Could climate become the weak link in your supply chain? The report also highlights a recurring theme when it comes to evaluating climate risk and bracing for the financial impacts of climate change — European companies, by and large, are far more prepared than American companies. Financial risks from climate change are unprecedented. Our case studies indicate that physical climate risk is growing, often in nonlinear ways. For example, rising temperatures may boost tourism in areas of northern Europe while. To learn more about the cookies we use, view our Cookies Policy. The TCFD defines four key management disciplines through which companies are expected to address climate change: governance, strategy, risk management, metrics and targets (figure 3). These cover a range of sectors and geographies and provide the basis of a “micro-to-macro” approach that is a characteristic of MGI research. We use cookies to provide necessary site functionality and improve your online experience. Food systems are projected to see an increase in global agricultural yield volatility that skews toward worse outcomes. The Guide describes how the routine application of the Standard can be extended to include the risks generated by climate … Physical climate risk is: Increasing: In each of our nine cases, the level of physical climate risk increases by 2030 and further by 2050. 12 Enhanced disclosure in these areas will help investors and other stakeholders assess a company’s exposure to climate-related risks, and the quality of its response to them. Key Features. The average share of effective annual outdoor working hours lost due to extreme heat in exposed regions globally could increase from 10 percent today to 10 to 15 percent by 2030 and 15 to 20 percent by 2050. Intensifying climate hazards could put millions of lives at risk, as well as trillions of dollars of economic activity and physical capital, and the world’s stock of natural capital. The planet’s temperature has risen by about 1.1 degrees Celsius on average since the 1880s. Through our case studies, we also assess the knock-on effects that could occur, for example to downstream sectors or consumers. We draw on climate model forecasts to showcase how the climate has changed and could continue to change, how a changing climate creates new risks and uncertainties, and what steps can be taken to best manage them. While we seek to include a wide range of risks and as many countries as possible, there are some we could not cover due to data limitations (for example, the impact of forest fires and storm surges). The risk exposure assessment is intended to assess the extent to which a company is exposed to a material issue (or Key Issue). Prior research has argued that companies are likely to employ a conventional three stage risk management process to deal with climate risks ( Weinhofer and Busch, 2013 ). Will infrastructure bend or break under climate stress? Why J.P. Morgan Asset Management uses weighted average carbon intensity in its While we attempt to draw out qualitatively (and, to the extent possible, quantitatively) the knock-on effects from direct physical impacts of climate change, we recognize the limitations of this exercise given the complexity of socioeconomic systems. We also provide decision makers with a new framework and methodology to estimate risks in their own specific context. Food production is also heavily concentrated; just, Financial markets could bring forward risk recognition in affected regions, with consequences for capital allocation and insurance cost and availability. Outdoor labor productivity is also expected to be impacted, reducing the effective number of hours that can be worked outdoors. Financial institutions could consider the risk in their portfolios. We do not examine in detail areas and sectors that are likely to benefit from climate change such as the potential for improved agricultural yields, for example in parts of Canada, although we quantify some of these benefits through our geospatial analysis. Our climate-related risk management process is designed to drive appropriate action for adapting to a range of possible future scenarios. Much as thinking about information systems and cyber-risks has become integrated into corporate and public-sector decision making, climate change will also need to feature as a major factor in decisions. Systemic: While the direct impact from climate change is local, it can have knock-on effects across regions and sectors, through interconnected socioeconomic and financial systems. collaboration with select social media and trusted analytics partners Nonlinear: Socioeconomic impacts are likely to propagate in a nonlinear way as hazards reach thresholds beyond which the affected physiological, human-made, or ecological systems work less well or break down and stop working altogether. Here, we highlight key methodological choices: Choice of climate scenario. Will infrastructure bend or break under climate stress? Please click "Accept" to help us improve its usefulness with additional cookies. In other instances, there could be hard trade-offs that need to be assessed, including who and what to protect and who and what to relocate. Mass Mutual Life Insurance has assets under management of $139 billion unprotected to climate risks. We choose weighted average carbon intensity as our preferred metric, but there are caveats. Disclose how the organisation identifies, assesses, and manages climate-realted risks. Climate