Limitations and assumptions of commonly used climate-change scenarios in financial services
By Professor Tim Lenton
We have left it too late to tackle climate change incrementally. It now requires transformational change and a dramatic acceleration of progress.
A growing threat is the approach of ‘tipping points’ – thresholds which, once crossed, trigger irreversible changes, such as the loss of the Amazon rainforest or the West Antarctic ice sheet.
Some tipping point thresholds have already been reached, while others are getting closer as global warming continues. Once tipped into a new state, many of these systems will cause further warming – and may interact to form cascades that could threaten the existence of human civilisations.
However, some economists have predicted that damages from global warming will be as low as 2% of global economic production for a 3˚C rise in global average surface temperature. Such low estimates of economic damages – combined with
assumptions that human economic productivity will be an order of magnitude higher than today – contrast strongly with predictions made by scientists of significantly reduced human habitability from climate change.
It is concerning to see these same economic models being used to underpin climate-change scenario analysis in financial services, leading to the publication of implausible results in the Task Force on Climate-related Financial Disclosures (TCFD) reporting that show benign, or even positive, economic outcomes in a hot-house world. This jars with climate science, which shows our economy may not exist at all if we do not mitigate climate change.
It is essential that financial services institutions and regulators understand the limitations of these models and move towards realistic climate scenarios that recognise the catastrophic downside risk of a hot-house world. My hope is that this will spur a further acceleration of activity towards net zero in financial services, as it is only by reducing emissions, repairing the climate system and removing greenhouses gases that we will avoid the worst impacts of climate change – and we will need the support of the capital and insurance markets to achieve this.
Actuaries have an important contribution to make here. The application of actuarial principles to climate-change scenario analysis demonstrates the significant weaknesses in current approaches. Actuaries also wield enormous influence in the global financial system. In addition to their role in the insurance markets, their work in pensions means they can impact capital allocation in long-term savings in a way few other professions can, – the financial system is critical to accelerating a range of positive socio-economic tipping points.
Because just as tipping points are part of the greatest threat we face, the same logic may also provide the solution. We have identified a variety of positive tipping points in human societies that can propel rapid decarbonisation, in areas including transportation, agriculture, ecosystem regeneration, politics and public opinion. This concept could unlock the stalemate – the sense that there’s nothing we can do about climate change.
Operationalising positive tipping points will require leadership across society to seek out and deliver these transformational opportunities. Like the negative tipping points in the Earth system, some positive tipping points are already in motion. We must now seize the opportunity to accelerate this process further.
Professor Tim Lenton, Chair in Climate Change and Earth System Science at the University of Exeter
To access the The Emperor’s New Climate Scenarios report, click here.
The report was authored by Sandy Trust, Sanjay Joshi, Tim Lenton, and Jack Oliver