Equity, Development Aid and Climate Finance

This paper discusses the ethical underpinnings of climate finance. We ask what the optimal flow of financial assistance for mitigation (to reduce emissions), adaptation (to become climate resilient) and development (to increase income) would be if rich countries care about the inter- and intragenerational distribution of consumption in the world. The question is framed as a two-period game of transfers between two regions, North and South. We show that the level of financial assistance from the North will depend on the North�s concern about well-being in the South, which we model as a Fehr-Schmidt utility function. Our main conclusion is that in the absence of market failures (e.g., barriers to adaptation or a weak carbon constraint) the most effective instrument to promote adaptation and mitigation in the South is a development transfer. In pure equity terms, development aid is a more effective instrument for achieving both intergenerational- and intragenerational equity.