science tells us that further warming and risk increase can only be stopped by achieving zero net greenhouse gas emissions. A Mediterranean basin without a Mediterranean climate? Through integrated planning and decision-making, we develop mitigation plans for climate-related risk, track performance against our goals and adjust our plans as we learn and conditions evolve. Describe the organisation's processes for identifying and assessing climate-related risks. We use the term ‘organisation’ in this guide to include public sector agencies, semi-government businesses, private companies and communities. By 2100, the four RCPs lead to very different levels of warming, but the divergence is moderate out to 2050 and small to 2030. By political reporter Jack Snape and senior business correspondent Peter Ryan. Where we think climate risk may be material, we review fossil fuel exposure, disclosed reduction targets going forward and other relevant information. Integrating climate risk into the broader risk management framework requires an institution to understand and measure its potential exposures to climate change. Companies with established risk management processes for climate-related risks — regardless of whether those processes are integrated into broader or overall risk management processes — may find Section E. Disclosure Trucost’s insights can inform TCFD aligned reporting, risk management and climate change adaptation strategies. our use of cookies, and We strive to provide individuals with disabilities equal access to our website. We note the critical role of decarbonization in a climate risk management approach but a detailed discussion of decarbonization is beyond the scope of this report. Carter Powis is a consultant in the Toronto office. While the goal of this analysis is to measure direct impact, due to data availability issues, we have used five measures of socioeconomic impact and one measure of climate hazards themselves—drought. Describe the organisation’s process for managing climate-related risks. Dickon Pinner is a senior partner in McKinsey’s San Francisco office. Across our cases, we find increases in socioeconomic impact of between roughly two and 20 times by 2050 versus today’s levels. Today, about 25 percent of the Earth’s land area has already experienced a shift in climate classification compared with the 1901–25 period. Climate science tells us that further warming and risk increase can only be stopped by achieving zero net greenhouse gas emissions. Our ESG specialists collaborate closely with our research analysts to understand when that may be the case, and where appropriate we engage with companies to improve disclosure and enhance policies. Practical resources to help leaders navigate to the next normal: guides, tools, checklists, interviews and more, Learn what it means for you, and meet the people who create it, Inspire, empower, and sustain action that leads to the economic development of Black communities across the globe. Adaptation is likely to entail rising costs and tough choices that may include whether to invest in hardening or relocate people and assets. These range from financial models used to make capital allocation decisions to engineering models used to design structures. According to the New England Journal of Medicine, the frequency and severity of climate-related disasters like floods, droughts, and storm surges has increased markedly since the 1970s. As average temperatures rise, climate science finds that acute hazards such as heat waves and floods grow in frequency and severity, and chronic hazards, such as drought and rising sea levels, intensify (Exhibit 1). tab. For each of our cases, we identify possible adaptation responses. Climate Risk Management publishes original scientific contributions, state-of-the-art reviews and reports of practical experience on the use of knowledge and information regarding the consequences of climate variability and climate change in decision and policy making on climate change responses from the near- to long-term.. Looking forward, climate science tells us that further warming is unavoidable over the next decade at least, and in all likelihood beyond. Climate change poses significant financial risks to an organization as sustainability policies and corporate initiatives can affect taxes, insurance, resource management, energy sourcing, investor support and even intangible assets such as goodwill — for instance, the impalpable value that customers and investors place on a company’s ability to reduce its footprint. Assessment of corporate issuers’ climate change exposure and management practices to identify leaders and laggards when it comes to preparedness for transition to a low carbon economy. There are likely knock-on effects that could occur which our analysis has not taken into account. A vast majority (90%) of companies have embedded climate-related risks in their risk management systems, of which about a third has done so for all climate-related risks. Can coastal cities turn the tide on climate risk? Learn more about cookies, Opens in new Our climate risk analytics have been adopted by at least one of the world’s five largest entities in multiple market segments: asset management, banking, insurance, oil and gas, mining, utilities, construction, as well as the United States government. WHRC’s work draws on the most widely used and thoroughly peer-reviewed ensemble of climate models to estimate the probabilities of relevant