Central banks and supervisors must use all tools at their disposal to tackle the twin environmental crises and guard against financial risks and price instability
By Maud Abdelli, Lead WWF Greening Financial Regulation Initiative
The global economy and financial system are deeply embedded in nature — they are dependent on a stable climate and important ecosystems. Yet a twin crisis of biodiversity loss and climate change is underway, posing significant risks to financial and price stability into the future.
Central banks and financial supervisors have a central role to play in protecting the financial sector and wider economy from these risks, while Russia’s invasion of Ukraine, and the combined economic consequences of this war and the slow recovery from two years of Covid, mean there is an even greater urgency to act now to spur an environmentally and socially sound economic transformation.
We already know well the potential and likely costs and risks of climate change. A global temperature rise of 2°C could wipe 11% off global GDP, increasing to 18% in the event of a 3.2°C rise, while extreme weather events, rising sea levels, droughts, floods, and other impacts threaten financial stability, causing sudden economic shocks.
Less appreciated is the cost of biodiversity loss. The UK’s Dasgupta Review found that biodiversity loss could pose as grave a danger to humanity as climate change. The World Bank predicts that the loss of important ecosystem services could cost the global economy $2.7 trillion annually by 2030.
Together, biodiversity loss and climate change represent a major twin crisis. Climate change, along with human-caused habitat loss and other key drivers are accelerating nature loss, while the decline of biodiversity and ecosystems releases greenhouse gases and undermines nature’s ability to capture carbon, further driving climate change.
We are already witnessing the impacts of this crisis first hand, from the 2019–20 Australian wildfires that cost farmers up to AU$5billion to the California drought that has so far cost almost US$2billion and 14,000 jobs. Insured losses from natural disasters have increased 250% in the last 30 years.
The costs could be huge: under climate stress test scenarios, US bank Citigroup would have to raise over $73bn a year to cover climate losses alone. For every year of delay this twin crisis will escalate, and long-term risks will only grow.
Despite this mounting evidence, banks, insurers, asset managers and other financial institutions continue to invest in and underwrite activities that are driving the twin crisis.
This demands a robust, urgent response from central banks and supervisors.
Central banks and financial supervisors have recognized their mandate for managing climate- and biodiversity-related financial risks. G7 and G20 central banks and regulators have reiterated their commitment to integrating and managing these risks in their decision-making.
Yet the favoured tool of governments and regulators has so far been a growing number of mainly climate- related disclosure requirements.
Increased disclosure is certainly a welcome step, but disclosure alone falls far short of what is needed. While the risks are already rapidly materialising, disclosures have also been slow to roll out: according to the ECB, only 15% of banks currently disclose CO2 emissions. Nature-related disclosures are some ways behind.
In the face of the risks and radical uncertainty of the twin crisis, central banks and supervisors can and must do more to take urgent precautionary action. Currently, they aren’t making full use of their market shaping role or using all the available tools to limit the negative environmental impacts generated by regulated actors, even though it is in their existing mandate to do so.
During the global Financial Crisis of 2007–2009, and the Covid pandemic, central banks and supervisors were able to act swiftly, with incomplete information, using all available tools and instruments to intervene. The same approach is needed today. As governments push to wean their economies off volatile fossil fuels in the wake of Russia’s invasion of Ukraine, regulators and central banks also have a key role to play in supporting a massive scale up of investment in clean energy and a just transition to a more sustainable economy.
We, WWF and more than 90 organisations, think tanks, coalitions and individual thought leaders and researchers, including UN Environment Programme Finance Initiative, the European Environment Bureau, NatureFinance, NRDC and New Economics Foundation have launched a Call to Action urging finance stewards to do whatever it takes in their existing mandates to ensure a climate safe and nature-positive economy.
They can achieve this if they treat climate change and biodiversity loss as a twin crisis and activate every available monetary policy and financial regulation instrument, including capital requirements, mandatory transition plans, and climate and nature stress testing, to reduce greenhouse gas emissions and restore biodiversity.
The upcoming 17th G20 Summit on 15–16 November 2022 in Bali is a crucial opportunity for Heads of State and Government Leaders to step up action on tackling climate change and environmental protection. It is crucial to stop investing in companies, sectors and subsectors that are considered “always environmentally harmful” as these represent the highest financial risks. Furthermore, clear and consistent government and central bank intervention is needed to ensure a smooth transition of our financial system towards internationally agreed policy objectives of the 2030 Agenda for Sustainable Development, in line with the UNFCCC and the Paris Agreement. The time to act is now!