlled and adaptation measures, such as breeding and introduction of more high-yielding and resilient varieties, are put in place.
Although the plans are comprehensive and detailed, their implementation is not straightforward. Several research institutes were asked to assess the adequacy of the measures included in the draft medium-term Climate Change Policy Plan (Government of Finland, 2021[9]). These assessments show that for Finland to achieve its climate objectives it will need to draw up plans that are more robust. Finland faces several challenges related to reducing emissions and current emissions targets are higher than what is outlined in the current emissions targets. This is evidence of the slow pace at which the plans are being implemented in practice.
Uncertainties related to energy imports and geopolitics
Finland faces several energy related problems. It currently imports 65% of its energy from Russia: electricity (produced mainly via nuclear, coal and gas); gas and oil; coal for the city of Helsinki and uranium for its nuclear power plants. The situation here has become critical since February 2022. Improving energy self-sufficiency will require increasing the share of domestically produced electricity, which in turn will lead to higher emissions. Finland is part of the Nordic Electricity Market, along with Denmark, Norway and Sweden and would need to increase its electricity purchases in this market. The restructuring of the energy sector and electricity production will pose a serious challenge in the coming years, as any change will inevitably affect emissions levels and energy self-sufficiency in different ways. The 2022 Russia-Ukraine crisis is having serious impacts not only to the energy sector but broadly in many policy areas. The crisis will certainly impact the proportion of energy imports from Russia, proportion of domestically-produced electricity, and restructuring of energy sectors in the region, with related impacts on calculated carbon emissions. While decarbonisation may not be the top priority in restructuring due to the crisis, there is broad political interest in the topic and legitimacy to take actions, and it may be an opportunity to address decarbonisation in a more systemic way.
In early 2022 the Climate Policy Roundtable pointed out that Russia’s actions gives strong reasons to phase out fossil fuels even faster. The Roundtable discussion emphasised the need to consider how climate actions could be accelerated and security of supply improved at the same time, targeting actions in specific industries without leading to growing conflicts and unrest (Government of Finland, 2022[10]). In this case, accountability for doing nothing is strong, even if the consequences of action are uncertain, which are prime conditions for anticipatory innovation in Finland.
Need for systematic engagement with uncertainty
Finland’s decarbonisation plans are quite detailed, but they lack a systematic engagement with uncertainty. First, the Land Use, Land Use Change and Forestry or LULUCF sector are a source of significant uncertainty while there is no agreement about how to account for negative emissions from the large stock of Finland’s forest area. Forests in Finland serve as carbon sinks, that is, as the trees grow, they absorb carbon-dioxide from the atmosphere. The extent of these carbon sinks relative to emissions has varied over the years, but are estimated to grow in future decades.
Second, there is uncertainty related to the regulations that will be proposed by the European Commission regarding non-EU ETS efforts sharing sectors. Drawing up new reduction trajectories and choosing from a range of mechanisms will have to take place in the context of that uncertainty.
Third, there is uncertainty related to the effectiveness and timing of the proposed emissions reduction measures. Although Finland is a leader compared to many other countries, it faces challenges related to the construction and maintenance of reliable, real-time emissions prediction and monitoring models (the collection of this information is the responsibility of the Ministry of the Environment). This problem applies also to other countries and institutions since these models are at a very early stage. The effectiveness of such measures could also benefit from qualitative strategic foresight methods to stress-test them against possible future disruptions in the social, environmental, technological, economic, and political domains. One tool to use for the former is the strategic foresight tool developed by the OECD for net-zero transitions (see Box 10.2).
The Strategic Foresight Unit in the OECD Office of the Secretary General works across the OECD to increase the use and impact of strategic foresight in policy-making by governments. As part of the OECD Horizontal Project on Building Change and Economic Resilience, the Strategic Foresight Unit has developed an approach to support global and national efforts to design future-ready net-zero transition strategies in a context of high uncertainty. The approach involves stress-testing ambitious commitments to net-zero GHG emissions using qualitative foresight methods for expanding the awareness of possible future disruptions in the 2030-2050 period.
The associated toolkit addresses disruptions related to social, technology, green-tech, environment, economy, and governance changes and includes a five-stage intervention to effectively develop country-specific and cohesive policy recommendations, as follows:
1. Identify disruptions in the global, regional and national context (i.e. what would happen if green technology disappoints, and net-zero commitments are reliant on behaviour changes instead).
2. Explore interaction that would occur if two or more disruptions occur simultaneously (i.e. green technology disappoints and conspiracy theories undermined efforts to behaviour change).
3. Create alternative future scenarios based on key strategic disruptions (i.e. highly polarised multilateral world crisis or grassroots green revolution).
4. Develop vision and strategies for successful net-zero transition under alternative scenarios. (i.e. empowerment of civil society for participatory actions for economic transformation).
5. Identify key implications for policy and determine actions to strengthen the net-zero strategy (i.e. integrate cybersecurity and disinformation risk assessments into net-zero strategies).
In OECD member states similar initiatives are under way. For example, UK’s GOScience has a similar initiative to use foresight to help achieve net zero society.
Source: (OECD, 2022[11]); https://www.gov.uk/government/publications/net-zero-society-scenarios-and-pathways/a-net-zero-society-scenarios-and-pathways
Uncertainties in adaptation
Fourth, Finland is expected to be affected strongly by climate-related natural events, with mean temperatures projected to rise faster than average global temperatures. The country is already experiencing an increase in forest fires. In practice, Finland is poorly prepared for coping with the physical hazards related to climate change. Although adaptation projects are underway, especially in Finland’s largest cities and municipalities, information obtained from interviews with government officials conducted for the 2020 review - with the possible exception for flood risk zones, most Finnish municipalities ignore climate change in their risk assessments and preparedness plans (Räsänen et al., 2017[12]). All the interviewees saw the responsibilities of municipalities in relation to climate change adaptation and preparedness to be exigent, which means that the planning and execution of adaptation projects will need support from central government. It cannot be left entirely to local authorities.
Further, adaptation strategies and plans will need to address qualitative uncertainties related to how impacts and actions could play out in Finland, prompting exploration of alternative trajectories and outcomes beyond current assumptions and expectations about the future. Application of futures thinking to identify potential implications for policies, including new strategies and actions can help incorporate adequate treatment of uncertainties into the design of public policies (OECD, 2020[13]). Adaptation measures that are applied in one sector can have ripple effects in others due to interconnectedness of the natural and human systems involved. For instance, as physical impacts such as forest fires are experienced by the public, perceptions about the need to act may become more acute. A holistic treatment of uncertainties related to adaptation is currently lacking as is the utilisation of qualitative foresight practices to develop policy responses for Finland.
Several notable expert advisory bodies provide Finland with local and global expertise in carbon neutrality knowledge, peer efforts and options to inform policy development, decision-making, and design of supportive institutional structures.
Finnish Climate Change Panel
In Finland, the Climate Change Panel is a scientific and independent expert body for supporting the planning of climate change policy and related decision-making and has been a trusted source of information for the government, such as providing science-based evaluations on gaps in knowledge. The Panel was established officially in 2016 by the Finnish Climate Change Act of 2015, preceded by a council of the same name for two terms (2011-2013 and 2013-2015) and publishes formal statements on climate change policy drafts or plans, as mandated by the Climate Act. The Panel relies on a small secretariat and top academics in diverse research fields affiliated with a university or institute to provide scientific information and advice, so drawing on the most current knowledge and skills in the scientific community. The Panel has liaison officers from relevant ministries and annual funding of EUR 300 000 to support operational costs (Weaver, Lötjönen and Ollikainen, 2019, p. 40[14]).
Coalition of Finance Ministers for Climate Action
Finland co-chairs the Coalition of Finance Ministers for Climate Action, which includes fiscal and economic policy makers from over 70 countries in leading the global climate response and in securing a just transition to low-carbon development with regard to the Paris Agreement. Since its launch in 2019, finance ministers from over sixty countries have signed the Helsinki Principles, which promotes national climate action through fiscal policy. The group has contributed on the analysis of mobilizing private finance to combat climate change, climate-related financial risks, integration of climate into economic and financial policies and green recovery from the COVID-19 pandemic (The Coalition of Finance Ministers For Climate Action, 2022[15]).
Finland chairs the group and therefore shows international leadership on this topic. However, while this global leadership has created legitimacy outside of Finland, provides access to a wealth of analysis and best practices, and contributes to the perception as Finland as a leader in climate neutrality, the benefit of this activity for Finland may not be fully exploited for the purposes of creating internal legitimacy to act and adjusting the administrative apparatus internally to support bold, anticipatory actions.
Practices analysed as part of the Coalition’s work could be better integrated given Finland's access to global knowledge and position of leadership on the global stage. For example, the need for an anticipatory approach in fiscal policies clearly emerged from the Coalition’s reports and recommendations (The Coalition of Finance Ministers for Climate Action, 2022[16]).
This section includes a summary of how governments can and do deal with climate change uncertainty in fiscal modelling, fiscal policy and budgeting to facilitate the green transition and ensure long-term sustainability of public finances.
Fiscal policy tools
In the EU, climate policy is included in the framework of the European Green Deal (European Commission, 2019[17]). The European Green Deal or European Green Pact is a set of policy initiatives proposed by the European Commission, aimed at achieving climate neutrality in Europe by 2050. The European Commission recently proposed a set of policies within its “Fit for 55” plan, aimed at reducing net greenhouse gas emissions by at least 55% by 2030 to ensure achievement of the ultimate 2050 net-zero target. This policy package includes legislative proposals related to a revision of the entire EU 2030 climate and energy framework and includes laws related to effort sharing, land use and forestry, renewable energy, energy efficiency, emission standards for new cars and vans and the European Commission’s Energy Taxation Directive. This new framework allows European countries to formulate individual national policies to ensure fulfilment of their carbon reduction commitments.
Mitigation policies
In 1990, Finland introduced a national carbon tax, which is the main fiscal policy tool to reduce carbon emissions. Other tools include green incentives (such as tax breaks for expenditure related to energy-saving), negative carbon taxes for green energy producers, feebates, etc. Regulation is widely used to set standards for construction and car emissions, for instance.3 These different instruments have different pro and cons in terms of their impact on the economy and the budget.
Although carbon taxes are an effective means to encourage economic agents to produce and consume less emissions-intensive goods, they come with a range of challenges, which can make them difficult to implement. They lead to an increase of energy prices and can be contractionary and regressive. If the revenue derived from carbon taxation is returned to the economy, their effect is less contractionary. However, even environmental tax reform to ensure that carbon tax revenue is used to support private green investment, might not be enough to achieve a swift transition to a low-carbon economy. The scaling up of public investment is essential to support the low-carbon transition (Catalano and Forni, 2021[18]).