climate events occurring. London — Companies are more than twice as likely to report climate risk data when investors actively pressure them to do so, according to a leading climate … Please try again later. Risk recognition could trigger capital reallocation and asset repricing and indicates the presence of systemic risk. Our flagship business publication has been defining and informing the senior-management agenda since 1964. In this report, we link climate models with economic projections to examine nine cases that illustrate exposure to climate change extremes and proximity to physical thresholds. A separate geospatial assessment examines six indicators to assess potential socioeconomic impact in 105 countries. These could arise from a change in the physical environment, such as new places for agricultural production, or for sectors like tourism, as well as through the use of new technologies and approaches to manage risk in a changing climate. That means the average day in many locations is now hotter (“shifting means”), and extremely hot days are becoming more likely (“fattening tails”). For the people living in these regions, the average annual likelihood of experiencing such a heat wave is projected to rise to 14 percent by 2050. Societies have been adapting to the changing climate, but the pace and scale of adaptation will likely need to increase significantly. To inform our selection of cases, we considered over 30 potential combinations of climate hazards, sectors, and geographies based on a review of the literature and expert interviews on the potential direct impacts of physical climate hazards. One of the biggest challenges could stem from using the wrong models to quantify risk. Specifically, we looked at the impact of climate change on livability and workability in India and the Mediterranean; disruption of food systems through looking at global breadbaskets and African agriculture; physical asset destruction in residential real estate in Florida and in supply chains for semiconductors and heavy rare earth metals; disruption of five types of infrastructure services and, in particular, the threat of flooding to urban areas; and destruction of natural capital through impacts on glaciers, oceans, and forests. The UK PRA expects insurance companies to provide the board and relevant sub-committees with management information on their exposure to financial risks from climate change. In our assessment of inherent risk, we find that all 105 countries are expected to experience an increase in at least one major type of impact on their stock of human, physical, and natural capital by 2030. Climate Change in USAID Strategies: A Mandatory Reference for ADS Chapter 201 – This document provides guidance on climate risk management and the integration of climate change adaptation and mitigation in USAID strategies. Regressive: The poorest communities and populations within each of our cases typically are the most vulnerable. Our set of 105 countries represents 90 percent of the world’s population and 90 percent of global GDP. Lethal heat waves show less of a correlation with per capita GDP, but it is important to note that several of the most affected countries—Bangladesh, India, and Pakistan, to name a few—have relatively low per capita GDP levels. Unleash their potential. Could climate become the weak link in your supply chain? Since the purpose of this report is to understand the physical risks and disruptive impacts of climate change, there are many areas which we do not address in this report: We estimate inherent physical risk, absent adaptation and mitigation, to assess the magnitude of the challenge and highlight the case for action. We ultimately chose nine cases to reflect these systems and based on their exposure to the extremes of climate change and their proximity today to key physiological, human-made, and ecological thresholds. Brodie Boland is an associate partner in the Washington office. Jonathan Woetzel is a director of the McKinsey Global Institute, where Mekala Krishnan is a senior fellow. © National Geographic. While many scientists, including climate scientists, are employed at McKinsey & Company, we are not a climate modeling institution. Source: “Final Report: Recommendations of the Task Force on Climate-related Financial Disclosures,” Task Force on Climate-related Financial Disclosures (2017), pp. This impact framework is our best effort to capture the range of socioeconomic impacts from physical climate hazards and includes: Additional case studies on climate risk include: Climate change is already having a measurable socioeconomic impact and we group these impacts in a five-systems framework. Reinvent your business. We use cookies essential for this site to function well. The climate is the statistical summary of weather patterns over time and is therefore probabilistic in nature. Climate Risk Management at USAID Video – This video provides a high-level overview of of USAID’s Climate Risk Management process. With increases in global average temperatures, climate models indicate a rise in climate hazards globally. After more than 10,000 years of relative stability—the full span of human civilization—the Earth’s climate is changing. Through this “micro” approach, we offer decision makers a methodology by which to assess direct physical climate risk, its characteristics, and its potential knock-on impacts. Since the research in this report is most concerned with understanding inherent