Climate Change and Finance: Are They Connected?

Link Financial Advisory - Climate Change and Finance

Climate Change and Finance: Are They Connected?

Over the past ten thousand years, the Earth’s climate has remained stable. Today, we know through science and research that climate change is happening. Many scientific organizations are studying the impact of climate change while simultaneously economists are examining the socioeconomic implications in various regions of the world. Climate change is undoubtedly impacting finance and the economy in many areas. How much it will continue to reshape the global economy is unknown, but the financial sector is already shifting capital towards tackling climate change in many parts of the world.

There are variations of impact, even within a country’s borders, that will continue to affect production and ultimately, finance. For example, global warming affecting outdoor laborers or crop yields while rising floodwater inside a factory causes loss of production time due to facility damage, within the same country 500 miles apart.

In McKinsey Global Institute’s January 2020 report, Climate Risk and Response: Physical hazards and Socioeconomic Impacts, three implications of global warming stand out:

Systematic- While the direct impact of climate change is local, it can have knock-off effects across regions and sectors, through interconnected socioeconomic and financial systems.

Regressive- The most impoverished communities and populations within each impacted area typically are the most vulnerable. Climate risk creates spatial inequality, as it may simultaneously benefit some regions while hurting others.

Under-Prepared- While companies and communities have been adapting to reduce climate risk, the pace and scale of adaptation are likely to need to increase to manage rising levels of physical climate risk. Adaptation will entail rising costs and tough choices that may include whether to invest in hardening or relocate people and assets.

The financial sector in many economies of the world is already preparing for the risks of global climate change. Aside from corporate social responsibility and green lending, there are fundamental reasons why banking and finance are creating standards for investing and allocating capital towards solving climate change. Some of the changes include moving money out of fossil fuels and toward greener renewable fuels and projects, for example.

The International Monetary Fund (IMF) now has policies requiring IMF member banks (and their fund managers and investors) to disclose climate vulnerability and measure their country’s financial situation to respond to climate change. If a country is unable to invest in or fund substantial carbon-reducing initiatives, they are unlikely to receive IMF development monies. This in turn affects that country’s ability to lend towards business development within their borders.

The proof exists that climate change drives extreme weather-related disasters causing damage to infrastructures and economies. IMF data shows that even seven years after a climate-related disaster, the country’s GDP (Gross Domestic Production) remains 1% lower than it would’ve had the disaster not occurred. We know that climate change and finance are interconnected and what we do today will have an impact on our planet and its inhabitants.

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