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In 2006, the Global Risks Report, an annual publication of the World Economic Forum (WEF) highlighted Global pandemics and other health-related risks. That year, the report warned that a “lethal flu, its spread facilitated by global travel patterns and uncontained by insufficient warning mechanisms, would present an acute threat.” The report stated that Impacts would include “severe impairment of travel, tourism, and other service industries, as well as a major disruption to manufacturing and retail supply chains” while “global trade, investor risk appetites and consumption demand” could drive economic devastation of individuals, companies, and countries.
In 2020, the risk of a global pandemic became reality. As governments, businesses and societies survey the extent of the damage and the immediate and future consequences of that damage inflicted over the last year, strengthening strategic foresight is now more important than ever. With all the business leaders in the world now more attuned to risk and focused on risk response planning, there is an opportunity to leverage this attention and find more effective ways to identify and communicate risks to all decision-makers in the businesses. We are well beyond the point of relying on monthly or quarterly risk reports, continuous “risk conversations” is part of the “New Normal”; as the current and post-COVID 19 eras is often referred to.
Since 2011, climate-related risks have dominated the rankings of the top five threats to global prosperity in the World Economic Forum’s Global Risks Report. Environmental concerns top the list in terms of likelihood and impact for the next decade in the 2021 Report just released by the World Economic Forum.
Extreme weather events, failure of climate change mitigation and adaptation, water supply crises, and biodiversity loss, among other climate-related risks, threaten the long-term viability of many businesses and investors are beginning to ask hard questions about their exposure to climate-related risks and the potential impact of these. Many investors, customers and supply chain partners are increasingly seeking out companies that are able to demonstrate preparedness and proactive management of risk to ensure they would thrive in the evolving climate risk environment.
A recent article stated that: “A disorderly industrial shakeout is currently underway, with businesses under increasing pressure from inward-looking national agendas, greater tech concentration, and dependency, and heightened public scrutiny.” Carolina Klint, Marsh & McLennan’s Brink Insights
Climate risk is everywhere; From flood, fire, and wind to migrating labor and depleted raw materials. Smart businesses know how to manage supply chain uncertainty, but extreme weather and our changing climate present a new set of uncertainties that threaten old ways of doing business. Greater frequency and severity of climate hazards will create more disruptions in global supply chains; interrupting production, raising costs and prices, and hurting corporate revenues. Are you ready?
Climate change has now also become a financial risk and must be treated as such. To effectively manage climate risks and protect us from its potential impact, all organisations need to integrate climate risk into their financial risk management frameworks. Discussions are shifting from the question of what impact businesses have on the environment, to how climate change will impact businesses.
For Financial institutions; home-loan and other credit portfolios in coastal areas may be exposed to the physical impact of climate change through rising sea levels and flooding, whilst business portfolios everywhere are exposed to business operations impact due to natural disasters caused by global-warming e.g., droughts, storms and earthquakes.
Organizations need to combine climate and economic modeling with credit stress-testing approaches and traditional credit analysis processes into a much more “fit-for-purpose” forward-looking tool for climate-scenario analysis. They also need to consider these climate change risks in the pricing of products and services. For Example: In Banks, credit products in high-risk areas must be priced according to the risks, with the same view on service delivery in high-risk areas where robust additional resilience and redundancy infrastructure investments might be required.
Climate change risks are not all negative, organisations need to also identify the opportunities such as the envisaged large sums of capital and investment that will be required and the growing need for new products and services that will be required to fund the transition to building response capacity and finance climate resilience, creating a new demand for different and innovative banking products, services and robust service delivery execution.
Integrating climate-related risk analysis into Global financial stability monitoring is particularly challenging because of the radical uncertainty associated with a physical, social and economic phenomenon that is constantly changing and involves complex dynamics and chain reactions. Traditional backward-looking risk assessments and existing climate-economic models cannot anticipate accurately enough the form that climate-related risks will take. These include what banking regulators started calling “green swan” risks: “potentially extremely financially disruptive events that could be behind the next systemic financial crisis” (The green swan – Central banking and financial stability in the age of climate change, Bank for International Settlements 2020)
“Many of the environmental challenges that the world faces today, especially climate change, can be traced back to one fundamental root cause: short-termism. Financial markets can become a catalyst for action on sustainability, but for that, they need to become more long-term oriented,” said Erik Solheim, Head of UN Environment.
It is widely reported that humans have already caused the planet to warm by 1 degree Celsius above preindustrial levels. Many studies were conducted on the effects of climate change and under current projections, the overall social, environmental, and economic impacts of climate change could rise to catastrophic levels. One estimate suggests that if temperatures rise to 4 degrees Celsius above preindustrial levels over the next 80 years, global economic losses could amount to $23 trillion per year.
Climate change poses a major risk to the global economy: It affects the wealth of societies, the availability of resources, the price of energy, and the value of companies. Catastrophic floods, droughts, wildfires, and storms are becoming all-too-regular occurrences, and there is overwhelming scientific evidence that paints a clear and devastating picture of the changing climate. It is time to prepare!
Check out my last article on the future of risk management Here