The devastating effects arising from climate change, apart from having environmental consequences, give rise to economic and financial stability implications. Climate change risk is generally attributable to two main sources: physical risk – the implications arising from extreme weather events and the increase in global temperature due to greenhouse gas emissions; and transition risks – repercussions on the financial system resulting from measures adopted to reduce emissions. In order to preserve financial stability, it is important to analyse these two elements from a systemic perspective.
European institutions have increased their commitment to combating climate change. At the end of 2019, the European Commission unveiled a Green Deal plan, with the aim of reaching climate neutrality by 2050. In issuing the Next Generation EU plan, the European Commission set a target of 30% of its budget for climate change-related projects and initiatives. At the same time, the European Central Bank committed itself to include climate change and environmental sustainability considerations within its monetary policy strategy.
With sustainable finance being given more priority on the MFSA’s agenda, the Authority is stepping up its efforts towards the analysis and assessment of its licensed entities’ exposure to climate change risk.
In November 2021, the MFSA published an assessment of the effect of the introduction of carbon tax rates at various levels of intensities and how these would influence licensed entities within the Maltese financial services sector. The main novelty of the study is that it adopts established asset pricing methodologies to quantify the effect of carbon tax rates on a security-by-security basis. The assessment focuses specifically on investment portfolios, covering investments in shares, corporate bonds and collective investment schemes.
Results show that while the overall Maltese financial sector appears to be resilient to such climate policy intervention, a small number of Maltese licensed entities could experience noteworthy losses following the abrupt introduction of a high carbon tax rate. Nevertheless, the implementation of a carbon tax rate at a moderate level would give rise to minor consequences on the financial system.
This first exercise concentrates on entities’ investment portfolios, and different conclusions could arise should other assets held within the financial sector, such as loans and government bonds, be taken into consideration. With this in mind, the MFSA remains committed to continue assessing climate-related implications that may influence the Maltese financial system.
The full report may be accessed here.