Delayed climate change responses to pose financial risks for banks, insurers: BOK, FSS

Bank of Korea Gov. Rhee Chang-yong delivers opening remarks during an international conference on climate finance co-organized by the BOK and the Financial Supervisory Service (FSS), Tuesday. Courtesy of BOK

Financial institutions are expected to incur short-term losses due to more stringent climate response policies, compounded by slumping asset values in traditional carbon-intensive industries, the central bank and financial watchdog said Tuesday.

However, the immediate profit risks are outweighed by the long-term value of fostering green technologies and overall climate crisis containment, they said.

According to the Bank of Korea (BOK) and the Financial Supervisory Service (FSS), failing to implement timely and proper anti-global warming action plans will exacerbate environmental damage from abnormal climate events, such as extreme temperatures and heavy downpours.

This, in turn, will deteriorate the credit and insurance profiles of institutions with exposure to agriculture, food and construction.

Prompt action is crucial for Korea’s export-reliant economy, long underpinned by high-carbon manufacturing, they said. This reliance has provided grounds for many growth driver industries, accounting for a quarter of the country’s GDP, to delay or outright disregard the push for a low-carbon transition drive for years, they said. In comparison, the share of GDP from such industries is 11 percent in the U.S., 21 percent in Japan and 15 percent in the European Union.

“The threat of climate change is no longer a distant concern,” BOK Gov. Rhee Chang-yong said Tuesday during an international conference on climate finance jointly organized with the FSS.

Heat waves, heavy rainfall and unusually high temperatures, for example, have caused agricultural produce prices to skyrocket, complicating the central bank’s inflation mandate, he added. The number of heat wave days exceeded 30 last year, far higher than the average of 11 days recorded between 1991 and 2020.

"The overall elevated concerns can and will be managed and guided by accurate assessment of climate risks on the real economy and the financial system," Rhee said. “The role of financial institutions should expand as manager and the taker of risks in financing and to help green transition. I hope that the BOK- and FSS-commissioned stress tests provide a meaningful first step for effective green initiative.”

Financial Supervisory Service Gov. Lee Bok-hyun delivers opening remarks during an international conference on climate finance co-organized by the Bank of Korea and the Financial Supervisory Service (FSS), Tuesday. Courtesy of BOK

FSS Gov. Lee Bok-hyun echoed the sentiment.

“The years of global carbon-neutrality drive has waned, accelerated by the U.S. withdrawal from the anti-global warming initiatives,” he said.

The Trump administration withdrew from the Paris Climate Agreement in January. Similarly, the U.S. Federal Reserve backed out of the Network for Greening the Financial System, a network of 114 central banks and financial supervisors established in 2017 for green financing.

“The slew of unfavorable global developments notwithstanding, Korea will continue to fortify efforts for a closer collaboration,” Lee said.

The stress test, meanwhile, showed that the financial sector is expected to incur up to 45.7 trillion won in losses over the next seven decades, as assessed from a "no-response" scenario — the worst scenario on a scale of four.

The losses will be limited to around 27 trillion won in the most optimistic scenario, where the average temperature rise will be kept to 1.5 degrees Celsius or lower by 2050 compared to the preindustrialization period.

The worst-case scenario showed a potential GDP drop of 21 percent by 2100, compared to a 13 percent decrease by 2050 in the most optimistic scenario.

The FSS called for strengthened risk management guidelines, to prepare financial institutions against unexpected losses and to advance green investments, as well as global capital requirement standards.

“Banks should prepare against credit losses and the ensuing declines in the Bank for International Settlements (BIS) capital ratios,” the report said.