Financial impacts of climate change likely to hit global markets directly

fin-crisis

Whilst previous warnings about climate change have stemmed from the need for businesses to adapt and become more resilient to its effects, a former senior Bank of England official warns that the financial impacts of climate change may hit global markets directly. Businesses are advised to rethink their climate change risk exposure.

Following the sterling’s fall after the announcement of a timetable for Brexit this month, the former deputy head of the U.K.’s Prudential Regulation Authority, Paul Fisher, warned in an interview with Bloomberg that climate change could be the trigger for the next financial crisis.

“It is potentially a systemic risk”, Fisher said. Warned that a sudden repricing of assets can come about as a result of climate change, risk managers are understandably concerned that the risks associated with climate change are more extensive than previously considered. Such risks include the cost of mitigating climate change, the cost of adapting to climate change if these measures aren’t sufficient, and the effect on valuations of the transition towards a lower carbon economy.

Fisher’s remarks follow the reaching earlier this month of the threshold for the entry into force of the Paris Agreement of at least 55 Parties accounting in total for at least an estimated 55 % of the total global greenhouse gas emissions. The Paris Agreement will now enter into force on 4 November 2016. China and the United States, the world’s largest emitters of greenhouse gases, together responsible for approximately 38% of emissions, announced they would ratify the Paris climate change agreement on the eve of the G20 summer in Hangzhou, China last month. Now, they and nearly 200 governments will become obliged to meet emissions-cutting pledges. For example, the EU has a “national determined contribution” of cutting emissions by 40% by 2030 on 1990 levels, and the US by up to 28% by 2025 compared with 2005.

To meet such ambitious commitments, countries will need to make substantial changes. As such, Fisher warned that businesses will need to get ready for greater regulation as governments grow increasingly serious about tackling climate change. The implementation of a carbon tax is but one example of how a government will need to implement policy changes to battle climate change, but such policy and regulatory changes may have market effects.

This is not the first time that Fisher has made such suggestions. He previously stated that climate change could be a factor in the ongoing slump in oil prices which collapsed from over $115 in 2014 to $30 this year. He advised at a meeting in London hosted by the IPPR think tank that the price fall may have resulted from investors moving away from carbon-based resources in a bid to green their portfolios.

Such warnings underpin the need for businesses to reduce their contribution to climate change (reducing the production of greenhouse gas emissions), to adapt to climate change (its effects are demonstrably already being felt in the form of increased unseasonal and averse weather), and to become more resilient to the market changes stemming from climate change. These combined risks impact the operational and financial success through a company’s value chain.

In turn, customized risk management solutions are necessary to facilitate the transition, reduce or even eliminate the total cost of risk, and manage earnings volatility caused by adverse weather.