Central Banks Sound the Alarm: Navigating Climate Risks in Finance
- Samantha Liu
- Aug 14
- 4 min read
The financial world is undergoing a profound transformation: climate change is no longer a distant environmental concern, but a direct systemic threat to economic stability. Central banks, as guardians of the financial system, are integrating it into their core missions at an unprecedented pace. The International Monetary Fund (IMF) sharply notes that physical risks (like extreme weather) and transition risks (like policy changes) related to climate "could severely disrupt price and financial stability, or trigger the next systemic financial crisis". Thus, managing these risks has become a necessity for central banks, who also recognize the crucial role of the financial system in promoting a low-carbon economy.
The European Central Bank's Proactive Stance: Integrating Climate Risk at the Core of Regulation
The European Central Bank (ECB) is at the forefront of climate risk regulation, explicitly requiring financial institutions to adopt a "strategic, forward-looking, and comprehensive approach" to address climate-related and environmental risks.
Strengthened Capital Requirements: Since November 2022, the ECB has imposed additional capital requirements on banks that fail to effectively manage climate and environmental risks , directly linking climate risk management to banks' financial health.
2024 Compliance Assessment: The ECB had asked banks to fully integrate climate risks into their Internal Capital Adequacy Assessment Processes (ICAAP) and stress tests by the end of 2024. As of July 2025, Frank Elderson, Member of the ECB's Executive Board, confirmed "significant progress" by banks, but gaps persist: by the end of 2024, only 56% of banks had "leading practices" for "at least some exposures," and 5% had "no practices".
Strict Enforcement: To accelerate compliance, the ECB has issued 28 "binding decisions," 22 of which involve the potential imposition of "periodic penalty payments" if banks fail to meet requirements , demonstrating its firm regulatory stance.
Collateral Framework Adjustment: From the second half of 2026, the ECB will introduce a "climate factor" into its collateral framework. This means the value of marketable assets issued by non-financial corporations and pledged by banks to the ECB will be adjusted (reduced) based on their vulnerability to climate-related transition shocks. This measure aims to protect the Eurosystem's own balance sheet and incentivize the market to shift towards greener assets.
The Bank of England's Stern Warning: Real Estate Sector Vulnerability
Sarah Breeden, Deputy Governor for Financial Stability at the Bank of England, issued a severe warning to the real estate sector, stating that "climate risks are real and tangible, and as they become more imminent, property valuations may change rapidly". This is not without foundation:
Sharp Drop in Asset Value: The Bank of England's analysis shows that in extreme climate scenarios, 1% of the most exposed properties in the UK could lose up to 20% of their value.
Insurance Coverage Crisis: The loss of insurance coverage for flood-prone properties is an imminent risk. For example, US insurer AllState has withdrawn coverage from high-risk regions like California due to the frequency of extreme weather events.
Regulatory Compliance Challenges: The UK government requires all commercial buildings to achieve an Energy Performance Certificate (EPC) rating of B or higher by 2030, but currently, 83% of commercial buildings in major cities do not meet this standard. Breeden warned that without sufficient funding, "zombie properties" could emerge.
Market Risk Aversion: A 2023 Urban Land Institute (ULI) survey revealed that 61% of European real estate professionals abandoned acquisitions due to analysis of decarbonization-related asset risks.
Sovereign Bond Risk: The Bank of England disclosed in 2025 that in the most adverse "Net Zero 2050" climate scenario, the value of its sovereign bond holdings could decrease by over 9%.
Common Themes and Systemic Impact: The United Front of Central Banks
Central banks worldwide show a marked convergence in their approach to climate risk management, signaling global regulatory harmonization.
Systemic Risk Recognition and Data: Climate change is clearly identified as a systemic risk, capable of triggering the next global financial crisis. Central banks are actively promoting more comprehensive, standardized, and detailed disclosure of climate-related data.
Stress Testing and Prudential Measures: Rigorous stress tests are essential tools for assessing the resilience of financial institutions. For example, the Bank of England forecasts a more than 9% drop in the value of its sovereign bond holdings in the most adverse scenario. Regulators are decisively moving from guidance to concrete prudential actions, such as the ECB imposing additional capital requirements.
Greenwashing Prevention and Monetary Policy Integration: Central banks are increasingly focused on reducing "greenwashing" risks through improved disclosures and robust verification mechanisms , such as the Brazilian Sustainable Taxonomy (TSB) developed by the Central Bank of Brazil. Concurrently, central banks are integrating climate considerations into their monetary policy operations, like the ECB's introduction of a "climate factor" in its collateral framework.
These initiatives have a profound impact on financial institutions and the broader economy: climate risk management has become a mandatory requirement, necessitating complex data collection, analysis, and modeling capabilities from businesses, along with the development of forward-looking strategies to adapt to climate change and the low-carbon transition. The collective emphasis by central banks on capital requirements, stress testing, asset revaluation, and insurance availability marks the complete "financialization" of climate risk, making it indispensable to financial health.
The Urgency for Businesses: Partnering with Experts for a Net Zero Transition
The warnings and policy shifts from central banks are directly translating into urgent demands for non-financial businesses, physical asset owners, and project developers. The priority is to build robust climate risk management (physical and transition), enhance disclosure transparency, and adopt innovative solutions, particularly Monitoring, Reporting, and Verification (MRV) technologies.
Navigating this complex and rapidly evolving landscape requires professional expertise and pragmatic solutions. DT Carbon Master is dedicated to assisting businesses in achieving net-zero carbon emissions. We offer services in carbon footprint measurement, decarbonization strategies, and sustainability risk management, designed to help businesses meet increasingly stringent disclosure requirements and effectively counter "greenwashing", we aim to be your pragmatic partner in transforming regulatory challenges into strategic advantages, building resilience, and achieving your Net Zero goals.