How climate risks are reshaping systemic risk governance
The challenges posed by climate risks are pushing central banks, regulators and supervisors to expand their analytical horizons. Martina Menegat explores how this is inspiring the development of new approaches to identifying, assessing and managing risks across the financial system.
The Global Financial Crisis (GFC) elevated macroprudential policy as the main framework for addressing systemic risk. Yet systemic risk governance extends well beyond macroprudential policy. Climate change has become the first major real-world test of the post-GFC vision, showing that systemic risk should be embedded in prudential supervision, financial market regulation and monetary policy rather than being confined to a single policy toolkit. Climate risks have exposed gaps and blind spots in governance and risk management, while revealing interconnections across the financial system that may have otherwise remained hidden until vulnerabilities materialised. These risks have driven the development of new data, analytical tools and policy approaches that strengthen the resilience of financial institutions, such as transition planning. The emergence of collaborative initiatives such as the Network for Greening the Financial System (NGFS) also reflects an evolution towards more integrated and cooperative approaches to managing systemic risks.
The role played by climate risks after the GFC was at the heart of a recent, closed-door CETEx workshop that brought together regulators, central banks and supervisors from across the EU, the UK and Brazil, along with international institutions, to discuss the future of systemic risk governance. The participants explored how climate risks can serve as a lens to analyse the evolving relationship between banks and non-bank financial intermediaries (NBFIs), the role of data in supporting systemic risk assessment, and the use of macroprudential tools to address novel sources of risk.
The relationship between bank and non-bank financial intermediaries
An increasingly urgent question for systemic risk governance concerns how to better understand the relationships between banks and NBFIs, and how shocks can propagate across different parts of the financial system. In this context, climate risk analysis has become an important source of methodological innovation. The tools and approaches developed to assess climate-related financial risks are helping authorities understand interconnections across the financial system that were previously difficult to observe. In particular, economy-wide climate stress tests, such as those carried out in the EU, have offered valuable lessons for the design of broader system-wide stress testing frameworks. These exercises make it possible to examine how banks and NBFIs are jointly affected by climate-related shocks. For example, these models can capture losses in investment funds triggered by market risk shocks linked to transition or physical risks. Climate scenario analysis can also be used to assess both market risk transmission and the resilience of NBFIs in different adverse scenarios. Insights from the Bank of England’s System-Wide Exploratory Scenario (SWES) can be used to understand how a market-wide repricing event could affect NBFIs and generate second-round effects across the financial system.
Even in sectors that are relatively well regulated, such as insurance, the climate lens reveals vulnerabilities that may give rise to systemic risk. As shown in the conceptual framework and research agenda we developed to examine the insurance–bank nexus, the climate protection gap raises questions about how risks are transferred between insurers, households, firms and banks, and how vulnerabilities may spread through interconnected balance sheets and implicit state subsidies. Granular and timely information on insurance coverage, exclusions, pricing trends and underwriting capacity is essential for assessing where risks ultimately reside within the financial system. Greater access to this information would, therefore, enhance financial authorities’ ability to design more effective macroprudential and microprudential responses.
Data architecture
Data forms the infrastructure that underpins systemic risk governance. Authorities’ capacity to identify emerging vulnerabilities, assess risk concentrations, understand transmission channels and design effective policy responses depends on the availability, quality and comparability of relevant data. While much of the current debate focuses on simplifying reporting requirements and reducing the compliance burden, our recent workshop took a different approach, asking: how can we better harness the fragmented data that is already accessible by pooling and leveraging it more effectively?
The climate lens has been particularly valuable in identifying blind spots in the existing data architecture. It highlights how relevant information and risk indicators can be overlooked when oversight frameworks remain fragmented, sector-based and primarily backward-looking. Climate-related risks are inherently complex: they are characterised by limited historical data, uncertainty, nonlinearities and tipping points. As a result, researchers and practitioners have developed new tools and approaches to data that can inform broader systemic risk analysis. One promising avenue is the use of forward-looking, asset-level data from both public and commercial providers. When combined, these datasets can help close important information gaps, particularly where public disclosures remain incomplete or inconsistent. Another emerging approach is the development of digital twin models for physical climate risks. These models integrate historical evidence into forward-looking stress testing techniques, enabling a more granular identification of vulnerabilities across firms, households and sectors.
