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CRISK: Measuring the Climate Risk Exposure of the Financial System

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Abstract

A growing number of climate-related policies have been adopted globally in the past thirty years (see chart below). The risk to economic activity from changes in policies in response to climate risks, such as carbon taxes and green subsidies, is often referred to as transition risk. Transition risk can adversely affect the real economy through the banking sector. For example, a shock to borrowers’ transition risk can impair their ability to repay, which can then lead to an amplified effect on banks’ current and expected future profits, resulting in a systemic undercapitalization of banks. In a recent Staff Report co-authored with Robert Engle and Richard Berner, we examine whether banks are sufficiently capitalized to absorb losses during stressful conditions due to heightened climate (transition) risk.

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  • Hyeyoon Jung, 2023. "CRISK: Measuring the Climate Risk Exposure of the Financial System," Liberty Street Economics 20230420a, Federal Reserve Bank of New York.
  • Handle: RePEc:fip:fednls:96024
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    References listed on IDEAS

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    1. Viral V. Acharya & Lasse H. Pedersen & Thomas Philippon & Matthew Richardson, 2017. "Measuring Systemic Risk," The Review of Financial Studies, Society for Financial Studies, vol. 30(1), pages 2-47.
    2. Bolton, Patrick & Kacperczyk, Marcin, 2021. "Do investors care about carbon risk?," Journal of Financial Economics, Elsevier, vol. 142(2), pages 517-549.
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    4. Reinders, Henk Jan & Schoenmaker, Dirk & van Dijk, Mathijs, 2023. "A finance approach to climate stress testing," Journal of International Money and Finance, Elsevier, vol. 131(C).
    5. Acharya, Viral & Engle, Robert & Pierret, Diane, 2014. "Testing macroprudential stress tests: The risk of regulatory risk weights," Journal of Monetary Economics, Elsevier, vol. 65(C), pages 36-53.
    6. Michael Schwert, 2018. "Bank Capital and Lending Relationships," Journal of Finance, American Finance Association, vol. 73(2), pages 787-830, April.
    7. Sudheer Chava, 2014. "Environmental Externalities and Cost of Capital," Management Science, INFORMS, vol. 60(9), pages 2223-2247, September.
    8. Engle, Robert, 2002. "Dynamic Conditional Correlation: A Simple Class of Multivariate Generalized Autoregressive Conditional Heteroskedasticity Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(3), pages 339-350, July.
    9. Philipp Krueger & Zacharias Sautner & Laura T Starks, 2020. "The Importance of Climate Risks for Institutional Investors," The Review of Financial Studies, Society for Financial Studies, vol. 33(3), pages 1067-1111.
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    Cited by:

    1. Alessi, Lucia & Ossola, Elisa & Panzica, Roberto, 2023. "When do investors go green? Evidence from a time-varying asset-pricing model," International Review of Financial Analysis, Elsevier, vol. 90(C).
    2. Laura Bakkensen & Toan Phan & Russell Wong, 2023. "Leveraging the Disagreement on Climate Change: Theory and Evidence," Working Paper 23-01, Federal Reserve Bank of Richmond.
    3. Giulia Bettin & Gian Marco Mensi & Maria Cristina Recchioni, 2023. "Multifactor Risk Attribution Applied to Systemic, Climate and Geopolitical Tail Risks for the Eurozone Banking Sector," Risks, MDPI, vol. 11(10), pages 1-26, September.
    4. Breckenfelder, Johannes & Maćkowiak, Bartosz & Marqués-Ibáñez, David & Olovsson, Conny & Popov, Alexander & Porcellacchia, Davide & Schepens, Glenn, 2023. "The climate and the economy," Working Paper Series 2793, European Central Bank.

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    More about this item

    Keywords

    climate; climate risk; financial stability; stress testing; systemic risk;
    All these keywords.

    JEL classification:

    • G1 - Financial Economics - - General Financial Markets
    • G2 - Financial Economics - - Financial Institutions and Services

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