Adaptation policies
At the European level, all countries can expect higher average and more volatile temperatures and an increased likelihood of increased rainfall in the northern regions and heatwave and wildfire episodes in the southern countries (Intergovernmental Panel on Climate Change, 2022[19]). Global level temperatures are already more than 1 degree Celsius above pre-industrial levels and, at this stage, make the Paris Agreement target of an increase contained to around 1.5 degrees Celsius by the end of the century, seem very optimistic. (Climate Action Tracker, 2021[20]) Fiscal policy must tackle these challenges and scale up adaptation spending.
Physical risks tend to be categorised as chronic or acute. Chronic risks refer to progressive slow-moving phenomena, such as temperature and precipitation increases and sea level rises. All countries must prepare for these risks, although the long horizon and relevant uncertainties regarding their evolution makes the planning for such risks particularly difficult. Acute risks include floods, heatwaves, periods of intense cold, tornados, drought and wildfires. These developments are already happening and preparations how to manage the impacts need to be ongoing. However, most countries are more focused on devising realistic plans to achieve carbon mitigation goals and, generally, are underestimating the prospects of acute physical risks.
In the case of acute risks there are two broad types of adaptation spending which could be effective. Ex ante spending to increase the resilience of public infrastructures (e.g. electricity grids, transportation networks) and ex post spending to mobilise relief operations following natural disasters. Based on their fiscal space, fiscal priorities and cost-benefit analyses of such investment, governments will have to trade off higher early (ex ante) adaptation spending against lower levels of adaptation spending later (or ex post). These cost-benefit analyses are highly uncertain, but possible: they depend on the probability that the physical climate hazard will take place and, therefore, will be region specific (United Nations, 2011[21]). The literature on how to assess the need for adaptation spending is growing rapidly and is moving from the concept of “exposure” or the degree to which a system is exposed to significant climate variations and their nature, to “vulnerability” or the propensity for or predisposition to be affected adversely by climate change. The expected damage can be estimated as the probability of occurrence of the physical hazard (exposure) multiplied by the estimated economic damage in the case that it occurs (vulnerability).
Fiscal constraints and competing priorities increase the tendency for countries to underinvest in adaptation and build in insufficient fiscal buffers to prepare for extreme events, with the result that remedial action often prevails over preventive action. However, the literature suggests that early preventive actions to address climate change are generally superior to later remedial action (United Nations, 2017[22]). Increasing early spending on adaptation, before the gradual erosion of the capital stock and before its further damage due to extreme events, would increase fiscal and economic resilience and reduce future spending (Catalano and Pezzolla, 2020[23]). This applies particularly to the case of Finland, even though climate events are still contained. As already discussed, Finland could invest in high-yielding and more resilient crop varieties to cope with rising temperatures.
However, overall, all countries will tolerate some “residual risk” related to physical hazards. A reasonable strategy might involve allocating a given envelope to ex ante adaptation spending and considering the residual risk as a contingent liability. However, since it would be difficult and would require particular expertise to estimate the economic damage, the impact of the residual risk on the budget could be estimated using already existing approaches to estimate contingent liabilities (Bova et al., 2016[24]).
Models
To calibrate the fiscal tools and assess their impact on emissions, the economy and the budget: and to assess the budget costs of possible physical hazards, governments will need to develop macroclimate models. To make the necessary assessments will require a suite of models:
able to integrate economic and climate elements to allow emissions to depend on economic activity and, in turn, to model their effect on temperatures and natural hazards
able to provide a fairly detailed description of the economy to allow assessment of the impact of the policies on economic activity
able to provide a sectoral decomposition in order to account for inevitable sectoral reallocations associated with mitigation policies, especially in the energy producing sectors
that are long-term, since scenarios extend to 2050 and often to the end of the century
that account for uncertainty and change in context variables
able to accommodate a fiscal module, including a detailed description of the fiscal variables, to estimate the evolution of the budget aggregates and public debt.
Climate modellers use a wide range of Integrated Assessment Models (IAM) – see overview of models used by IPCC in Box 10.3 below. For all countries, an IAM model of the national and global economy seems to be a “must-have”. It allows for the: 1) design of national mitigation policies to achieve national emission goals; 2) building of scenarios for global emissions and national climate physical risks in order to plan for ex ante and ex post adaptation policies; 3) assessment of the impact of these policies on the economy and on the budget. Indeed, this type of model is useful but only for analyses related to mitigation policies also to estimate the distribution – over time and space of climate physical hazards. Climate physical events depend on global temperatures and, therefore, are dependent on global mitigation scenarios. In these scenarios, it is possible to estimate the probability distributions of the physical risks for given horizons and locations, which then can be used to assess possible physical risks and the associated economic costs.
Climate modellers use a wide range of Integrated Assessment Models (IAM). Some focus on the evolution of the climate variables, assuming some exogenous trends for economic activity; others integrate macroeconomic variables with climate scenarios, but provide more or less detailed descriptions of the economy and the feedback from increases in temperature to the economic variables.
There are several groups around the world currently developing global-scale complex IAMs. Six of these groups participated in the recent Shared Socioeconomic Pathways (SSP) modelling project, which will serve as the basis for the no-policy baseline and mitigation scenarios featured in the IPCC Sixth Assessment Report. These are:
The Model for Energy Supply Strategy Alternatives and their General Environmental Impact (MESSAGE), developed by the International Institute for Applied Systems Analysis (IIASA) in Vienna, Austria. This model has a detailed energy system that aims to meet demand at lowest cost. MESSAGE is usually also coupled with IIASA’s detailed Global Biosphere Management Model (GLOBIOM) to account for land-use and ecosystem changes.
The Integrated Model to Assess the Global Environment (IMAGE), developed by the Netherlands Environmental Assessment Agency (PBL). This is oriented towards environmental problems – with a detailed, grid-scale land-use module – and does not directly model the economy. It can be linked to numerous other modules to assess air pollution, flood risk and biodiversity loss, among others.
The Asia-Pacific Integrated Model (AIM), a collaborative programme of research institutes in several Asian countries. It has one of the more fully-featured economy models, covering individual sectors from food products to iron and steel and construction. AIM is also sometimes referred to as AIM/CGE, reflecting the Computable General Equilibrium utilised in that version of the model.
The Global Change Assessment Model (GCAM), developed by the Pacific Northwest National Laboratory in Washington State, along with a large group of contributors across the academic community. GCAM is known for its open-source code and for its focus on exploring uncertainty.
The Regional Model of Investments and Development (REMIND), developed by the Potsdam Institute for Climate Research (PIK) in Germany. REMIND has been coupled with the Model of Agricultural Production and its Impact on the Environment (MAgPIE) to incorporate land-use characteristics. It has a detailed energy system model and a simple economy. Using “perfect foresight” and technology “learning by doing” it can identify optimal pathways although they have high upfront costs.
The World Induced Technical Change Hybrid (WITCH) model, developed by a number of Italian organisations including Fondazione Eni Enrico Mattei and the Centro Euro-Mediterraneo sui Cambiamenti Climatici. WITCH is often coupled with IIASA’s GLOBIOM for land-use. It has a particular focus on use of game theory to explore co-operative versus non-cooperative climate action. WITCH also models technology cost reductions through “learning by doing” and “learning by researching”.
These IAMs all use the “Model for the Assessment of Greenhouse Gas Induced Climate Change” (MAGICC), a simple climate model developed by Prof Tom Wigley at the US National Center for Atmospheric Research (NCAR) and colleagues. MAGICC translates emissions into atmospheric concentrations, radiative forcing and global average temperature change. It can be run much more quickly than more complex General Circulation Models (GCMs) or Earth System Models (ESMs). MAGICC allows IAMs to easily determine what emission trajectories are required to meet mitigation targets, such as maintaining warming “well below” 2C above pre-industrial levels.
Source: (Carbon Brief, 2018[25])
Data and monitoring
Finland is part of the United Nations Framework Convention on Climate Change (UNFCCC), the Kyoto Protocol and the Paris Agreement. Under these international agreements, Finland provides information on its national greenhouse gas emissions by source for all greenhouse gases not controlled by the Montreal Protocol on Substances that Deplete the Ozone Layer (United Nations, 2022[26]). As a member of the EU, Finland has reporting obligations under Regulation (EU) 2018/1999 on the Governance of the Energy Union and Climate Action.
In Finland, Statistics Finland is responsible for compiling and monitoring data on greenhouse gases and the Energy Market Authority is the registry administrator for the EU-ETS scheme (Government of Finland, 2020[27]). The evidence suggest that emissions are falling more rapidly in those sectors covered by the EU-ETS compared to effort-sharing sectors. It is important that these data are made available to the research community in order to enable assessment of government policies. Many countries lack detailed data on greenhouse gas emissions; in this context, Finland could have a comparative advantage. These data can be used to assess differences in carbon tax levels across time/sectors/regions, for instance, to estimate its impact on emissions (Parry and Wingender, 2021[28]). Also, a system to monitor natural hazards should be put in place to anticipate risks and enable planning to minimise fatalities and economic costs (United Nations, 2017[22]). At the EU level, the European Flood Awareness System plays this role. Similar systems should be put in place for all relevant natural physical risks.
The Ministry of the Environment draws up an Annual Climate Change Report that describes the trends of emission reductions in Finland and implementation of emission reduction measures and their adequacy relative to the targets. The report is submitted to Parliament, and it serves as the basis for public discussion on climate change mitigation and adaptation.
Budgeting and planning
It is essential that mitigation and adaption policies are properly incorporated in the macroeconomic projections underpinning the budget process. The macro-climate models used to assess the impact of mitigation and adaptation policies on climate targets and budget outcomes should be used to create the macroeconomic projections at the basis of the budget figures. This would ensure consistency between climate targets and budget figures, ensuring that mitigation and adaptation policies are reflected in fiscal plans.
The formulation and implementation of the different adaptation and mitigation policies could be managed by different ministries, but the Ministry of Finance should be in overall charge of assessing their economic and budgetary impacts. A few countries have developed “tagging” schemes to keep track of the environmental content of different spending and revenue items (OECD, 2021[2]). While tagging serves the purpose of monitoring green spending and revenues, it does not ensure consistency with government green targets. To make the budget process consistent with government green targets, it should start by defining the mitigation and adaptation policies able to deliver on these targets. The Ministry of Finance should co-ordinate this process, setting the guidelines and collecting the relevant information from line ministers.
