Dynamics of Water-Constrained Economies Affected by Climate Change: Nonlinear and Stochastic Effects

Abstract

We study the dynamics of water-constrained regional economies affected by adverse climate change that leads to increasing aridity over time, manifested in growing frequency and severity of droughts. As a basis, we use a family of deterministic economic models that include the AK model, the Solow–Swan model, as well as linear and nonlinear versions of the Structural Dynamic Economic Model (SDEM). We then include in the modelling scheme drought damage functions parametrising adverse economic impacts of droughts. The analysis of regional economic scenarios with drought damages gradually growing over time in deterministic model setup provides first insights to projected future impacts of climate change on a water-constrained economy. We then move to a more detailed analysis of the models by introducing the stochasticity in drought damage functions. This allows modelling the regional economy affected by a series of random fluctuations in water availability. Modelling the stochastic economic dynamics allows to assess uncertainty caused by temporal variability in drought conditions.