Flooding in Sylhet, Bangladesh in 2022. The FSB has proposed climate risk analysis using forward-looking methods. © HM Shahidul Islam / Shutterstock
The Financial Stability Board (FSB) has unveiled a new holistic framework that fuses traditional financial stability analysis with a forward-looking approach to assess climate-related vulnerabilities. The toolkit represents a significant advancement in global climate risk monitoring and a “welcome addition to the FSB’s financial stability surveillance” said Nellie Liang, outgoing under-secretary for domestic finance at the US Treasury.
Released on 16 January, the framework models the propagation of climate shocks through financial and economic systems, including how they are amplified by existing financial vulnerabilities and second-round effects, such as fire-sale dynamics in which large numbers of assets are sold at lower prices.
The results highlight the potential dangers of sudden, widespread repricing of physical risks as previously underestimated threats come to light.
A ‘premium’ on forward-looking climate risk analysis
The FSB is now placing a “premium on forward-looking assessments” to address the unique and nonlinear nature of climate risks that do not “follow common business or financial cycle dynamics”. This departs from the conventional reliance on historical data and backward-looking indicators in financial stability analyses.
“Climate shocks are expected to grow in terms of their frequency and magnitude, making past observations potentially ill-suited to assess future implications”, states the FSB.
The report outlines a variety of forward-looking metrics, including scenario-based projections of emissions and climate-stressed financial ratios. It emphasises the role for conceptual narratives to explore potential future scenarios’ impact on financial stability indicators.
Additionally, the framework captures cross-border and cross-sectoral spillover effects, as well as feedback loops between the real economy and the financial sector.
Sarah Breeden, deputy governor at the Bank of England and chair of the FSB group that prepared the report, praised it as providing “a forward-looking approach to be able to capture the unique aspects of climate risks while staying rooted in traditional financial stability analysis”.
However, the report noted that persistent data gaps present “a core challenge to operationalising the FSB’s analytical toolkit”, acknowledging the need for further work on data quality and the standardisation of forward-looking metrics.
The framework suggests transition plans could help address data limitations and enhance forward-looking analysis. For instance, vulnerability metrics can draw directly on transition plan data, including planned investment activities and targets.
This echoes a separate FSB report, also released last week, which explores the potential for transition plans to be used in monitoring financial stability.
However, such use remains in its “early stages”. The watchdog emphasised the need for standardisation and broader adoption of transition plans to improve their comparability and usefulness for macroprudential supervisors.
This page was last updated January 23, 2025
Written by
Ike Walker, a Green Central Banking contributor since 2023, has a decade's experience in research writing. An Utrecht-based scholar, Ingrid specialises in transformative justice, green finance, law and systems change. They are an Utrecht University's Bright Minds scholar and previously worked for Cambridge University and various justice-based NGOs.