Fiscal planning and budgeting are key elements of governments’ strategies to deal with climate change and work towards achieving carbon neutrality. Nationally Determined Contributions (NDCs), climate dimensions of Sustainable Development Goals as well as other national environmental objectives need to be translated into granular government policies. This means incorporating them into policy planning and budget allocation decisions. Many governments use medium-term policy planning allows to align short-term and long-term priorities to ensure that present-day actions are informed by future environmental developments. At the same time, the medium time horizon of 5-10 years is sometimes overlooked in environmental efforts as governments can be consumed by focusing on long-term targets or immediate action.
The large majority of OECD countries has already taken steps to incorporate climate commitments into domestic expenditure and tax policies. This can be done through various measures regarding both climate change mitigation and adaptation. Nonetheless, the overall reality of government spending still falls short of the systemic change needed. Often times, spending on environmental programmes occurs in parallel to spending on programmes with an overall negative environmental impact. For instance, the OECD Green Recovery Database examined the environmental impact of COVID-19 recovery spending and found that “while USD 336 billion has been allocated towards environmentally positive measures, this is currently evenly matched by spending on measures categorised as having mixed or negative environmental impacts” (OECD, 2021[29]). This points to the need for a more integrated prioritisation of carbon neutrality objectives in fiscal planning and budgeting, for example by a better integration into sound public financial management processes and frameworks. These include the laws, organisations, systems, and procedures available to governments to secure and use public resources effectively, efficiently, and transparently (International Monetary Fund, 2021[1]). The concept of ‘green budgeting’ refers to all tools at the disposal of governments to include environmental goals into their budgetary policy making.
Green budgeting
The emergence of ‘green budgeting’ refers to budget processes to support the achievement of climate goals. According to the OECD, ‘green budgeting’ consists of four building blocks: 1) a strong strategic framework; 2) tools for evidence generation and policy coherence (see Box 10.4); 3) reporting to facilitate accountability and transparency; and 4) an enabling budgetary governance framework. Means of implementation include green budget tagging, the use of green budget statements, and a budget framework linking strategic planning and budgeting (OECD, 2021[30]).
In 2020, 14 out of 35 OECD countries reported practicing green budgeting in one way or another, with most of them using various tools and approaches. Half of the countries underpin their strategic framework with high-level political commitment or a budget law (7 out of 14 countries in both cases), and slightly fewer through administrative practice (6 out of 14). The four most commonly reported tools include ex ante or ex post environmental impact assessments (12 out of the 14 countries), environmental cost-benefit analysis (10 out of 14), carbon assessments (10 out of 14) and carbon pricing instruments (9 out of 14) (OECD, 2021[30]). In terms of creating an enabling budgetary governance environment, 7 countries report to have detailed instruction in the annual budget circular, 6 countries invest in training and skills development, and 5 have co-ordination mechanisms across government agencies (see detailed overview in Figure 10.2).
The OECD Green Budgeting Framework refers to green budgeting tools to help gather evidence on how budget measures impact environmental and climate objectives.
Green budget tagging – Classifying budget measures according to their environmental and/or climate impact.
Environmental impact assessments – Requiring environmental impact assessments to accompany new budget measures.
Ecosystem services, including carbon, pricing – Putting a price on environmental externalities, such as greenhouse gas emissions, often through taxes and emissions trading systems, to facilitate achievement of national environmental and climate goals.
Green perspective to spending review – Incorporating consideration of the impact of measures on national environmental and climate goals alongside considerations of efficiency.
Green perspective in performance setting – Integrating performance objectives related to national environmental and climate goals.
Source: (OECD, 2021[31])
Source: (OECD, 2021[30])
Notably, Finland is one of the 21 of 35 OECD countries surveyed in 2020 that is "not practicing green budgeting." See overview of countries in Figure 10.3. While some green budget tagging approaches do take place in Finland, they comprise a non-comprehensive form of tagging where only specific budgetary programmes contributing to green objectives are reviewed and identified (OECD, 2021[2]).
Source: (OECD, 2021[32])
As described in section 3, Finance ministries play a key role in facilitating the green transition through public investment and spending, taxation policies, as well as implementing fiscal management to mitigate risks and ensure the long-term sustainability of public finances. This chapter describes how peer governments are starting to integrate climate-related uncertainty and future contextual change into fiscal modelling, fiscal policy, and budgeting practices. The examples focus on opportunities for anticipatory approaches in fiscal modelling, fiscal policy, and budgeting. Where possible, reference is made to anticipatory governance mechanisms outlined in the OPSI model of anticipatory innovation governance (Tõnurist, 2021[33]).
Including climate-related uncertainty in fiscal modelling and administrative structures
Including physical and transition risks in modelling practices
Several governments have started including (physical and/or transition) climate risks in their fiscal modelling and forecasting practices, although the way they have done so varies. Some countries include the potential impact of climate risks in special reports that inform fiscal forecasting practices (e.g. Switzerland, United States, and European Union). Others include climate risks in their long-term fiscal risk or sustainability reports (e.g. the United Kingdom and New Zealand). Still other countries include fiscal impacts of climate change in their future report (the Australian region of New South Wales) or assess the fiscal impacts of measures included in a national climate agreement (the Netherlands). While some of these examples involve primarily qualitative assessments (e.g. Switzerland, the European Union – Box 10.5), others involve quantitative estimates based on different climate scenarios (e.g. the United States, United Kingdom, New Zealand, the Australian region of New South Wales) (Tamminen et al., 2022[34]; European Commission, 2020[35]). However, it is unclear to what extent these analyses or physical and transition risks are factored into decision-making about policy options.
European Commission
In the Debt Sustainability Monitor of 2019, the European Commission discusses how the climate change dimension could be considered in the debt sustainability analysis (DSA) framework through stress test analysis, alternative policy scenarios and considering mitigation/aggravating risks. It highlights the various challenges involved, including the numerous transmission channels, limitations of existing economic modelling tools, and data gaps.
Understanding long term climate impacts in Switzerland
A report on long term fiscal sustainability is published in Switzerland every four years. The initial reports focused on ageing populations, demographics and health care, which touched upon technical progress. Gradually, the inclusion of climate change became inevitable. The 2016 and 2021 Reports presented the budgetary impact of climate change in a qualitative assessment of possible impacts. The reports describe channels of impact, including national and international public expenditure on mitigation and adaptation, and the possible reduction of revenues (taxes) as both a sign and a result of changing consumption patterns. The process to introduce the fiscal impacts of climate change was led by the Ministry of Finance and followed from a widening of the perspective of the Ministry. The methods used to assess the impact of climate change and how mitigation policy could affect the budget were qualitative and the reports to do not include numbers. The reports brought the topic of fiscal sustainability and climate change to the attention of the Swiss public. The reports were discussed in the Swiss parliament and led to the demand for more quantitative analysis in the next iteration.
Source: (European Commission, 2020[35])
An example of a quantitative exercise is found in the 2016 special report of the United States Office of Management and Budget that provides preliminary quantitative estimates of the increase in expenditures on coastal disaster relief, air quality, health care, crop insurance, and wildland fire suppression. Flood risks to federal property are also highlighted, but without estimated costs. The report also analyses potential impacts to federal revenues in different climate change scenarios. For instance, it estimates a loss of 4% of global GDP in a four degrees warming scenario. The report clearly describes that the assessment only includes a small part of the total fiscal risks. The estimates do not include elements that are difficult to quantify, such as biodiversity loss and ocean acidification. Therefore the actual fiscal risks are likely to be much greater. (Executive Office of the President of The United States, 2016[36])
The 2021 Fiscal Risks Report of the United Kingdom’s (UK) Office for Budget Responsibility (Government of the United Kingdom, 2020[37]) also includes a quantitative assessment of climate transition risks. It is based on long-term scenarios of the UK Climate Change Committee, including economic costs and savings analyses and work of the Bank of England on the price of carbon necessary to achieve net-zero and its economic implications. The report concludes that meeting net-zero will leave GDP 1.4% lower than the hypothetical counterfactual path in 2050 and public debt 21% of GDP higher. The report focuses solely on transition costs and efforts to adapt to a changing climate and does not include the possible positive impact of prevented climate damage and risk, given the minor role the UK plays in terms of global emissions (Agarwala et al., 2021[38]; Tamminen et al., 2022[34]).
The government of New South Wales (Australia) conducted a physical climate risks assessment in preparation of the Intergenerational Report 2021-22. The report presents a snapshot of the future 40 years ahead to inform policy-making and looks at how the population, economy, and finances of NSW may change based on global and local trends and current policies (Wood, Beauman and Adams, 2021, p. 60[39]). The report includes the modelling of fiscal economic impact of physical climate risks in a separate textbox. It includes the overall economic impact of four key climate risks: natural disasters, sea-level rise, heatwaves, and the impact of changes in the climate on agricultural production. Computerised General Equilibrium (CGE) modelling has been used in combination with the Treasury’s Long-Term Fiscal Pressures Model to estimate the fiscal impacts of physical risks under three climate scenarios: a lower, intermediate, and higher warming scenario. The inclusion of physical climate risks in the NWS report presents a break from the past where ‘a no climate change’ scenario was the reference point. The climate risks are presented as indicative economic and fiscal impacts aimed at “demonstrating the potential scope and scale of the challenge.” (Wood, Beauman and Adams, 2021, p. 60[39]).
Organisational capacity for climate risk modelling
Climate risk modelling seems to occur either within existing governance structures for fiscal modelling or in newly created governance arrangements. For instance, in the UK and US, the Treasury is in the lead, while in the Netherlands, the independent fiscal institution CPB is responsible for fiscal modelling. Other countries have established new governance structures or networks, like New Zealand and Denmark (Tamminen et al., 2022[34]). These latter two examples illustrate how networks and partnerships can be instrumental in building anticipatory governance capacity in this area.
The United Kingdom’s Treasury has a broad mandate as both economic and finance ministry, and therefore, climate issues are integrated in the Treasury’s role (Box 10.6). The UK Climate Change Act of 2008 established a Committee on Climate Change that advises the government. The Committee’s advice to review how the transition costs will fall led to establishing the Net Zero Review team within the Treasury. In addition, the preparation for the COP26 Presidency boosted resources and capacity for climate-related work in the UK Treasury (The Coalition of Finance Ministers for Climate Action, 2022[16]).
