TRISK - A Climate Stress Test for Transition Risk

58 Pages Posted: 3 Dec 2022 Last revised: 4 May 2023

See all articles by Moritz Baer

Moritz Baer

University of Oxford - Smith School of Enterprise and the Environment; University of Oxford - Institute for New Economic Thinking at the Oxford Martin School; UK Centre for Greening Finance and Investment (CGFI)

Ben Caldecott

University of Oxford - Smith School of Enterprise and the Environment

Jacob Kastl

2°Investing Initiative

Alissa M. Kleinnijenhuis

Stanford Institute for Economic Policy Research, Stanford University; Institute for New Economic Thinking at the Oxford Martin School, University of Oxford ; Oxford-Man Institute of Quantitative Finance, University of Oxford

Nicola Ranger

World Bank

Date Written: October 20, 2022

Abstract

Climate change has the potential to impact the stability of the financial system. We develop a climate stress test that translates climate transition risks affecting individual firms and economies to shocks affecting the financial system. As part of this, we present a forward-looking risk measure - TRISK - which is the expected loss of a financial institution given the uncertain materialisation of a transition stress scenario. The approach is rooted in asset-level data and represents transition impacts on the level of the firm in a microeconomic and financial model. Key distinct features of the climate stress test are its forward-looking nature based on the transition strategy of firms, the explicit representation of technological costs and firms’ comparative advantage, the transparency and flexibility to accommodate for a wide range of scenarios and underlying modelling choices, and the ability to demonstrate sensitivities in all modelling stages. We perform an exploratory analysis to a selection of international power firms. We find that transition impacts entail significant heterogeneity across firms and the financial sector with clear distributional consequences. This highlights the need for bottom-up stress tests able to reflect the complexity of the transition to inform governments, financial markets as well as financial policy design.

Suggested Citation

Baer, Moritz and Caldecott, Ben and Kastl, Jacob and Kleinnijenhuis, Alissa M. and Ranger, Nicola, TRISK - A Climate Stress Test for Transition Risk (October 20, 2022). Available at SSRN: https://ssrn.com/abstract=4254114 or http://dx.doi.org/10.2139/ssrn.4254114

Moritz Baer (Contact Author)

University of Oxford - Smith School of Enterprise and the Environment ( email )

University of Oxford - Institute for New Economic Thinking at the Oxford Martin School ( email )

Eagle House
Walton Well Road
Oxford, OX2 6ED
United Kingdom

UK Centre for Greening Finance and Investment (CGFI)

United Kingdom

Ben Caldecott

University of Oxford - Smith School of Enterprise and the Environment ( email )

United Kingdom

Jacob Kastl

2°Investing Initiative ( email )

Alissa M. Kleinnijenhuis

Stanford Institute for Economic Policy Research, Stanford University ( email )

366 Galvez Street
John A. and Cynthia Fry Gunn Building
Stanford, CA CA 94305
United States

HOME PAGE: http://https://siepr.stanford.edu/people/alissa-kleinnijenhuis

Institute for New Economic Thinking at the Oxford Martin School, University of Oxford ( email )

Oxford
United Kingdom

Oxford-Man Institute of Quantitative Finance, University of Oxford ( email )

Oxford
United Kingdom

Nicola Ranger

World Bank

1818 H Street, NW
Washington, DC 20433
United States

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