The Green Swan: Central Banking and Financial Stability in the Age of Climate Change

This groundbreaking book from the Bank for International Settlements reviews ways that central banks can address climate-related risks within their existing financial stability mandates.

The authors recognise both the radical uncertainty associated with climate change, and the limitations of traditional backward-looking risk assessments and climate-economic models. They go on to warn of a ‘green swan’ risk of extremely financially disruptive events that could lead to a systemic financial crisis.

A green swan is a climate black swan, named after Nassim Nicholas Taleb’s popular concept for events with major effects that come as a surprise and are recognised only in hindsight. The physical and transition risks of climate change are characterised by deep uncertainty and nonlinearity, so their chances of occuring are not reflected in past data. These unknown unknowns make traditional approaches to risk management largely irrelevant.

The book begins with an overview of climate change and its threat to price and financial stability, then reviews the deep challenges that financial institutions and supervisors face when conducting scenario-based climate risk analysis. Central banks are urged to “fully embrace climate uncertainty”, leading towards a break away from an epistemological position of risk management. Instead, they should move to one that seeks to build resilience in the complex adaptive systems that will be impacted by climate change.

The book then examines potential policy responses, calling on central banks to be more proactive in catalysing broader and more coordinated change in order to fulfill their own mandates of financial and price stability. Banks are asked to “contribute to coordination to combat climate change” (the “five Cs”) across a range of risk, time horizon and system resilience approaches. The conclusion is a powerful call for central bank action, advocacy and leadership on climate change, and transition to a zero-carbon economy.

Since publication, The Green Swan has already had a significant influence on central banker’s understanding of the urgency and scale of the climate crisis and the term has become widely used in climate risk discussion.