The first Net Zero Review was commissioned by the United Kingdom’s Treasury in 2006, and explored the costs and challenges of getting to net zero as well as the levers to fund the transition. In 2008, the UK established the Climate Act, which envisions a net zero economy by 2050. Following the Climate Act, new governance structures were established to set and monitor the interim targets of carbon budgets every four years and the continued delivery against the targets. These structures include the Climate Change Committee (CCC), an independent body, which presents annual progress report to government; the Climate Action Committee, a committee chaired by the Prime Ministers which meets quarterly to monitor and co-ordinate delivery; and the Climate Action Strategy Committee, chaired by the Secretary of State for Business, Energy and Industrial Strategy and focusses on operational delivery. In additional, committees of senior leaders and civil servants are responsible for delivery in specialist areas.
The primary responsibility for delivery on the net zero strategy lies with the Department for Business, Energy, Industry Strategy (BEIS). The Treasury considers it its role to support the transition and ensure it is capable of providing a critical challenge to spending bids. The Treasury has gradually increased its institutional capacity to participate in the transition to a total of two dozen core staff currently working on climate matters. Responsibilities of this team include shadowing colleagues in BEIS, analysing the fiscal impact of transitions and policy levers for delivery on the transition (e.g. employment), as well as making sense of the budgetary information needed at ministerial level to monitor progress.
The delivery of the Net Zero Strategy is funded through the Treasury’s spending review process, which sets the budget for government departments every three years, and interim budgets every year. In these regular spending allocations, the Treasury requests that departments include climate impact information when they put forward bids for spending. In addition, the Treasury introduced new budgeting processes through the Green Book, a set of guidelines for government departments to conduct cost-benefit-analyses in line with climate targets. The Green Book, developed with input from academics and subject matter experts, mandates that all new government projects must assess emissions impacts (e.g. through standardised carbon metrics).
These approaches aim to address fragmentation that results from spending responsibility historically devolved to individual units in the Treasury. Some challenges remain with ensuring that government departments have the capability and capacity to conduct the climate impact analyses outlined in the Green Book, and that there are incentives for transparency. The Treasury must ensure that it can track delivery of such a wide portfolio across many departments and translate the guidelines to local government level, where delivery mechanisms are devolved to local authorities. In addition, balancing climate matters with other priorities such as security and allowing space for public debate about the UK’s progress are challenging.
Source: (Government of the United Kingdom, 2021[40]; Government of the United Kingdom, 2021[41])
New Zealand provides an interesting example of building research and modelling capacity and strengthening the climate policy advice for various ministries, including the Treasury. New Zealand formed a special Climate Change Commission in 2019 with the Climate Change Response (Zero Carbon) Amendment Act. The Commission provides independent, expert advice to the government on mitigation and adaptation measures and monitors and reviews the government’s progress. It has strengthened modelling capacities and transparency (e.g. energy and emissions bottom-up model, a CGE model, and a microsimulation model) and works closely with various ministries. For instance, a cross-agency meeting on climate change-related modelling is held every four weeks with senior analysts (Tamminen et al., 2022[34]).
In Denmark, researchers and public officials from the Finance ministry collaborate on the so-called ‘Greenreform model’ and modelling capacities. The GreenREFORM project aims to develop a climate-economic model for the Danish economy that can be used as a tool to assess the environmental and climate effects of economic policies, as well as economic effects of environmental and climate policies. Before new policies are proposed in Denmark, an analysis is undertaken to estimate and weigh possible effects. The ambition of the GreenREFORM project is to make it possible to estimate climate and environmental impacts of economic policies along with traditional budgetary and fiscal objectives. While the Greenreform model is developed and maintained mainly by the Danish Research Institute for Economic Analysis and Modelling (DREAM), the Ministry of Finance has been closely involved in the process (see Box 10.7) and people in the ministry can also run the model. Other actors are involved as well. The Statistical Office, for instance, provides data and input development together with the Danish Energy Agency and Technical University of Denmark. The Danish Ministry of Finance has emphasised the importance of political buy-in to build this kind of modelling capacity building (Tamminen et al., 2022[34]; OECD, n.d.[42]).
Denmark introduced a legally binding framework to deliver climate policy, with a target of a 70% reduction in carbon emission by 2030. The structures that support the co-ordination and implementation of the target is overseen by an independent panel, the Council on Climate Change. It provides recommendations for action to government in February each year. By April, government publishes the statistics on the baseline and by September, the Minister of Environment announces the climate programme for the year, which must detail the government’s plan for meeting the 2030 target (for example, a list of technologies and what policies they require). Implementation decisions are made based on cost estimates for the proposed roadmap. The Minister of Environment has accountability for demonstrating progress against the targets and can be dismissed for lack of progress.
The Ministry of Finance is involved in the funding decision for the transition and has the role of monitoring excessive spending. The transition is funded from several sources. Some funding comes from the yearly budget allocations for individual ministries managed by the Ministry of Finance. In addition, the Ministry of Finance and the Ministry of Environment hold weekly cross-government ministerial meetings on finances to reach joint decisions on financing green activities proposed by the Green Council, which co-ordinates climate-related initiatives. The guiding principle for funding the transition is that the proposed initiatives must not have a contrary effect on Denmark’s public finances (for instance, closing down sectors that are high in carbon emissions). Another source of input and funding for the transition roadmap is the Green Business Forum, a partnership of 13 sectors (e.g. finance, food, agriculture, aviation, energy and industry) which creates a space to discuss the climate targets with CEOs from industry. Through the Forum, sectors present recommendations to the government on how they will contribute to reaching the goals.
Source: (Government of Denmark, 2020[43]; 2021[44]; 2022[45])
In the Netherlands, anticipatory data and sense making has informed updates to Dutch climate measures, taking into account quantitative and qualitative data from across different sectors. This depends on strong collaboration mechanisms between different parties – Box 10.8. The cabinet and House of Representatives asked the CPB Bureau for Economic Policy Analysis and PBL Environmental Assessment Agency to analyse the costs and climate effects of 122 measures in five sectors included in the Climate Agreement of 2019. While CPB analysed the budgetary effects, the financial burden, income effects, and the burden sharing of the various measures (including regulations, spending, and taxes), PBL assessed the climate effects of the measures. After the PBL concluded that the cabinet’s climate goals would not be within reach with the measures in the initial agreement, the cabinet introduced extra measures. The CPB analysis of the second Climate Agreement concluded that it was still not enough to reach the cabinet’s climate goals but also pointed out that not all proposed policies could be included in the analysis, accounting for uncertainty in evaluating future-oriented policies. PBL also published about cost-effective options for climate policy in the past and plays an important role in monitoring Dutch climate policy, assessing yearly whether future climate goals are still within reach, which is included in the Climate Act. As such, PBL is an important institutional structure in the Dutch policy-making environment with a high degree of autonomy and organisational capacity to explore and evaluate policy options. The inclusion of the role of PBL in the Climate Act builds trust and legitimacy in future-oriented government policies.
The Netherlands’ climate target is to reach a 60% reduction of CO2 emissions by 2030 and was written into law through the 2019 Climate Act. The law requires yearly independent reviews to assess the government’s progress in reaching the target. Policy recommendations made by the independent committee are taken on by government for implementation. The Ministry of Economic Affairs and Climate Policy is responsible for centralised co-ordination of climate measures in government across areas such as housing, infrastructure, or agriculture. The main forum for discussions and decisions on climate policies is a ministerial committee with all ministers present. While in previous government periods, there was a strong focus on engagement with societal actors to set targets and discussion with actors to get there, the current approach prioritises central government co-ordination.
The Ministry of Finance has a role in determining the effectiveness of individual measures.
Source: (Government of the Netherlands, 2022[46])
The independence of PBL – and its partner agencies CPB Netherlands Bureau for Economic Policy Analysis (see Box 10.9) and the Netherlands Institute for Social Research (SCP) – is safeguarded in the Protocol for the Policy Assessment Agencies : (Government of the Netherlands, 2022[46]). These institutions stabilise the political process as both public officials and politicians rely on the independent knowledge generated by them. Although these institutions are technically part of the executive branch (as agencies), they enjoy considerable independence. They are widely trusted and respected for creating a level playing field between political parties, and have relatively easy access to information held by ministries.
CPB publishes projections of national and global economic developments that are the official basis for the government budget. In addition to quarterly forecasting, the CPB conducts medium-term baseline projects every four years before parliamentary elections, offering a starting point for political parties and input for coalition negotiations after elections. The results are also discussed in a meeting of the Budgeting Framework Commission: a body chaired by the Ministry of Finance and composed of top civil servants and the CPB Director and Central Bank director. This Commission traditionally advises the future new coalition government on sound fiscal policy. The CPB also assesses budgetary and economic consequences of measures presented in election manifestos, including not only short-term effects on economic growth and public finance but also long-term effects, equity issues, and the environment. Finally, following elections, CPB is usually asked to analyse the measures included in the Coalition Agreement.
Source: (Government of the Netherlands, 2022[47])
Including climate-related uncertainty in fiscal policy
Towards a new EU fiscal policy?
EU fiscal policy aims to ensure that the underlying fiscal position of Member States is conducive to fiscal sustainability while allowing for the operation of the automatic stabilisers over the economic cycle. In addition, EU fiscal policy aims to avoid the impact of unsustainable debt of one country to affect others. Two so-called ‘anchors’ have guided EU fiscal policy over the medium term: the budget deficit (3% of GDP) and the debt ratio (60% of GDP). (Ilzetzki, 2021[48])EU fiscal policy has been reformed several times in the face of new challenges (see Box 10.10) and is likely to change again to deal with carbon neutrality challenges.
In the mid-2000s, the Stability and Growth Pact (SGP) was reformed, following infringements by Germany and France, which made the rules more countercyclical by setting targets for the (unobserved) structural fiscal balance. The objective was to ensure that the underlying fiscal position of Member States is conducive to fiscal sustainability while allowing for automatic stabilisers to do their work. However, the reform was deemed unenforceable because of uncertain estimates of potential output. The global financial and euro area crises resulted in further innovations, including the establishment of the European Stability Mechanism, which can lend to euro countries facing funding difficulties and the introduction of independent national fiscal councils. The recent COVID-19 crisis triggered the SGP’s escape clause and led to EUR 672.5 billion in assistance through the NextGenerationEU Recovery and Resilience Facility (NGEU), including loan and grant assistance, financed partly by borrowing at the EU level.