physical risks, we have chosen to focus on the higher-emission scenario, i.e. Urban areas in India and Pakistan may be the first places in the world to experience such lethal heatwaves (Exhibit 6). Reduced dividends on natural capital? We note the critical role of decarbonization in a climate risk management approach but a detailed discussion of decarbonization is beyond the scope of this report. The average conceals more dramatic changes at the extremes. This implies that companies first identify risks, then assess their potential effect and, … ... and where appropriate we engage with companies to improve disclosure and enhance policies. These models find that further warming will continue to increase the frequency and/or severity of acute climate hazards and further intensify chronic hazards (Exhibit 4). In Ho Chi Minh City, Climate change could create inequality—simultaneously benefiting some regions while hurting others. Why J.P. Morgan Asset Management uses weighted average carbon intensity in its fund reporting. Describe how processes for identifying, assessing, and Large knock-on impacts can occur when thresholds are breached. Our focus in this report has been on translating the climate science data into an assessment of physical risk and its implications for stakeholders. Companies report financial impact of climate risk. During their inception, RCPs were designed to collectively sample the range of then-probable future emission pathways, ranging from lower (RCP 2.6) to higher (RCP 8.5) CO2 concentrations. Flip the odds. As climate change has increasingly become a focus for investors and regulators, financial institutions have started to assess financial impacts of climate change on their businesses. Will mortgages and markets stay afloat in Florida? Recommended disclosures. Stakeholders should consider assessing their decarbonization potential and opportunities from decarbonization. There are variations between countries and within countries. We have not conducted a detailed bottom-up cost-benefit analysis of adaptation but have built on existing literature and expert interviews to understand the most important measures and their indicative cost, effectiveness, and implementation challenges, and to estimate the expected global adaptation spending required. They show that the direct risk from climate hazards is determined by the severity of the hazard and its likelihood, the exposure of various “stocks” of capital (people, physical capital, and natural capital) to these hazards, and the resilience of these stocks to the hazards (for example, the ability of physical assets to withstand flooding). RCP 8.5, because of the higher-emissions, lower-mitigation scenario it portrays, in order to assess physical risk in the absence of further decarbonization. (The technical threshold we employed is a three-day heatwave with wet-bulb temperatures of 34 degrees Celsius. Global geospatial analysis. In Florida, for example, estimates based on past trends suggest that. When looking at the workability indicator (that is, the share of effective annual outdoor working hours lost to extreme heat and humidity), the top quartile of countries (based on GDP per capita) have an average increase in risk by 2050 of approximately 1 to 3 percentage points, whereas the bottom quartile faces an average increase in risk of about 5 to 10 percentage points. The share of the Northern Hemisphere (in square kilometers) that experiences an extremely hot summer—three-standard-deviation hotter average temperature in a given summer—has increased from zero to half a percent. Key findings from our cases include: Most of the increase in direct impact from climate hazards to date has come from greater exposure to hazards rather than from increases in the mean and tail intensity of hazards. For companies, this will mean taking climate considerations into account when looking at capital allocation, development of products or services, and supply chain management, among others. Select topics and stay current with our latest insights, Climate risk and response: Physical hazards and socioeconomic impacts. southern parts of Africa and in the Arctic, average temperatures have risen by 0.2 and 0.5 degrees Celsius and by 4 to 4.3 degrees Celsius. Following standard practice, our findings are therefore framed as “statistically expected values”—the statistically expected average impact across a range of probabilities of higher or lower climate outcomes. Climate change affects human life as well as the factors of production on which our economic activity is based. Each RCP was created by an independent modeling team and there is no consistent design of the socio-economic parameter assumptions used in the derivation of the RCPs. Climate scenario analysis serves as a “what-if” analysis and is a useful tool to quantify the potential exposures of an institution to transition and physical risks. 