Heatwaves drive up agricultural prices by 0.5%p... Climate risks could cause 45 trillion won in losses to the financial sector

If heatwaves continue, grocery prices will rise, and a "Green Swan" phenomenon may emerge where the climate crisis shakes the entire financial system. This is because climate change is acting as a risk for the overall economy beyond a simple environmental problem.

According to a "BOK Insights" video released by the Bank of Korea on the 13th, climate change has a wide-ranging impact on the overall economy, such as reducing corporate productivity and threatening the soundness of financial institutions. In particular, extreme weather events caused by climate change are classified as "physical risks," while the regulations and changes in industrial structure occurring during the transition to a low-carbon economy are classified as "transition risks." Physical risks include not only natural disasters like floods or typhoons but also the continuous rise in average temperatures, which can lower corporate productivity and profitability and shrink investment and employment, thereby negatively affecting economic growth.

Reasons why climate response is difficult: 'Externalities' and 'Tragedy of the Commons'

The fundamental reasons why the climate change problem is difficult to solve were presented as the economic concepts of "externalities" and the "Tragedy of the Commons." First, from the perspective of externalities, while the costs incurred by companies when emitting greenhouse gases during product production are borne by the companies, the resulting damage from climate change is shared by society as a whole. That is, because a "negative externality" occurs where the costs borne by companies do not match the costs borne by society as a whole, it is difficult to achieve greenhouse gas reductions to the necessary extent.

Furthermore, the "Tragedy of the Commons" problem that arises when each nation prioritizes economic interests is also significant. Just as a pasture used by many people becomes devastated if each person raises more cows for their own profit, if each country does not reduce greenhouse gas emissions for the sake of immediate economic interests, all countries will eventually suffer the damage caused by climate change together. In particular, it was pointed out as a problem that it is not easy to induce collective action because the situations and interests of each country differ.

Heatwaves causing 'Heatflation', agricultural prices rise if temperature rises by 1 degree

Climate change also has a direct impact on consumer-perceived inflation. The video introduced the concept of "Heatflation," a compound word of Heat and Inflation. It refers to a phenomenon where the production of vegetables or fruits decreases due to heatwaves, causing prices to surge due to supply shortages, and energy costs to rise due to increased cooling demand.

According to the Bank of Korea's analysis, if the domestic temperature rises temporarily by 1 degree due to heatwaves, etc., the agricultural price increase rate is found to rise by about 0.4 to 0.5%p. Specific figures were presented showing that a heatwave warning encountered in the morning can lead to an actual rise in agricultural prices at supermarkets.

Unpredictable 'Green Swan', climate disasters threatening the financial system

The shock that climate change exerts on financial markets is explained by the term "Green Swan." This is a concept that combines climate factors with "Black Swan," which refers to events that are difficult to predict but cause massive shocks to the entire financial system when they occur. It was first used by the BIS through a 2020 report.

Green Swans are characterized by the fact that while the risks themselves caused by climate change may be expected, it is difficult to accurately predict when and in what form the shock will appear and shake the system. For example, if a factory stops due to flooding, reducing corporate production and sales, a chain reaction can occur where this leads to losses for the banks that provided loans and increases the burden of insurance payouts for insurers. The key point is that a single climate disaster can spread beyond companies to financial institutions and the entire economy.

20 trillion won difference in financial sector losses depending on climate policy response

The Bank of Korea, along with the Financial Supervisory Service and the Korea Meteorological Administration, conducted "climate stress tests" on banks and insurers to analyze the economic ripple effects according to policy responses. The analysis showed that the scale of cumulative expected losses to be incurred by the financial sector varies greatly depending on how actively they respond to climate change.

As a result of estimating the cumulative losses from 2024 to 2100, in a scenario where carbon neutrality is achieved by 2050, the loss amount is expected to remain at the level of 26.9 trillion won. On the other hand, it was analyzed that if climate policies are not introduced, the loss amount would soar to 45.7 trillion won. This means there is a difference of about 18.8 trillion won in the scale of losses depending on whether policy responses are made.

The Bank of Korea plans to pursue additional stress tests to identify the impacts of climate change and policy changes that could materialize within the next five years. Additionally, it is conducting research to analyze the impact of climate change on regional economies, considering the industrial characteristics of each region, such as Gangwon (tourism industry) and Jeju (agriculture).

Source: original video (YouTube)