Taken together, such developments point to a broader opportunity: institutions and private actors should strengthen their exchange of knowledge, methodologies and analytical tools to make better use of existing and emerging resources. Efforts to understand and manage systemic risk would be significantly enhanced by methodological cross-fertilisation, as well as greater data sharing, between public authorities. Shared data systems, common definitions, interoperable methodologies and aligned reporting frameworks can help authorities develop a more complete picture of how risks accumulate and migrate across the financial system. Approaches developed in one area of supervision or financial stability analysis can provide valuable insights for others. For example, scenario analysis, stress-testing methodologies and forward-looking risk indicators developed for climate risk assessment can inform the monitoring of other sources of systemic risk, including geopolitical risks.
Macroprudential tools
The climate lens can also help authorities identify shortcomings in, and make refinements to, the macroprudential toolkit. From the start, macroprudential policy has been conceived of as less a fixed set of instruments than a flexible framework in which to address evolving sources of financial instability. The experience of dealing with climate risk reinforces a broader lesson for macroprudential policy: maintaining flexibility and a forward-looking perspective is essential for addressing sources of systemic risk that may not yet be fully captured by existing frameworks. Macroprudential tools should be designed and calibrated using the best available evidence and data, while ensuring that they will remain effective not only in the current environment but also when facing future challenges. The workshop focused on two areas where this question is particularly relevant: capital buffers and borrower-based measures.
Capital buffers require banks to hold additional capital above minimum regulatory requirements to absorb unexpected losses and strengthen resilience. Article 133 of the EU Capital Requirements Directive 6 (CRD6) allows EU countries to establish a climate Systemic Risk Buffer, enabling additional capital requirements to be applied to exposures that are subject to physical or transition risks. The European Banking Authority (EBA) has launched a consultation to provide guidance on its implementation (and CETEx has provided a written response). However, the future role of climate considerations in the macroprudential buffer framework is unclear. The EBA’s recent proposal to reorganise existing capital buffers into non-releasable and releasable components (the latter of which include the Systemic Risk Buffer) raises questions about how climate-related vulnerabilities will continue to be identified and addressed within the evolving framework (as CETEx has explored in relation to compound risks).
The macroprudential toolkit also includes borrower-based measures, which place limits on borrowing conditions for households and firms, with the aim of preventing excessive leverage and reducing vulnerabilities linked to over-indebted borrowers. However, their design requires careful consideration of potential unintended consequences. In some cases, such measures could unintentionally constrain access to finance for investments such as energy-efficiency improvements (as discussed in a forthcoming CETEx policy brief).
Regardless of the specific instrument, the key challenge is ensuring that the macroprudential toolkit addresses climate-related vulnerabilities and does not create barriers to the green transition. Achieving this requires close coordination across policy areas, so that macroprudential measures complement rather than conflict with wider economic, financial and climate objectives.
Looking ahead
In many countries, policymakers are reassessing how financial regulation can support both resilience and competitiveness. The experience of integrating climate risk into financial policymaking has demonstrated that siloed approaches are no longer sufficient. Physical and transition risks can affect households, firms, insurers, banks and public finances through multiple transmission channels. Examining these interactions helps reveal where risks accumulate, existing frameworks provide incomplete coverage, and information gaps remain. The climate lens has helped authorities identify weaknesses in existing governance and policy arrangements. It has encouraged a more forward-looking, cross-sectoral and interconnected approach to risk governance – one that is focused not only on the resilience of individual institutions, but also on how risks are generated, transmitted and allocated across the economy.
Financial stability experts, banking regulators and supervisors, lawyers, policy specialists and data experts all have a role to play in this. It is vital to build a shared understanding of these challenges in a world increasingly shaped by not only rising temperatures but also heightened geopolitical uncertainty and interconnected sources of financial risk. The relationship between institution-level and system-level analysis is also important. The experience of dealing with climate-related financial risk demonstrates that new data, analytical tools and policy approaches all influence efforts to achieve both microprudential and macroprudential objectives. Responses to individual institutions’ vulnerabilities and broader systemic risks are often mutually reinforcing, while the boundary between the two is becoming increasingly blurred as financial systems face novel and interconnected shocks. This suggests that policymakers, central banks and supervisors should start challenging the assumption that microprudential and macroprudential objectives necessarily involve trade-offs. Further research is needed to explore how measures designed to strengthen the resilience of individual institutions can also contribute to financial stability at the system level, and vice versa.