Bank of England warns financial sector of climate risk

Signal of change / Bank of England warns financial sector of climate risk

By Benjamin Irvine / 14 Oct 2015

The Bank of England Governor Mark Carney has warned of the "profound implications" of climate change "for insurers, financial stability and the economy".

Carney said the global ‘Carbon Budget’ – that is, the level of emissions that must not be exceeded to limit global warming to 2 degrees, implied by IPPC estimates – “amounts to between a fifth and a third of the world’s proven reserves of oil, gas and coal”. This, he said, means that the vast majority of reserves are “literally unusable”, and so could become stranded assets.”[T]he exposure of UK investors, including insurance companies, to these shifts is potentially huge”, he added. This recent statement builds on previous comments Carney has made in support of the “carbon bubble” hypothesis, including at a World Bank seminar in 2014, but is his clearest endorsement of the ‘stranded assets’ hypothesis yet. 

The Governor spoke at an insurance industry event in London on 29 September to coincide with the publication of a report by the Prudential Regulation Authority on the impact of climate change on British insurers. He told insurers that they were, “amongst those with the greatest incentives to understand and tackle climate change”, citing losses for the industry “from an annual average of around $10bn in the 1980s to around $50bn over the past decade”.

Carney described the risks climate change poses as of three different types:

1. Physical risks, related to the damage and insurance claims associated with floods and storms.
2. Liability risks: future claims from those suffering from climate change which may fall on extractors, emitters and those providing liability insurance.
3. Transition risks: those associated with the transition to a low carbon economy due to changes in policy or technology which might lead to the sharp re-assessment of the value of financial assets, specifically where value depends on the production, sale and use of fossil fuels.

His comments come following a growing fossil fuel divestment movement in the US and UK over the last 2 years, led by groups including and Share Action, and increasing concern from mainstream investors over risks posed both by climate change impacts and holding carbon intensive assets, including shares in coal, oil and gas companies.

Insurers Aviva recently put 40 fossil fuel companies on notice that they would sell their shares unless they demonstrated they were doing more to avoid climate change.

Image credit: Thomas Hawk/Flickr

So what?

The Bank of England Governor’s speech to insurers is a significant signal that climate risks and stranded fossil fuel assets have moved from being the concern of Environmental NGO’s and the Green Finance sector to one for regulators and mainstream investors. The Governor’s warning to industry has been welcomed by the sustainable finance sector, which pioneered acknowledgement of these issues in investment decisions.

In addition to Aviva, other insurers which appear to be taking these risks seriously include Axa, which dropped its assets heavily exposed to coal earlier this summer.

Will greater carbon disclosure in the finance sector follow?

To give investors clarity on carbon asset risk from companies, Carney suggested that the Financial Stability Board (the G20 body he also chairs) may propose a carbon disclosure standard on the carbon intensity of different assets, including not only companies’ present emissions, “but how they plan their transition to the net-zero world of the future”.

Carney’s speech will likely garner further support from mainstream finance for greater disclosure on carbon asset risk from fossil fuel companies.

HSBC CEO Stuart Gulliver has expressed support for greater disclosure, saying it would ”reduce the incentive to maintain a heavy carbon footprint in an investment portfolio, and at the same time incentivise companies and financial institutions to measure and reduce their own carbon footprint”.

Will demand from investors lever decarbonisation, as investors exert pressure on conventional energy companies to develop transition strategies and on industry to seek low-carbon alternatives?

Carney said that whilst finance has a role to play, ultimately it is governments “who must choose whether, and how, to pursue that 2 degree world”, in a reference to the upcoming COP21 talks. Might the growing concern in the finance sector over climate change risks increase support and chances of an effective agreement in Paris in December?

According to Carbon Tracker, stranded assets only pose a systemic risk in the event of a disorderly transition: an orderly one is possible. If Carney’s speech hit home for insurers and investors, the clamour for certainty and transparency may help to put some of the conditions for an orderly transition into place.


Bank of England Publications (September 29th, 2015) Speech given at Lloyd's of London

The Guardian (September 29th, 2015) Carney warns of risks from climate change 'tragedy of the horizon'

What might the implications of this be? What related signals of change have you seen?

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