Emission impossible: balancing environmental concerns and inflation

28 April 2025

New research shows that the costs of failing to meet emission targets outweigh inflation concerns.

Carbon pricing is increasingly used around the world as a tool to fight climate change. Governments are putting carbon taxes and cap-and-trade systems in place to reduce greenhouse gas emissions by making high-emission products more expensive. However, while these measures help lower emissions, they can also push up overall prices, potentially leading to higher inflation. This has sparked significant debate, with critics in countries like Canada, Australia, and across Europe arguing that such policies can be overly costly and unfair.

Developing a model to explain the trade-offs between reducing emissions and controlling inflation

In our research, we develop a simple model that helps explain the trade-offs between reducing emissions and controlling inflation. We focus on a cap-and-trade system where companies must either lower their production, invest in cleaner technologies, or purchase extra permits to cover their emissions. These decisions not only help companies meet their emission limits but also affect consumer prices by changing production costs and influencing the overall price index.

Balancing inflation concerns with emissions reductions

Our model shows that even if policymakers try hard to keep inflation under control, the costs associated with not meeting emission targets still have a greater impact. In other words, even when inflation concerns are given considerable weight, the benefits of reducing emissions remain more important. This suggests that, despite the pressure to manage rising prices, the main goal of carbon pricing should be to achieve significant emission reductions.

Controlling inflation should not come at the expense of effective climate action

We also calculate the theoretical impact on goods prices if Europe were to achieve net-zero emissions by 2050, providing a baseline for understanding how ambitious environmental targets could influence the economy. Ultimately, our findings indicate that while controlling inflation is important, it should not come at the expense of effective climate action. Emission reduction remains the central priority, and our model supports the idea that policy frameworks must keep environmental goals at the forefront, even when faced with inflationary challenges.

Key points for decision-makers

Even when significant efforts are made to control inflation, the costs of failing to meet emission targets outweigh those inflation concerns. This underlines that the primary objective of carbon pricing should be achieving substantial emission reductions.

While managing inflation is important, it should not override the need for effective climate action. Policy frameworks must be designed to ensure that environmental goals remain at the forefront, even in the face of inflationary pressures.