Climate change has consequences for the planet and the environment, as well as for the economy and the financial system. In response to these risks and to take the necessary steps to mitigate them, the world’s governments have decided to make a concerted effort to limit the progressive rise in temperatures and to mitigate the effects of climate change. As a consequence of these efforts, expectations have risen for the private sector committed to the climate transition through tightening regulation.
In December 2015, 197 countries signed the Paris Agreement, an international agreement that aims to limit the increase in global average temperature to well below 2°C relative to pre-industrial levels and aims to maintain an increase of only 1.5°C. The structure of the Paris Agreement consists of legally binding targets for limiting the increase in the Earth’s average temperature, as well as the obligations of the parties to the agreement, of which the contributions of individual countries are the most important. Underpinning the broad climate action is the assumption that halting the rise in global temperatures will require significant reductions in greenhouse gas (GHG) emissions on a global scale. While the responsibility for achieving the agreement’s goals rests with national governments and drives changes in the area of development policies (e.g. the European Green Deal package), the Paris Agreement has also become a driver for private sector business initiatives.
These initiatives are particularly important in light of the conclusions of the Sixth Assessment Report of the IPCC – the Intergovernmental Panel on Climate Change. The IPCC leaves no doubt that climate change is likely to affect the stability of the entire economy. The effects of global temperature increases are already more severe and more widespread than expected. Moreover, some further effects of climate change are inevitable in the short term – emission trends and greenhouse gases present in the atmosphere will mean that we will feel some of the effects of climate change by 2040, even in the event of sudden decarbonisation. For this reason, adaptation will play an extremely important role, but this will not solve all challenges in climate-sensitive countries and ecosystems. Efforts to reduce emissions now are therefore crucial.
Both the IPCC and the signatories to the Paris Agreement recognise the importance of the measures indicated in terms of economic and financial sector stability. The potential economic losses as a result of rising global temperatures as well as the intensification of severe weather events (e.g. more frequent storms or droughts) must be taken into account. According to the IPCC, droughts, extreme heat and floods threaten water and food security, as well as the livelihoods of millions of people. The materialisation of such risks can furthermore cause volatility in natural resource and property markets and lead to the insolvency of some borrowers. Increasingly ambitious climate policies, regulations, financial market sentiment and social responsibility expectations towards businesses are not negligible and result in a decrease in the profitability of certain investments and an increase in the cost of carbon-intensive activities. In order to maintain financial stability during the transition to a low-carbon economy, it will be crucial in the coming years for climate risks to be properly managed not only by high-carbon companies, but also by financial institutions.