Christine Lagarde: Climate change and the financial sector

SPEECH

Climate change and the financial sector

Speech by Christine Lagarde, President of the ECB, at the launch of the COP 26 Private Finance Agenda

• That is why central banks need to devote greater attention to understanding the impact of climate change, including its implications for inflation dynamics.
• Today, however, I will focus my remarks on climate change-related risks for the financial sector.
• Broadly speaking, the main risks fall into three categories: risks stemming from disregard, from delay and from deficiency.

Risks from disregarding climate change

• Disregarding the implications of climate change can generate significant risks for the financial sector.
• Total insurance losses for weather-related events reached 0.1% of GDP in 2018, with total economic losses approximately double that amount.
• The number of catastrophes caused by natural hazards increased from 249 in 1980 to 820 in 2019, peaking at 848 in 2018.
• [1] According to the Intergovernmental Panel on Climate Change, global warming of 1.5C above pre-industrial times is likely to bring about substantial changes in our climate, increasing the likelihood of more extreme weather conditions.
• Banks also need to consider the risks such events create for their credit exposures.

Risks from delaying the response to climate change

• Certain economic activities may quickly be rendered obsolete, leading to a re-pricing of assets and the risk that some will become stranded.
• It is vital, then, for financial institutions to understand the risks on their balance sheets.
• Greater disclosure by companies on their climate exposure is a prerequisite, bolstering the ability of market participants and financial institutions to carry out appropriate risk assessment.
• ECB Banking Supervision is assessing banks approaches to climate risks and developing supervisory expectations on those risks.
• Preparatory work is also under way for a macroprudential stress test to assess climate-related risks, with the first results expected by the end of the year.
• The stress test framework aims to assess how climate-related risks propagate through the real economy and the financial system.

Risks from deficiency in the provision of finance

• It is vital that it provides finance of sufficient quantity and quality for the task.
• High insurance coverage and deep capital markets help mitigate the macroeconomic impact of disasters.
• [5] This matters at a microeconomic level, too, where a lack of effective access to insurance and finance can lead to a disproportionately greater impact of disasters on poorer households.
• [6] In the absence of insurance, households will have to rely more on precautionary saving or government transfers.
• The European Union also launched a comprehensive action plan in 2018 to promote sustainable finance.
• The taxonomy represents an important step towards categorising green investments on a sound and consistent basis and will help underpin further market developments in green finance.
• Unnecessary fragmentation in regulation will impair the sustainable growth of green finance.

Conclusion

• By shifting the horizon away from the short term and contributing to a more sustainable economic trajectory, the financial sector can become a powerful force acting in our collective best interest.
• The future path for carbon emissions and the climate is uncertain, but it remains within our power to influence it.
• As Lyndon B. Johnson said, yesterday is not ours to recover, but tomorrow is ours to win or lose.

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