Source: (European Commission, n.d.[49]; n.d.[50])
Significant public investments are needed to deliver on the European Green Deal. At the same time there is a need to consolidate deficits to create buffers for a new crisis and comply with existing EU fiscal policy rules (Barbero, 2021[51]). There is a risk that politicians prefer cutting long-term green investment instead of current spending, because future generations have less electoral support and fiscal rules disadvantage investments by treating them as ‘current expenses’, even though the benefits of investments accrue over long periods. Proposals for a so-called ‘green golden rule’ - excluding net green investment from the fiscal indicators used to measure fiscal rule compliance – is one possible option to address this issue (Darvas and Wolff, 2021, p. 22[52]). Other proposals to reform EU fiscal policy include the replacement of rules with norms or increasing the fiscal capacity at the EU level (Ilzetzki, 2021[48]). The EU already issued NextGenerationEU green bonds to finance part of the recovery facility to finance green and sustainable investments across the EU. Several countries have also issued green bonds, including the US, France, Germany, and the Netherlands.
There are signals that a more long-term approach to EU fiscal policy is underway (European Commission, 2021[53]). The European Fiscal Board and others have proposed a simplified two-tier framework that consists of an expenditure rule linked to a debt anchor that would reduce the complexity of the fiscal rules and better align fiscal stabilisation with fiscal sustainability challenges (European Fiscal Board, 2021[54]). Within this proposal, adjustment requirements could be calibrated to ensure compliance with the debt adjustment path over a ten-year forward-looking horizon (European Central Bank, 2021[55]). Although this approach is more long-term and thereby creates some incentives for anticipation, it will most likely still be based on relatively predictable measures in the short and medium-term, to be able to measure compliance of member states.
Anticipatory fiscal policy in New Zealand
New Zealand’s Public Finance Act requires governments in New Zealand to consider the likely impact of their fiscal strategy on present and future generations, thereby including the notion that fiscal strategy decisions today have long-term consequences. It is an example of how legislation can create an authorizing environment to take future generations explicitly into account in today’s decision-making. The act does not prescribe how governments must incorporate intergenerational considerations in their decision-making, thereby accepting uncertainty around how fiscal strategy will affect different generations and implying the need for value judgments to weigh living standards of different generations (Hughes, 2021[56]).
Moreover, there is an understanding that challenges like climate change and an aging population jeopardise the governments’ ability to meet the needs of future New Zealanders and that there is a need to make forward-looking decisions now to anticipate and adapt to changing trends. “New Zealand’s capacity to deal with future fiscal pressures depends on governments and individuals’ ability to make forward-looking decisions that anticipate and adapt to changing trends” (Hughes, 2021[56]). It is emphasised that this is not “a prediction of what will happen, but a signal of what should be avoided.” (Hughes, 2021[56]). To support intergenerational well-being, fiscal strategy choices must be both sustainable and equitable. While fiscal sustainability requires the government to meet its inter-temporal budget constraint, intergenerational equity requires a value judgment about how to weigh the living standards of current and future generations. As such, New Zealand’s fiscal framework explicitly addresses interests and biases in thinking about the future (vested interests and cognitive biases).
Whereas the Fiscal Framework legislates overarching principles and requirements for governments’ fiscal strategies, the Fiscal Management Approach sets out a flexible set of non-legislated operational ‘rules’ to assist governments in achieving their fiscal strategies in day-to-day practice. The so-called Living Standards Framework, for instance, aims to help the Treasury provide economic advice that considers the well-being effects of policy choices across people, places, and time (Hughes, 2021[56]). The Living Standards Framework can be seen as an example of a tool that creates new knowledge to inform fiscal policy decisions and make sense of intergenerational well-being.
New Zealand’s fiscal policy is accompanied by a well-being budget, an example of outcome-based budgeting. The well-being budget is based on the notion that any new spending must advance one of the government priorities (which includes the priority of the transition to a low-emission sustainable economy). It provides incentives for Ministers to collaborate on funding proposals that fit these criteria and thereby challenges silos. In addition, by design, it has a future-oriented approach (see Box 10.11), as it focuses on outcomes that meet the needs of present generations while also thinking about the long-term impacts for future generations. Finally, the design of this budget includes tracking well-being progress with broader measures of success that include the health of the country’s finances, natural resources, people, and communities. New Zealand’s well-being budget is an example of how budgeting can be a powerful tool for anticipatory decision-making (Well-being Economy Alliance, no date)
New Zealand is taking several anticipatory and bold actions in the area of fiscal and economic policy to address their climate change ambitions while ensuring fiscal responsibility and sustainability. As an overarching example of a future-oriented approach, New Zealand’s Public Finance Act requires governments to consider the likely impact of their fiscal strategy on present and future generations, thereby including the notion that fiscal strategy decisions today have long-term consequences. The following are additional examples of anticipatory innovation in the area of fiscal and economic policy as well as administrative steering structures.
1. The Government has announced the establishment of the Climate Emergency Response Fund (CERF), to take effect from Budget 2022 onwards to “make progress in addressing climate change from a Government perspective, a new approach to the Budget process is required as we make significant investments across multiple budgets. To drive this, the Government is establishing a Climate Emergency Response Fund (CERF) which will be allocated towards initiatives that help us meet our climate change objectives. For Budget 2022, the CERF will focus on initiatives and programmes aimed at delivering the emissions reductions outlined in the Government’s first Emissions Reduction Plan.” (2021 Budget Policy Statement). The fund attempts to address the problem of long-term issues getting crowded out by shorter year-to-year budget pressures but can also be adjusted in future budgets to account for new information and evidence.
The size of the CERF is based on the proceeds of New Zealand’s Emissions Trading Scheme (ETS). It has been established with USD 4.5 billion, based on the Treasury’s forecasts of ETS proceeds over the period from 2022/23 to 2025/26. Future fiscal costs relating to climate change are not easy to predict but the CERF is an enduring multi-year fund; the size of which will be reviewed annually. The CERF’s criteria will also be reviewed regularly, including an intention to consider criteria for the inclusion of adaptation from Budget 2023 onwards.
2. The Treasury’s Living Standards Framework (LSF) is a flexible framework designed to prompt thinking about policy impacts across the different dimensions of well-being, as well as the long-term and distributional implications of policy. It frames the Treasury’s wider thinking as well as design of processes including the annual budgets. It is designed to complement rather than replace other tools such as He Ara Waiora (a framework for the worldview of Maori), or cost benefit analysis. Core to the LSF is the concept of four capitals (natural, social, human and financial/physical). With its long-term view, the LSF helps New Zealand acknowledge and manage long term uncertainties (The New Zealand Treasury, 2021[57]).
3. Scenario-based long term economic and fiscal modelling is an important part of framing long-term uncertainty. The most recent published example is the Treasury’s Long Term Fiscal Statement which looks out to 2061 including scenarios on the fiscal and economic impacts of a changing climate (The New Zealand Treasury, 2021[57]).
4. To the extent possible New Zealand also attempts to observe and learn from networks engaged in innovative work in other nations to understand long term impacts, such as bilateral discussions with the UK Office of Budget Responsibility on the framework they used to quantify the long-term fiscal impact of mitigation policy in the UK (Government of the United Kingdom, 2020[37]).
5. Having a ‘portfolio’ of policy responses has been an important principle in the development of New Zealand’s Emissions Reduction Plan and the National Adaptation Plan. A portfolio of different approaches can balance the need for quick actions, where the evidence for intervention is stronger, versus the need to start work on harder issues with uncertain outcomes to reduce emissions (or increase resilience) over the longer-term. It can also balance risk across the different levers of climate policy e.g. emissions pricing, regulation, direct government investment or tools to crowd-in private sector investment. This and other fundamental fiscal settings have been important for New Zealand in the past, for example in absorbing the impacts of major earthquake events over the 2010 – 2018 period.
Finally, New Zealand recognises that climate is an existential issue but also ‘not the only transition in town’. They view climate policy alongside other difficult or uncertain transitions in realms such as technology, productivity, demographic change, health (e.g. recent COVID-19 pandemic), housing and so on, recognising that policies that can deliver positive outcomes on multiple transitions will often tend to be more efficient and enduring.
Source: (OECD, 2012[58])
Tracking climate-related expenditure and treatment of uncertainty
EU perspective on tracking climate-related expenditure
Recent initiatives developed at the EU level are also relevant in this regard, like the methodology for tracking climate-related expenditure across the EU funds and within the EU 2021-27 Multiannual Financial Framework (MFF) and the Commission’s taxonomy on environmentally sustainable activities. (European Commission, 2021[53]) While for the MFF the EC developed objective-based ‘EU Climate Markers’, the EU Taxonomy is green activity-based and considers multiple environmental objectives. The lack of internationally agreed-upon methodologies to identify climate change-related expenditures in public sector budgets limits international comparison and can also result in ‘undertagging’ or ‘greenwashing’ (OECD, 2021[59]). In addition, most countries do not tag expenditures that have an adverse impact on the environment. An exception is France, that ranks activities in five categories, the last being ‘unfavourable’, including subsidies for fossil fuels, tax expenditures for airlines and shipping, and energy-intensive manufacturing, construction, and agroindustry (World Bank, 2021[60]).
Green budgeting
While green budgeting can be a powerful tool to help governments integrate climate change considerations into the planning and budget process, further case research is needed to understand the respective roles of Finance and line ministries and to explore how ‘green budgeting’ practices can inform anticipatory decision-making and create anticipatory learning loops. A recent review of climate budget tagging used in developing countries reports evidence of improvements in awareness-raising and accountability, but also states that “it is difficult to determine tagging’s impact on budget allocations and decision-making” (World Bank, 2021[60]).
While green budgeting practices may bring additional attention to carbon neutrality within public financial institutions, it is unclear whether they can address the uncertainty and interconnectedness of the topic. The practices are inherently quantitative and may not sufficiently consider the intentional and unintentional knock-on effects of policy measures, social and behavioural impacts, and measures that may have an impact over a longer period of time than the green budgeting cycle. Reforming the budget process with anticipation in mind is likely to be much harder than that of planning processes because of the vested interests and entrenched actors who understand that the budget process is the ultimate mechanism through which resources are appropriated and distributed. Green budgeting is a promising practice that can raise awareness and attention on carbon neutrality as part of budget decision-making processes and can increase legitimacy for investments, but should only be considered as part of an anticipatory approach.
This section describes existing and new tools & methods to assess policy options, including supporting the exploration of alternatives. Cost-benefit analysis is an important and well-established budget tool used in many OECD countries to assess an investments’ ex ante desirability and compare policy alternatives, especially when large public investments are at stake. The tool is designed to demonstrate whether or not the long-term benefits of a project are greater than its costs (OECD, 2015[61]). The method was initially developed for infrastructure investments but has increasingly been used in other policy areas, such as health care and environmental policy.
