Banks to Be Tested on Key Climate Change Scenarios

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08 June 2021

The Bank of England is to test banks and insurers on how resilient they would be in the event of extreme climate change scenarios.

The Climate Biennial Exploratory Scenario (CBES) will explore the financial risks posed by climate change for the largest UK banks and insurers.

Standard Chartered, Santander, Barclays, Nationwide and other financial institutions will all be tested against three scenarios of early, late and no additional action to explore the two key risks from climate change:

• The risks arising from the significant structural changes to the economy needed to achieve net-zero emissions – "transition risk".
• Risks associated with higher global temperatures – "physical risks".

This is the first time both banks and insurers will be tested, to understand the risks presented by climate change across the financial system.

Andrew Bailey the Governor of the Bank of England said: “Today’s exercise will help us size the risks from climate change for both the largest banks and insurers as well as the financial system as a whole.

"The end result will be more robust management of climate-related financial risks across the sector.”

Early, Late and No Action Worst-Case Scenarios

The Bank of England will consider both an "Early Action" scenario, "Late Action" scenario and "No Action" scenario to adequately assess each business.

In the case of late action, net-zero policies are delayed until 2031 and is then more "sudden and disorderly". Global warming is limited to 1.8°C by 2050, and the compressed nature of the reduction in emissions results in material short-term macroeconomic disruption. This affects the whole economy but is particularly concentrated in carbon-intensive sectors. 

In the worst-case scenario of no action, global temperature levels continue to increase, reaching 3.3°C relative to pre-industrial levels. This leads to chronic changes in precipitation, ecosystems and sea-level. There is also a rise in the frequency and severity of extreme weather events such as heatwaves, droughts, wildfires, tropical cyclones and flooding. There are permanent impacts on living and working conditions, buildings and infrastructure. UK and global GDP growth is permanently lower and macroeconomic uncertainty increases. 

Why Test Climate Change Scenarios?

The objectives of the exercise are to:

• Size the financial exposures of individual firms and the financial system
• Understand business model challenges and likely responses to these risks
• Improve firms’ risk management and prompt a strategic view

The Bank of England expects to publish the CBES results in May 2022.

Picture: a photograph of Canary Wharf 

Article written by Ella Tansley | Published 08 June 2021

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