Accounting for climate transition risk in banks' capital requirements

Lucia Alessi, Francesca Erica Di Girolamo (), Andrea Pagano () and Marco Petracco Giudici
Additional contact information
Francesca Erica Di Girolamo: European Commission, https://ec.europa.eu/jrc/en
Andrea Pagano: European Commission, https://ec.europa.eu/jrc/en

No 2022-08, JRC Working Papers in Economics and Finance from Joint Research Centre, European Commission

Abstract: This paper uses a stylized simulation model to assess the potential impact of transition risk on banks' balance sheets and establishes a basis for calibrating relevant macro-prudential instruments. We show that even in the short run, a fire-sale mechanism could amplify an initially contained shock on high-carbon assets into a systemic crisis with significant losses for the EU banking sector. We calculate that an additional capital buffer of 0.5% RWA on average would be sufficient to protect the system. Moreover, under an orderly transition, the decrease in banks’ transition risk exposure due to the greening of the economy would reduce the effect of a fire-sale by a factor of 10.

Keywords: Green transition risk; dynamic balance sheet; banking crisis (search for similar items in EconPapers)
JEL-codes: C15 G2 Q54 (search for similar items in EconPapers)
Pages: 29 pages
Date: 2022-06
New Economics Papers: this item is included in nep-cmp, nep-eec, nep-ene, nep-env and nep-rmg
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Citations: View citations in EconPapers (2)

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Journal Article: Accounting for climate transition risk in banks’ capital requirements (2024)
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Persistent link: https://EconPapers.repec.org/RePEc:jrs:wpaper:202208

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