Environmental impacts have been increasingly included in cost-benefit assessments. At the same time, there are discussions on how to value costs and benefits that occur far into the future, like climate change, and how the social discount rate – used to weigh and compare impacts across time and based on the assumption that societies attach more value to something now than in the future - becomes problematic in an intergenerational context. Recent literature suggests applying risk-free, public, and long-term interest rates when evaluating climate change, which gives more weight to future impacts. More problematic in the CBA approach is the assumption that costs and benefits are reasonably predictable and quantifiable and that economic structures stay largely the same, while uncertainty is a given in the case of a transition and decarbonisation policies are precisely aimed at transforming energy systems and economic structures. (Grubb et al., 2021[62])
Some have argued that in the context of transformational change and an uncertain future, the assessment of policies should be more aimed at finding points of leverage, rather than precisely predicting outcomes. Instead of trying to forecast the future and optimise an outcome in a world of certainty, governments increasingly have to get involved in steering change in a largely uncertain future. The UK government has recognised this and revised the UK governments’ guidance on policy appraisals (the Green book) after a review carried out in 2020 (HM Treasury, 2020[63]). The new guidance emphasises the need to consider dynamics, including feedbacks and tipping points, as well as uncertainty and risk (Government of the United Kingdom, 2020[37]).
In the literature, the use of risk-opportunity assessments for policy selection is being advocated in the context of transformational change instead of cost-benefit analyses (Sharpe et al., 2021[64]). In this approach, the direction and magnitude of change should be analysed, and policy options should be chosen based on a qualitative judgment of the scale of the opportunities and risks, compared to the cost of the intervention (Geels, Pinkse and Zenghelis, 2021[65]).The Economics of Energy Innovation and System Transition (EEIST) project has, for instance, developed a framework to support decision-making through Risk-Opportunity Analysis. (Grubb et al., 2021[62]) Instead of counting identified costs and benefits, ROA involves mapping both risks and opportunities and considers all potential effects of a policy, even if a number cannot be put on them. Moreover, in addition to expected outcomes of policies at a moment in time, ROA also considers processes of change in the economy.
Another approach found in the literature is so-called Robust Decision Making (RDM), which does not use models and data as a predictive tool but runs models numerous times to “stress test proposed decisions against a wide range of plausible futures” (Tamminen et al., 2022[34]). The resulting large database of ‘model runs’ can help decision-makers identify the key features that distinguish futures in which their plans meet and miss their goals. This in turn can help them “identify, frame, evaluate, modify, and choose robust strategies—ones that meet multiple objectives over many scenarios” (Tamminen et al., 2022[34]). An example is an analysis by Molina-Perez of the question under what conditions the Green Climate Fund’s investments can enable the diffusion of technology to meet the Paris objectives (Molina-Perez, 2016[66]).
Future-oriented decision-making related to carbon neutrality
As climate-related uncertainty is often not yet (entirely) integrated into fiscal policies and budgeting processes, in practice, decision-making related to carbon neutrality also takes place despite existing fiscal policies and budgeting processes. In the Netherlands, for instance, the government has taken some bold decisions in recent years to anticipate the future, thereby partly side-lining existing fiscal rules and budgeting processes and/or establishing creative structures that allow for anticipation alongside existing budgeting structures and processes.
In 2015 the Dutch cabinet decided, for instance, to establish a Dutch Deltaprogram that is financed by a separate Delta fund, backed up by a Delta Act, and managed by a Delta Commissioner, a politically neutral process co-ordinator positioned in-between the responsible Minister and Cabinet and above administrative parties. This governance arrangement aims to move climate adaptation policy away from everyday battles over short-term interests and financial resources. Instead, delegated decision-making occurs among ministries, provinces, local authorities, and water boards co-operating on regional strategies, adaptive delta management, and long-term options. The establishment of a separate governance structure and fund enables alternates exploration, governance through networks & partnerships, and public participation. Citizens are involved through so-called ‘Living Labs’, a research environment in which research and innovation are based on co-creation and participation.
Another example is the decision of the Dutch cabinet in 2019 to diverge from its own fiscal rules after a Climate Agreement and Pension Agreement was reached with multiple stakeholders. As these agreements were negotiated with important societal stakeholders, they enjoy political legitimacy. It resulted in the cabinet breaking with the multi-annual revenue and expenditure ceilings established at the start of the government term and with the rule of having one integrated moment of budgetary decision-making a year. The cabinet’s decision to diverge from these well-established fiscal rules was justified by the societal importance of both agreements and the expected long-term positive impact.
Yet another example is the National Growth Fund established in 2020, an investment fund for which the Dutch state lends money. It was prepared by the Ministry of Finance and the Ministry of Economic Affairs and has been created to prepare the Dutch economy for the future. The Growth Fund invests in earning capacity to safeguard Dutch prosperity in the future and is placed at a distance from politics. An independent commission led by Jeroen Dijsselbloem (former Finance Minister and Chairman of the Board of Governors of the European Stability Mechanism) was established to review investment proposals. In the first tranche, EUR 1.35 billion was allocated to projects relating to artificial intelligence, regenerative medicine, health data infrastructure, quantum technology, and hydrogen/green chemistry. In addition, the most recent Coalition Agreement of the new Dutch government published at the end of 2021 includes EUR 35 billion for a Climate and Transition fund for the next 10 years to prepare the country for a future carbon-neutral economy. These examples illustrate how establishing separate Funds and accompanying institutional structures can secure long-term commitments and create an enabling environment for anticipatory innovation alongside more ‘traditional’ fiscal and budget structures and processes.
Conclusions from peer cases
Carbon neutrality goals and climate-related uncertainty are spurring innovations in fiscal modelling, fiscal policy, and budgeting practices in various countries. There are opportunities to integrate climate scenarios and risks into fiscal modelling practices through both quantitative and qualitative approaches. The examples illustrate that including climate change uncertainty into fiscal modelling practices requires skills and capacities that can be either built-in existing governance structures or created within newly established governance structures. Given the challenges to quantify climate-related risks and uncertainty, combining fiscal forecasting based on quantitative modelling with qualitative foresight could be interesting to explore further. Similarly, it is interesting to further explore alternative approaches to cost-benefit analysis, such as risk-opportunity assessments and/or robust decision-making.
Although fiscal policy measures for carbon neutrality (like a carbon tax) are widely discussed and implemented, fiscal policy frameworks and accompanying budget processes often do not (yet) facilitate anticipatory decision-making. An exception is New Zealand’s, whose fiscal policy and accompanying well-being budget demonstrate that a more anticipatory fiscal policy and budgeting approach requires both a proper assessment of the impact of fiscal policy on different generations, and explicit value judgments of those impacts. It underlines the importance of public officials and politicians’ shared responsibility for building anticipatory innovation capacity.
The emergence of ‘green budgeting’ also provides opportunities to integrate climate change considerations into budget policies and processes. However, only ‘tagging’ climate-related budgets and assessing green spending and revenues ex ante and ex post does not guarantee a systemic whole-of-government approach to steering carbon neutral targets. Moreover, further research is needed to understand if and how the described developments in fiscal modelling, fiscal policy, and budgeting can enable future-oriented decision-making related to carbon neutrality. In practice, anticipatory decision-making related to carbon neutrality is challenging existing ‘traditional’ fiscal and budgetary policies and resulting in new governance structures. Therefore, mechanisms of anticipatory innovation governance seem to be emerging both within and parallel to existing more ‘traditional’ government structures.
Analysis of academic and policy literature on the international and Finnish context, international case studies, and consultations with the stakeholders highlighted four major areas for improvement to support anticipatory fiscal and economic policy and budgeting for carbon neutrality. These areas fall into five broad categories:
1. Responsibility and urgency to act: Clear accountability, roles, functional mandates, and resources.
2. Collaboration and coherence: Overcoming silos between ministries, expert and political coherence around policy measures and information gaps, and whole-of-government sense-making and decision forums.
3. Capacity: expertise, capabilities and tools at an individual and institutional level.
4. Integration of green fiscal practices into the mainstream: alternatives exploration, dynamic monitoring and evaluation, alignment of decision-making cycles (budget, strategy, planning).
5. Holistic medium-term strategic planning: system approaches, engagement with uncertainty, bridging short term cycles and long term ambitions.
Anticipatory innovation governance mechanisms are not intended nor able to respond to all of the gaps identified without complementary action. But introducing some anticipatory innovation governance mechanisms can support the development of more future-oriented fiscal and economic policy and steering for carbon neutrality in Finland. Some analysis-informed options are presented here.
Clear responsibility and urgency to act
Uncertainty and a lack of perception of tangible effects of future climate impacts
In interviews, lack of severity and urgency around climate change was repeated, both among officials and the public at large. This is reflected in a 2021 survey (Figure 10.4) comparing EU citizen perceptions of climate change, in which it was revealed that Finland is the only country where the largest group of respondents think that their national government is doing enough to tackle climate change (40% versus 34% ‘not enough’ and 25% ‘too much’) (European Commission, 2021[53]).
Source: (European Commission, 2021[67])
It is unclear whether Finnish respondents believed attributed the sufficiency of the national government’s actions to the unimportance of the topic, the already-ambitious targets, or some other reason. In any case, in this environment of public perception, the legitimacy for additional action seems to be the lowest among all national governments the European Union. This is despite dire forecasts and the advice from external researchers that Finland’s actions are not sufficient to reach its 2035 carbon neutrality goal. Nevertheless, it is the responsibility of Finland and any government to anticipate such possible long-term impacts and take adaptive and anticipatory action in countering possible physical risks. Indeed, much of Finland’s response to climate change has come in the form of mitigation measures toward carbon neutrality goals while the physical risks and possible impacts through adaptation policies are less prominent. In effect, Finland is being a good global citizen and responding and measuring up to its international commitments to mitigate carbon, but it seems that the urgency to act to counter climate change could be based more on an extrinsic versus intrinsic motivations. In such a context, mobilising support for more anticipatory and ambitious measures could be more difficult to sell.
From a political economy perspective, it is worth noting that special attention and extra communication effort may be needed in advancing more ambitious carbon neutrality policy options, especially those that are already likely due to be unpopular due to impacts in other areas of everyday life, such as fuel taxes.
It is worth further investigation by Finnish authorities to develop a more nuanced understanding of citizens’ perceptions of the government’s actions and create “experiential futures” in which abstract notions of possible futures may be felt, experienced, and embodied in the present. Finland could also enlist the help of foresight experts and use qualitative methods such as Causal Layered Analysis to understand and then develop alternative narratives that can be communicated through targeted and mass media.
