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Risks on global financial stability induced by climate change: the case of flood risks

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Abstract

There is increasing concern among financial regulators that changes in the distribution and frequency of extreme weather events induced by climate change could pose a threat to global financial stability. We assess this risk, for the case of floods, by developing a simple model of the propagation of climate-induced shocks through financial networks. We show that the magnitude of global risks is determined by the interplay between the exposure of countries to climate-related natural hazards and their financial leverage. Climate change induces a shift in the distribution of impacts towards high-income countries and thus larger amplification of impacts as the financial sectors of high-income countries are more leveraged. Conversely, high-income countries are more exposed to financial shocks. In high-end climate scenarios, this could lead to the emergence of systemic risk as total impacts become commensurate with the capital of the banking sectors of countries that are hubs of the global financial network. Adaptation policy, or the lack thereof, appears to be one of the key risk drivers as it determines the future exposure of high-income countries. This implies in particular that the avoided costs in terms of financial stability should be weighted in as benefits of adaptation policy.

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Notes

  1. This section gives a general overview of methods. Detailed Material and Methods are provided below.

  2. Data has been retrieved from Munich Re’s NatCatService, https://www.munichre.com/en/solutions/for-industry-clients/natcatservice.html, which is however offline at the time of writing.

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Funding

Antoine Mandel acknowledges the support from EU H2020 project grants TIPPING+ 884565, CLIMEX 851876 , and EPOC 956107. Elke Koks was supported by the Netherlands Organisation for Scientific Research (NWO; grant no. VI.Veni.194.033). Philip J. Ward received funding from the Dutch Research Council (NWO) in the form of a VIDI grant (grant no. 016.161.324). Jochen Hinkel and Daniel Lincke have been partially supported by the European Union Horizon 2020 Programme under the COACCH project (grant 776479) and the German Federal Ministry of Education and Research through the ERA4CS projects ISIPEDIA (grant 01LS1711C) and INSEAPTION (grant 01LS1703A).

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Authors and Affiliations

  1. Centre d’Economie de la Sorbonne UMR8174, Paris School of Economics, University Paris 1 Pantheon-Sorbonne and Climate Finance Alpha, Paris, France

    Antoine Mandel

  2. Institute for Environmental Studies, Vrije Universiteit Amsterdam, Amsterdam, Netherlands

    Timothy Tiggeloven, Elco Koks & Philip Ward

  3. Global Climate Forum, Berlin, Germany

    Daniel Lincke & Jochen Hinkel

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  1. Antoine Mandel
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  2. Timothy Tiggeloven
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  4. Elco Koks
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  5. Philip Ward
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  6. Jochen Hinkel
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Mandel, A., Tiggeloven, T., Lincke, D. et al. Risks on global financial stability induced by climate change: the case of flood risks. Climatic Change 166, 4 (2021). https://doi.org/10.1007/s10584-021-03092-2

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