The NGFS is developing its first vintage of short-term climate scenarios, to be released later in 2025.
These scenarios consider shorter-term shocks, impacts, and frictions that include abrupt changes in policy, investor sentiment, or consumer behavior, and the direct and indirect effects of such shocks as they propagate through the economy. Longer-term analysis may smooth over these facets.
- Understanding the macrofinancial impacts of climate change over a shorter time frame is necessary to assess the financial risks from the transition as well as physical risks. The short-term scenarios capture trends in GDP, unemployment, and inflation, in addition to sovereign spreads, bond valuations, and probability of default adjustments for public finance risk management, and they can inform MoFs on the macrofinancial implications of various recycling options for carbon pricing revenue.
- Considering the financial sector and its amplifying role of (local) climate-related risks is fundamental. Sudden readjustments in financial market expectations can lead, for instance, to fire sales, asset stranding, and liquidity stress, which may propagate through the economy.
- Public spending is the primary shock-absorber for macrofinancial impacts, though overreliance on this approach can lead to perilous debt levels. Hence, carbon pricing can be attractive owing to its ability to fund subsidies that counter-balance energy prices or distributional transfers that make the transition more socially acceptable, for example.
Currently, the NGFS scenarios are targeted more specifically to a risk assessment audience and explore tail risks. This means they may not be as relevant for MoFs as scenarios designed for monetary policy, although they can be useful for financial stability exercises.
A conceptual note on short-term scenarios published in October 2023 developed five narratives underpinning several short-term dynamics of transition and physical risk. These narratives differ depending on the shock source, transmission channels, and short-term policy reactions. Once the initial short-term scenarios have been released, further developments will include enhancing geographic granularity and modeling climate policies explicitly. One practical use case of these short-term scenarios is the preparation of Nationally Determined Contributions, as their cut-off date of 2030 is approaching. Users should, however, ensure that NGFS data effectively reflects their own jurisdiction’s particularities and adapt as needed.
Note: The NGFS’s short-term scenarios have now been published.
Keywords
financial systemfiscal impactsmodelsphysical riskrisk management
