Transcript adverse scenario - Louis Bachelier

Climate related risks from a financial
stability perspective
Dirk Schoenmaker, Bruegel & Rotterdam School of Management
Climated-Related Financial Risks Workshop, Paris
16 December 2016
Agenda
1. Adverse scenario of late and sudden transition
2. Impact carbon bubble on financial system
•
Environmental exposures beyond energy sector
3. Policies
•
•
•
•
Methodology for measurement carbon exposures
Developing carbon stress tests
Role financial supervisors
Develop green finance: opportunity for CMU
4. Conclusions
Adverse scenario: disorderly transition
•
A later transition may also pose larger
physical risks from climate change
30
20
Mostly
transition risks
Projected path
Projected path if emissions are fixed at 2014 level
Transition path for 2C target if starts in 2020
Transition path for 2C target if starts in 2025
Transition path for 2C target if starts in 2030
10
Source: Bank of England, Prudential Regulation Authority (2015)
2050
2045
2040
2035
2030
2025
2020
0
2015
Constraints on carbon-intensive
energy
40
2010
•
Amplified by lack of technical
progress
Physical
and transition
risks
2005
•
Large emissions cuts
implemented over a short horizon
50
2000
•
60
1995
The adverse scenario is a “hard
landing:”
Physical
risks
1990
•
An early and gradual shift can
facilitate a “soft landing” in a low
carbon economy
(b)
GtCO2 per year
70
1985
•
The shift to a low-carbon economy
will require significant reductions in
greenhouse gas emissions
1980
•
Link to systemic risk
Adverse scenario affects systemic risk via two channels
1. Macro-economic effect due to reduction in energy supply
and/or increase in energy costs
2. Sudden revaluation of carbon-intensive assets (carbon bubble),
hitting institutions exposed to such assets
Effect of channels amplified by
• policy uncertainty: pricing carbon risk
• technological uncertainty: costs renewables (solar, wind) may
drop
• frictions in the financial system (feedback loops; expectations)
Example carbon bubble
• Carbon bubble (i.e. overvaluation of fossil fuel reserves
and related assets) is risk to financial system
• Not only fossil fuels, but also carbon-intensive assets
• Gradual transition -> gradual write-down
• Rapid transition -> radical write-downs (stranded assets)
• Uncertainty: shock can be in 2 or 10 years time!
Environmental exposures beyond energy sector
Greenhouse gas emissions and GVA by NACE sector, EU-27
Emissions (100m tonnes of CO2 equivalent)
14
Electricity & gas supply
12
10
Manufacturing
8
Agriculture,
forestry
and fishing
6
Transportation
Real estate
4
Water supply
& waste management
2
Mining and quarrying
Finance
0
0
500
Wholesale and
retail trade
Construction
1,000
GVA (billions of 2015 euros)
Source: Calculations based on Eurostat data.
Notes: Real estate emissions include household heating and cooling costs
1,500
2,000
Environmental risks and opportunities
Environmental imbalances are
• A risk, that can lead to financial shocks
 High carbon assets drop, low carbon assets increase in value
 Externalities of high-carbon are not priced
 Identify exposures of financial sector through lending / investments
• An opportunity for financing the transition to low-carbon economy
 Early transition is preferable
 Sustainability in the EU 2020 competitiveness agenda
 To reduce (foreign) energy needs, EU can take lead in green solutions
 Examples recycling (50% share of world market) and energy efficiency (35%)
 Enhances productivity and employment
1. Increase transparency of exposures
• Measure greenhouse gas emissions in full value chain (scope 3)
• Mandatory disclosure: Non-Financial Disclosure Directive
• Carbon accounting by financials is increasing
• Supervisor start to use these data, examples
 Climate Change Adaption Report by the UK Prudential Reg. Authority
 Chinese Green Database
 Nederlandsche Bank in pension sector
• FSB Task Force on Climate-Related Financial Disclosures (14 Dec)
• But are data reliable? -> assurance is important
2. Risk analysis
• Develop carbon stress test to measure vulnerability financial
institutions – sector wide (banks, insurance, pensions)
• New methodologies needed -> emerging best practices
 Earth is an eco-system -> have to look systemwide (overall carbon budget),
otherwise fallacy of composition
 Interlinkages between carbon assets / economic sectors
 So, top-down scenario
 Full scope 3 emissions throughout value chain
• Finance and Sustainability Risk Forum (at ESRB?)
 To share best practices across EU financial supervisors
 To shape EU’s input in G20’s agenda on green finance
3. Risk reduction – public sector
• To reach climate goals, structural shift in energy consumption
• Effective carbon pricing
 Task of European Commission and Governments
 Major reform ETS (reduction CO2 ceilings following Paris)
 Carbon tax for industries not covered by ETS
• If carbon stress tests find material exposures
 Task of financial supervisors
 Contain risk through large exposure limits
 Self-reinforcing effect!
4. Opportunity of green finance – private sector
• Move from re-active (risk) to pro-active (opportunity)
 ESG criteria increasingly adopted by large insurers and pension funds
 Movement from ST to LT investing -> LONG TERM VALUE CREATION
 Carbon stress test can help raising awareness
• CMU: Green Capital Markets Plan
1. Tackle inefficiencies in structure of capital markets
 Benchmarks for ESG performance (with private sector) + assurance
 EU-wide definition fiduciary duty to include LT sustainable development
 Templates for LT investment mandates
2. Secure green investment into infrastructure
 Part of Juncker Investment Plan
 Green bond standards -> robust standard for ‘green’ projects
 National capital raising plans for meeting pledges in Paris
Conclusion
• Adverse scenario highlights ecological risks
 Measure exposures and conduct carbon stress tests
 Share best practices in Finance and Sustainability Risk Forum
 Transparency can raise awareness and change behaviour
• CMU offers an opportunity to green finance
 EU could boost efforts in Green Capital Markets Plan
 EU policymakers set conditions for private sector investment
 Strengthening EU competitiveness by increasing productivity and
employment (first mover on transition to low carbon)
References
• Advisory Scientific Committee (ASC) (2016), Too Late, Too Sudden:
Transition to a Low-Carbon Economy and Systemic Risk, Report
No. 6 of the ASC of the ESRB.
• Schoenmaker and Van Tilburg (2016), Financial risks and
opportunities in the time of climate change, Policy Brief, Issue
2016/2, Bruegel.