“There is an issue of awareness-raising, when the consequences of climate change are not yet felt in Finland as in a crisis, in comparison to other countries who feel the impacts already”- Finnish stakeholder
Through initial trailing of TimeOut dialogues with citizens, civil servants, and politicians, an emerging practice has emerged for engaging in complex policy issues collectively. The passage of the new Climate Act, as well as forthcoming elections, when the programme is not yet defined, opens an opportunity to build new trusted relationships and align perspectives on carbon neutrality as well as the government’s role in taking action. Further, the qualitative data and narratives summaries that could be harvested (anonymously) from participants could be an important source of anticipatory data and can aid in signal detection, shifts in public attitudes and values and can inform discussions and decisions about policy options and prioritisation. Finland should continue the Timeout dialogues as a part of regular practice in forthcoming discussions about the uncertainties around climate change and the government’s efforts towards carbon neutrality.
If extrinsic motivators and the maintenance of Finland’s global leadership image are effective motivators, Finland could “put itself on the hook” by submitting a bid to host an international climate event, such as COP29 or COP30. Finland will be put in a position to show progress against its own deadline in 2035. The UK’s hosting of COP26 was motivating for building capacity and functional mandates inside of HM Treasury and has positioned the UK better in terms of overall capacity (fiscal modelling, etc) for action toward net-zero targets (HM Treasury, 2020[68]).
Finland could consider building Carbon Twins, peer relationships with other countries with similar governance structures and similar climate forecasts or with countries who are already experiencing physical impacts from climate change. Involving peers from counterpart ministries into budgeting and policy measure development processes for climate adaptation, for instance, can be away for Finland to embody their future and learn from adaptation policies and governance structures to better plan for anticipated impacts in Finland.
Accountability for inaction
The responsibility for assessment of climate policy in Finland could be supplemented by additional accountability for inaction. For instance, in early 2022 the research community through the Roundtable on Climate Policy indicated that current policies and actions were insufficient for Finland to remain on target for its 2035 goal, but the findings are non-binding. There is some evidence that long-term climate legislation can lead to more ambitious objectives when they include internal review processes (Ecologic Institute, 2017[69]).
Legal action has been used in other countries; lawsuits allege that governments have failed to meet their legal obligations. For example, in the Netherlands, environmental NGOs and citizens went to court (Urgenda et al. v. Government of Netherlands) to demand more climate action now to safeguard future generations’ human security, which could be seen as an example of citizens and civil society demanding the government to be more anticipatory. While the legal context differs in Finland, it is still possible that other legal tools could be used by interested parties to draw attention to the state’s obligations, even if it might not have the force to compel it. The number of such cases has grown significantly in recent years, with most cases against states relying on states’ substantive human rights obligations, either to take climate action or to avoid harmful activities (Savaresi and Setzer, 2022[70]). With more emphasis in recent Finnish discourse on climate policy involving the topic of “just transitions,” this line of argumentation could gain momentum in Finland, especially once climate impacts are more tangibly felt by the public.
Functional mandates outside of the Ministry of Environment
Locked-in path dependencies, vested interests, and short-term thinking cannot be addressed through fragmented, standalone measures. The institutional environment must commit officials and decision-makers to consider the long-term and explore alternatives. The Prime Ministers Office and the Ministry of Finance, given their centre of government position and existing functional mandates and capabilities, could play more of a leading role in climate policy. This could be bolstered by implementing institutional and legal adjustments for integrating climate into the Ministry of Finance’s mandate, for instance. This would of course require high-level support within the Ministry to take on such a role as well as the dedicated time and resources to sufficiently focus on future needs in addition to supporting resource-intensive existing processes, such as the annual budget cycle.
“There is a need to build capacity and functional mandate. There is a lack of ownership and urgency of the topic. Only one senior minister considers carbon neutrality a priority topic.”- Finnish stakeholder
Finland’s Ministry of Finance could develop its own climate strategy to make a substantive stance and contribution to the topic, as many Ministries of Finance have done over the last two years (The Coalition of Finance Ministers For Climate Action, 2022[15]).
Formal central governance for climate co-ordination could be informed by the examples in the UK or Denmark and include a formal structure built around sense-making and consensus-building from different sources of input (e.g. ministerial strategies) and serve an important co-ordination, signalling and monitoring function, including building trusted relationships with Parliament.
“Things can advance at the civil servant level but then they hit a political wall. If the strategic steer cannot get through to the political level, the quality of models does not matter. There is a gaping hole between capability and the ability to mainstream the thinking.”- Finnish stakeholder
Collaboration and coherence
The implementation of activities and climate action across stakeholders and agencies requires great levels of co-ordination. Climate and economic knowledge, data and models change quickly and while interviews revealed an abundance of high-quality research available in Finland, it is "scattered across Finland" and not quickly and easily accessible to policy makers. This impairs the government's ability to detect trends and signals that could help inform better policy decisions or evaluate existing ones. Beyond the availability of knowledge, data and modelling, it was noted in several interviews that Finland lacks the ability to integrate and make sense of the data, both in government ministries and by Parliament. Analysis and sense-making capabilities should also be complemented by qualitative foresight knowledge and methods that can represent a range of future scenarios in which uncertainties can be engaged.
Deciding on carbon neutrality measures necessarily involves difficulty in considering the many trade-offs even when their concrete financial impacts are not tangible or able to be reliably forecast, nor are investments across government based on societal challenges (described as “budgeting through spreadsheets”). Collaboration is needed for not only knowledge sharing but also to serve as platforms for discussion of trade-offs and uncertainties as well as coherence between policies.
Central co-ordination role within the government
Central co-ordination of climate policy can create some neutrality, largely devoid of purely sectoral interests unlike in line ministries, and its situation in a centre of government unit lends authority to orient agencies financial and technical resources as well as co-ordinating capability (OECD, 2015[71]). A stronger central co-ordination role regarding economic and fiscal policy could advance action on carbon neutrality and create coherence between policies, measures, and budgets.
“Ministries are competing for the same funds, and trying to optimise and maximise their own share of the funds. so you don’t necessarily discuss and negotiate which of the carbon measures would be the most cost efficient funds, because you are just trying to maximise the strength of your own ministry”. – Finnish stakeholder
There is precedent for such co-ordination that could be instructive for the development of anticipatory steering structures. For instance, the Prime Ministers Office previously convened ministerial-level meetings, supported by a secretariat, to discuss and explore topics of strategic importance for which cross-ministerial solutions did not yet exist. While this group no longer convenes, it was noted by interviewees that this forum would be an ideal one to host discussions about innovative cross-Ministerial solutions and alternatives exploration toward carbon neutrality targets. A similar co-ordination body could be established again to address complex and uncertain policy topics requiring cross-ministerial co-ordination and anticipatory innovation.
The Ministry of Finance could play a stronger co-ordination role between ministries involved in advancing against carbon neutrality targets. However, the “great eminence and watchdog” role of the Ministry of Finance, as described by an interviewee, could create barriers to building active participation and more constructive discussions. Currently the Ministry of Finance negotiates separately with each sectoral ministry but could also play a more active and facilitating role in exploring carbon measures, especially those that would necessarily involve more than one ministry.
“Each administrative branch or ministry comes up with its own separate expenditure proposals within the given expenditure ceilings, and then each ministry separately negotiates their proposals with the Ministry of Finance…[without an] overall view of financial needs to solve the issue or achieve set carbon targets.” - Finnish stakeholder
The government could development incentives for cross-disciplinary formal involvement in the budget process, especially between Ministries of Environment and Finance but also line ministries and provide support, training, and knowledge to increase awareness and knowledge of each’s needs, constraints, drivers, as well as sectoral future scenarios and uncertainties.
Shared knowledge base and better links with the research community
Several interviewees noted that the research community working on climate change is strong but fragmented, with not enough links with policy-makers. The research community can expand the government’s access to anticipatory knowledge, rapid assessments to inform feedback loops with policy-makers, and lead users with the capabilities to detect and process signals of change across many sectors, all of which can affect carbon neutrality. Linkages can also inform the multidisciplinary development of models to take into account the perspectives from across policy areas.
There are good linkages between scientists and decision-makers in the form of the Finnish Climate Change Panel, which produce reports on climate mitigation, adaptation, and other topics, as mandated by the Climate Act, mostly by external researchers. The Panel has liaison officers from relevant ministries, who attend Panel meetings but are not present when issues are decided on. This Panel could not only take up more anticipatory topics but also build stronger linkages with ministries to take best advantage of the latest knowledge produced. At the moment, the secretariat for the Panel is small but could be expanded to match similar institutions in other countries.
In addition, special high-level scientific and foresight advisors could be appointed to advise ministries involved in the development of climate actions and measures. Ideally, these appointees would have backgrounds not only in climate policy but also anticipation and strategic foresight and be given the license in their roles to bring edge ideas, novel concepts, and new thinking into internal discussions.
Collaboration with industry
The Finish government sought support from domestic economic sectors, as it understood that in order to achieve an ambitious government programme for carbon neutrality it was necessary to work closely with these sectors e.g. energy sector. Led by the Ministry of Economics and Employment 13 economic sectors were given the flexibility and mandate to identify needs and solutions and engaged in road-mapping. In interviews, it was evident that the government believes that they need companies to buy in to the carbon neutrality programme to be able to achieve their goals and that willingness exists.
What may be lacking is clear direction and signalling of the government’s commitment to support ambitious alternatives as well as the industrial sectors’ readiness to propose alternatives for an ambitious carbon neutrality agenda as well as a collaboration mechanism to support continued work with industries to implement roadmaps.
Expansion of collective road-mapping with additional actors
The low-carbon road-mapping activity seemed to serve as useful stress tests and raised issues and sparked dialogues on the need to achieve, guarantee, and ensure carbon neutrality. They can serve as a basis for revealing the gaps between carbon neutrality ambitions and proposed measures. The road-mapping activities could be expanded upon based on existing networks but could also involve other actors, such as municipalities. Further iterations could focus on implementation and rapid assessment.
Capacity at individual and institutional level
The initial assessment report indicated that an engineering mind-set and preference for forecasting is standing in the way of systems innovation and anticipation in Finland. The government could bolster its capacity to support new expertise in qualitative foresight and related anticipation skills.
Capacity in the Ministry of Finance
A deficiency of modelling and interpreting modelling results was frequently noted by interviewees. This presents an opportunity to build up expertise in modelling methods sensitive to uncertainties as well as those with the ability to situate the modelling results with more qualitative foresight methods. Such integrative profiles could also better position the Ministry of Finance in a central carbon neutrality co-ordination role.
