Climate change creates two types of financial stability risks: physical risks resulting from extreme weather conditions and transition risks caused by exit from carbon-intensive business models.

Climate change will affect our environment and the economy in the decades to come. As a result of climate change, companies have to change and adjust their business models.

Changes in the economy and markets are also reflected in financial stability, making it a topic closely linked to the roles and responsibilities of central banks.For more information, see the blog (in Finnish only)/

Carbon-intensive business models create transition risk

The financial stability risks caused by climate change can be significant, due to the potential growth in financial losses arising from, for example, increasingly common and more severe extreme weather events. Insurance companies, banks and investors will bear their share of these losses.

On the other hand, if climate policy, technological innovations or changes in consumer preferences make carbon-intensive business models financially unprofitable, investors may have to write down their assets. This is referred to as ‘transition risk’. Transition risk is significant for the entire financial sector, as not all entities will be able to divest their carbon-intensive investments without incurring losses.

Bank of Finland is an active participant in the discussion on climate risks

In recent years, the Bank of Finland has paid increasing attention to climate change both in its activities and in the assessment of the longer-term risks to the financial sector.

In 2018, the Bank of Finland adopted an updated responsible investment strategy for its financial asset investments.For more information, see the blog (in Finnish only). In addition, the Bank of Finland joined the Central Banks and Supervisors Network for Greening the Financial System (NGFS) whose purpose is to identify risks related to climate change and enhance the role of sustainable finance.For more information, see the blog (‘Climate change is the greatest and widest-ranging market failure ever seen’, in Finnish only) and the NGFS website

Climate change is, indeed, only one of the financial stability risks, but the problem is complex. Authorities and the financial sector must therefore actively and in cooperation seek solutions to identify and minimise the risks.