Climate-related financial risks encompass more than the physical impacts of climate change like wildfires and drought. They also include the impacts of the transition toward a low-carbon economy, such as the rapid adoption of climate policies or technologies that affect economic activity.
Nature-related risks are associated with economic activities that jeopardize the integrity of natural systems on which those activities rely, such as biodiversity loss and ecosystem degradation. Climate- and nature-related risks are interconnected and must be factored into the decision-making of both financial and non-financial corporations.
Measurements of climate- and nature-related risks help corporations target investments and interventions that advance sustainable business transformation by reducing greenhouse gas (GHG) emissions and enhancing climate resilience. Accurate, timely, complete and comparable disclosures from non-financial corporations (those that operate in the real economy) are needed for other market stakeholders — like financial institutions and regulators — to deploy capital efficiently and monitor and manage risks at a portfolio or systemic level.
The Taskforce on Climate-related Financial Disclosures (TCFD) and the Taskforce on Nature-related Financial Disclosures (TNFD) have developed frameworks to help corporations and other organizations measure and disclose the financial impact of these risks in a consistent, actionable manner. These frameworks can be integrated into various reporting standards and are useful for any corporation seeking to manage climate- and nature-related risks in their operations.
The growing awareness of climate- and nature-related risks in the private sector is already driving businesses to adopt net-zero transition plans. These plans aim to mitigate biodiversity harm and ecosystem degradation in order to reduce businesses’ exposure and contribution to such risks. So far, most climate- and nature-related risk disclosure has occurred on a voluntary basis, but regulators in most of the world’s largest capital markets are considering mandating such disclosures and incorporating them into the supervision of the financial sector.
Mandatory disclosure requirements will be necessary to standardize and measure risks across the entire economy. Likewise, financial risks must be integrated into the supervision of financial institutions and the financial system as a whole. Regulators also need to ensure that climate risk integration does not lead to inequitable outcomes, such as reducing access to financing for communities that are most vulnerable to climate impacts.
Integration of climate- and nature-related risk measurement and disclosure will help individual firms and markets respond to and manage these risks. It will also allow investors to value companies accurately.
Risk integration by itself will not set the global economy on a path to net-zero GHG emissions. Companies and financial institutions must not only manage risk but also ensure that their investments are aligned with Paris Agreement goals. However, risk management will accelerate the movement of capital (and change the cost of capital) in response to other systems shifts, such as climate policy and technological changes. It will complement other necessary shifts in the financial system and other sectors.
Read our article on how the finance system can provide the roughly $5 trillion of capital needed every year by 2050 to meet climate and biodiversity goals while protecting equity.