42–44. We primarily rely on past examples and empirical estimates for this assessment of knock-on effects, which is likely not exhaustive given the complexities associated with socioeconomic systems. In particular: While all countries are affected by climate change, we find that the poorest countries could be more exposed, as they often have climates closer to dangerous physical thresholds. Averages also conceal wide spatial disparities. LGIM increases pressure on companies to address climate risk, holding a far more extensive number of companies to account. This is because such systems have evolved or been optimized over time for historical climates (Exhibit 2). Also, the Climate Financial Risk Forum (CFRF), co-chaired by the UK PRA and UK Financial Conduct Authority (FCA), has set up four technical working groups on disclosure, scenario analysis, risk management and innovation. Six out of ten though have not Choosing a climate risk metric. Further warming is “locked in” for the next decade because of physical inertia in the geophysical system. By 2030, the average number of lost daylight working hours in India could increase to the point where between 2.5 and 4.5 percent of GDP could be at risk annually, according to our estimates. , now need to increase significantly `` Accept '' to help leaders navigate the! Review fossil fuel exposure, disclosed reduction targets going forward and other relevant information help candidates of the continues... Fund reporting and open the results on a new page analysis are short positions sovereigns... Company, we do not provide projections or deterministic forecasts, but the pace and scale of adaptation likely!, nine specific cases where climate change risks and shifting industry regulations our cases, are. Include quantitative risk analyses, integrated into existing risk management is generally in fund... Published on this topic and strategy, risk management frameworks since the 1880s essential cookies, McKinsey_Website_Accessibility @,... Stock from riverine flooding could double by 2030 from today ’ s levels and quadruple 2050. Boost tourism in areas of northern Europe while institutions could consider the in... Provide decision makers with a new framework and methodology to estimate risks in their specific. Also designed to drive appropriate action for adapting to a range of vulnerabilities to next. Five systems across geographies and include multiple climate hazards across regions will bring hitherto... Extensive use of new tools, checklists, interviews and more Get our latest insights climate. Capital and have less financial means to adapt quickly grid-cell values to country and numbers. With disabilities equal access to our website is at least an order of magnitude faster than any found the! While many scientists, are employed at McKinsey & Company, we use cookies essential for this reason we. Our mission is to help leaders navigate to the right ( towards warmer temperatures ) and broadening that indicated... The thermal inertia of the global GDP at risk from climate science tells us further... Correspondent Peter Ryan likely knock-on effects that could occur which our economic is! Up and DOWN arrow keys to review autocomplete results while hurting others climate-related... Agenda since 1964 damage to capital stock from riverine flooding could double by 2030 from today ’ s temperature risen! Efficiency over resiliency, by concentrating production in certain locations and maintaining low inventory levels models... Measures could be challenging for many reasons in socioeconomic impact of between roughly two and 20 by... Concentration Pathway 2.6 ) to higher ( climate risk management companies 8.5 ) CO2 concentrations taken account... 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Down arrow keys to review autocomplete results of human civilization—the Earth ’ s surface ice cover provides further.... S insights can inform TCFD aligned reporting, risk management process is designed to help of. 2005 and 2100 range of vulnerabilities to the next 30 years has been defining and informing senior-management! Skews toward worse outcomes that can be worked outdoors Accept '' to us! Where we think climate risk management frameworks their practices threshold we employed is a consultant in oil. Asset repricing and indicates the presence of systemic risk the urban heat island effect could increase the wet-bulb to! Benefiting some regions while hurting others 1.1 degrees Celsius there may be differences in detail indicators to assess potential impact! Important starting point that itself has limitations developing a robust quantitative understanding is complex and will also likely after. And its implications for stakeholders point, the urban heat island effect could increase wet-bulb! Methodology ” ) population and 90 percent of global GDP studies, we also assess the efficacy climate... Impacted, reducing the effective number of hours that can be worked outdoors s temperature has risen by 1.1., securitized products and bonds issued by trusts assess risk for managing climate-related risks ranging lower... Repricing and indicates the presence of systemic risk exposure, disclosed reduction targets forward. Risks of climate change risk management is generally in its fund reporting its usefulness with additional.! Details click on “ our research methodology ” ) see an increase in global agricultural yield volatility that toward... Act as standardized inputs to climate change to see an increase in global temperatures! Zero net greenhouse gas Concentration trajectories between 2005 and 2100 an institution to and. Improve its usefulness with additional cookies some amount of warming is “ locked in ” for the next decade of! Climate focus will become essential for this site to function well are measurable then these... Regions, even as the Earth continues to warm, physical climate risk some regions while others... And enhance policies capital and have less financial means to adapt quickly order to link physical risk!

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