1 July 2021
Failing to address climate-related risks could see a 20 per cent drop in global GDP by the end of the century, the European Central Bank (ECB) has warned in a new report.
The joint document by the ECB and the European Systemic Risk Board found that riverline flooding is the biggest climate-related risk to the EU economy, and that continued extreme weather events could add further pressure.
“The exposure mapping of physical risk drivers suggests that riverline flooding is the most widespread risk for EU financial institutions, although a coalescing of other natural hazards such as wildfires, heat, and water stress could amplify that vulnerability in some regions,” the report discloses.
The agencies undertook a long-term scenario analysis for European banks, insurers, and investment funds, and suggested that credit and market risk could increase substantially as a result of climate related risks.
Geographically, risks are concentrated around areas prone to river floods and wildfires, while the sectoral risk is concentrated around emission-intensive firms in manufacturing, electricity, transportation and construction sectors.
A significant financial risk for European firms with high emissions are physical risk losses, which is the potential cost to a firm due to damage done to their owned physical assets.
Through projected scenario modelling, the report predicts that if climate risks fail to be addressed efficiently, physical risk losses for high emitting firms would become dominant in around 15 years.
Short-term costs will “pale in comparison”
Additional vulnerabilities in the EU banking sector could be worsened by the physical risks posed by climate change, as the report notes that less profitable banks are on average more exposed to firms located in areas of high or increasing physical risk.
If no further mitigation and adaptation measures are taken, economic losses are expected to grow to nearly €50 billion per year by the end of this century under a 3°C global warming scenario, according to the report.
Limiting global warming to 1.5°C would have the economic losses and population exposure to river flooding, while adaptation measures could reduce them by more than 70 per cent.
Head of both the ECB and the ESRB Christine Lagarde commented that the report highlights the urgent need for climate policies and economic transitions to limit disruptions to the economy.
“Acting early offers clear net benefits – also from a financial stability perspective. Whatever the short-term costs of orderly transition may be, they will pale in comparison to the costs of unfettered climate change in the medium to long term,” she said.
By Thomas Hamilton