A Biodiversity Stress Test of the Financial System

Abstract

This paper provides the first rigorous assessment of the financial sectors’ resilience to biodiversity transition risk. We provide ``bottom-up'' stress tests using comprehensive euro-area credit registry data and a market-based ``top-down'' stress test based on banks' stock return sensitivities to biodiversity risk. Industries exposed to biodiversity transition risk account for approximately 16% of total bank credit to non-financial firms, compared to about 27% for climate-exposed industries. Stress test scenarios indicate that even under severe conditions, additional losses in biodiversity-exposed industries would constitute only 0.27 to 0.4% of the financial system's corporate loan portfolio. A top-down market-based approach yields similar results with capital shortfalls following a biodiversity shock peaking at 0.1% of banks' assets. Our evidence indicates that financial stability concerns related to biodiversity transition risk are moderate.

Keywords: Climate risk, Financial stability, Systemic risk, Biodiversity risk

JEL Classification: Q54, Q57, C53, G20