Within the Ministry of Finance, interviewees noted a lack of expertise on carbon and climate related issues since staff mostly have backgrounds in economics and law. This also is a reference to the need to incorporate a transversal structure of competencies across the ministries e.g. economists in the Ministry of Environment and environmental experts in the Ministry of Finance. A stocktaking of skills and the availability of knowledge and research capacity in the Ministry of Finance has been assessed along with the positioning of different actors and research around economic policy preparation to support climate mainstreaming. However, given a lack of functional mandate for the Ministry of Finance, this assessment has not been able to proceed (The Coalition of Finance Ministers for Climate Action, 2022[16]).
At the moment most research on climate and carbon is done via external experts. It is important for advancement on carbon neutrality to have much more internal research capacity and modelling literacy in the Finnish government. In addition to leading to better linkages and engagement with academic researchers, it can also prepare officials to judge the relevance of assumptions, the degree of uncertainty regarding the results obtained, as well as the key sources of uncertainty, which can improve policy advice (Tamminen et al., 2022[34]) in order to make use of the results and interpret them with other ministries as policy is developed.
“While models are developed academically, ministries have people to run them.”
The Coalition of Finance Minister for Climate Action (2022) suggest enhancement of capacities in five key areas. These have been adapted below to also incorporate foresight and anticipation and include:
1. increasing the use of new tools on the macrocritical risks of climate change relating to fiscal and trade imbalances, financial sector instability, and low and inequitable growth
2. increasing use of scenario development and analysis and horizon scanning methods as well as qualitative methods for identifying and engaging with uncertainties and non-linear transitions in the fiscal, global trade, social, and natural environments
3. developing specific skills regarding economic climate modelling, including familiarity with approaches such as Knowledge of DMDU (Decision Making Under Deep Uncertainty), Robust Decision Making (RDM), and risk-opportunity analyses (ROA) and those allowing assumption testing, factoring behaviour changes, or testing decisions against a wide range of alternate plausible futures and considering myriad external factors
4. operationalizing green budgeting and expenditure tagging manuals, especially when combined with scenario analysis
5. stress-testing carbon measures through foresight methods such as wind-tunnelling
6. analysing carbon measures and the policy environment with systems approaches to identify linkages, interdependencies, feedback loops, and interactions
7. assessment of political and institutional context, including an understanding of entrenched positions, vested interests, and perceptions of the importance and role of carbon neutrality in the present, in relation to other political priorities, as well as in the future
8. communication to multi-stakeholder and cross-disciplinary audiences.
“In order to use modelling results, you need to be relatively familiar with it. Otherwise, it will be very difficult to interpret what they mean and tell it to your Minister of Finance”
Interviewees identified a lack of experts for calculations and are concerned that models which are run by individuals spread across different institutions will be confined to their expertise and their chosen methods. Further, while some scarce capacities do exist inside of the government, they seem to be confined to the individual level.
“Due to organisational changes and replacement of individuals, if there is no upskilling within the institutions and capacity building of professionals there is a risk that all of the knowledge related to specific models, and all the modelling capacities would just disappear.”
In anticipating the need for rather rare modelling and analysis skills, Finland could also invest directly in the types of capacities it needs to build through direct grants to research organisations and academia or other means. This funding could support the development and refinement of institutions and models that incorporate uncertainty and are also dynamic and flexible as new information becomes available. The development of such a practice should be considered a long-term investment to be sustained and built up over time.
Capacity for green budgeting practices that support anticipation
Finland’s green budgeting practices are nascent and could be bolstered. Capacity development of green budget processes is a long-term investment, to be developed over several budget cycles through a long-term programme. There are no known examples of green budgeting practices that incorporate anticipation, but Finland could be a leader in this area.
Organisational capacity for knowledge exchange with research institutions
In interviews, the value of research from local and international institutions has proven valuable for informing how different economic policies were useful to keep policy makers informed on the latest research, modelling, and cases. This can be valuable for anticipation as it can enable the government to pick up on weak signals and trends as science advances and policy options are evaluated and tested elsewhere. However, such research and knowledge sharing activities lack sustained collaborative structures and investments. Organisational capacity in this area should emphasise horizontal, integrative systems approaches to research agendas versus supporting only individual projects.
Integration of anticipatory practices into the mainstream practices
A ‘whole-of-government’ approach is needed to address climate change. Innovative practices must not be isolated boutique initiatives or one-time investments or projects. Units at the centre of government can play a strong role in mainstreaming anticipatory practices as they set the pace, align resources, and co-ordinate strategies and implementation plans for climate action. They have the legitimacy to make bold bets and introduce alternative approaches based on foresight and anticipation methods. They also have some degree of control over how budget, strategy, and planning processes proceed.
Lack of time for alternatives exploration due to misalignment of the Government Programme and budget development
As noted in the assessment report, the overlap between the election calendar and the budget cycle leaves a tight schedule for negotiations to reach an agreement on the program, leaving little time for systematic inclusion of systemic or foresight analysis as part of strategic planning discussions and budgetary steering processes. This was also identified as an issue hindering alignment carbon neutrality measures.
“The budget processes, strategy processes, and implementation processes are separate. Final decisions are made at different points.” – Finnish stakeholder
Finland’s predominantly coalition governments and lack of single party programmes add complexity and necessary time to the already condensed negotiation and discussion process. In parallel, the new government must form a budget, which means that usually the strategic elements tend to become overshadowed by budget negotiations and time is minimised for alternatives exploration and systemic analysis of carbon policy options, among others.
“It has been difficult to reach decisions about carbon options, especially across ministries. Political tensions affect the work, and therefore decision-making is rushed” – Finnish stakeholder
Medium-term strategic planning with a system thinking approach
The magnitude and urgency of the climate change challenge requires a more systemic approach to medium-term planning. Incorporating ex ante climate impact assessments in strategic planning initiatives, or sustainability and resilience considerations in infrastructures planning and delivery, enables governments to better take into account climate change and exposure to shocks (OECD, 2021[32]).
May interviewees noted a deficiency in Finland of mid-term (10-15 year) budget planning, indicating that long-term planning (50 years) is too long to lead to action and the 1 year and 4 year budget planning cycles are too short to consider new strategic directions or systemic investments in carbon measures.
Identifying and addressing emergent issues
Long-term fiscal sustainability depends on stress-testing for unforeseen events that may have long-term impacts beyond the more immediate trends connected to climate change. Anticipation involves iteration and experimentation which are often constrained by budgetary processes or the expectation of reviews and evaluations which to not account for uncertainty involved in innovative approaches.
The National Audit Office has called the government to develop tools for phenomenon-based budgeting (Varis, 2020[72]) and although there is widespread use of phenomenon-based budgeting practices, their implementation has yet to be fully realised in Finland. Carbon neutrality as a policy topic lends itself well to a phenomenon-based budgeting approach and additional flexibility in the budget process would need to be created. A strong interest in budgetary transparency and parliamentary oversight currently translates into a rather rigid budget, with only few small transfers between different budget items and around two-thirds of the budget being law-based transfers (Tõnurist, 2021[33]). Additional flexibility in transfers between different organisations within the state administration could allow for more anticipation and strategic alignment between budget cycles. Budget tagging and monitoring tools could enable this flexibility without sacrificing transparency.
Cross-sectoral tools for dynamic monitoring and evaluating
Better online planning and monitoring tools and new instruments are needed for cross-sectoral budget analysis and assessment of how resources are used across policy problems connected to carbon neutrality.
Future climate law and the climate change strategy should integrate useful tools to support fiscal monitoring and planning. Finland could develop more and better tools and electronic systems to determine the total sum of how much funds are used for climate mitigation purposes. For nonspecific measures, ministries interpret and determine what they consider to be appropriate for climate spending. A more comprehensive and dynamic view could enable interim evaluation of measures and allow for quicker redirection.
While evaluation is mainly associated with looking back, it nonetheless has an essential role to play in futures thinking. Audits inherently contribute to future decisions, by ensuring accountability and enabling learning within government. To account for this responsibility, anticipatory approaches are increasingly feeding into the work of auditors and accountability offices. For instance, the European Court of Auditors and the U.S. Accountability Offices have taken steps to integrate a foresight approach to their work. This includes scenario planning at early stages of an audit to scope potential risks and engage stakeholders in strategic discussions about the broader context of a policy program. It also includes continuous trend mapping, scanning, goal setting and the selection of specific topics to be audited. Foresight in the evaluation field allows to set audit criteria in an anticipatory way, ensuring that the questions asked remain relevant in the medium- and longer-term. It also allows to check whether the policies examined are the ones likely to stay relevant going forward.
In the field of carbon neutrality, this anticipatory approach to monitoring and evaluation is particular crucial to account for the volatile and evolving nature of the environmental contexts. It is important to leverage evaluation as a tool informing future decisions, not just by learning from the past, but also critically re-examining priorities going forward. Finland needs to integrate an anticipatory perspective into auditing the climate law and the climate change strategy. This could take the form of examining the long-term relevance of policies by stress-testing them against a range of scenarios. It could also include a score on the adaptability of any given programme against future shocks. This could equally include continuous collection of relevant data on the evolution of policy contexts to ensure monitoring takes on an anticipatory perspective.
Spending reviews for dynamic evaluation
Finland performs spending reviews only periodically with the objectives of aligning expenditure with government priorities and improving effectiveness within programmes and policies. Finland is the minority of OECD countries who do not conduct comprehensive spending reviews as an annual exercise. The exercise could provide reassessment of whether politically favourable or popular measures achieve the desired carbon impact or are suitable sustainably in plausible futures. More frequent spending reviews and especially spending reviews focused on carbon neutrality could provide more dynamic data to inform the impact of measures on climate goals as well as inform anticipatory innovation and policy decisions on a more frequent basis.
Rapid cross-sector analysis
Institutions such as the National Audit Office could play a greater role in providing rapid cross-sector analysis to evaluate the interim impacts towards climate goals. An assessment conducted in the context of the COVID-19 crisis revealed that Finland lacks economic and fiscal scenario analysis and real-time forecasting as part of its toolbox to provide rapid analysis. Greater support for scenario and forecasting analysis tools may not only support acute crisis response but also more rapid feedback loops for evaluating climate measures.
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Notes
← 1. This section draws on interactions with Finnish counterparts and the information published by various Finnish Ministries online.
← 2. The Climate Policy Roundtable, which meets between 5 and 7 times a year, is hosted by the Ministry of the Environment, chaired by the prime minister and includes government and private sector members. It is a discussion forum; it does not take decisions. It supports the national climate policy making and policy implementation processes.
← 3. Note that in a modelling context, regulation can be modelled simply as a tax wedge.