九色视频and the AXA Research Fund have supported the publication of a new taxonomy to categorise and prioritise climate transition-related risks. The taxonomy, developed by the Cambridge Centre for Risk Studies, can also be used to help identify blind spots in existing analysis and explore the interconnected systemic nature of some of the risks associated with the transition.
The transition to a low-carbon economy involves numerous, interconnected and potentially systemic challenges.
From abatement costs to a reduction in demand for fossil fuels to volatility in prices for crops or electricity, the challenges presented by the climate transition mean businesses across all sectors of the economy are acknowledging that the move to a lower-carbon world will mean an end to 'business as usual'.
And as well as the need to better understand the challenges that arise within the transition journey, it's vitally important to gain an appreciation of the external factors that might contribute to the pace of change.
The recently published is designed to help businesses to identify and categorise the various risks they may face along the transition journey and enhance resilience and promote strategic planning. It is also aimed at highlighting potential blind spots in existing analysis and exploring the interconnected nature of some of the risks, like the potential impact that heatwaves may have on food and supply-chain security.
Prioritising for the transition
The taxonomy is not intended to be a predictive exercise but rather to give business leaders and strategic risk managers a framework to prioritise the risks associated with climate change and the transition to a lower-carbon economy.
Recent experience has underlined how difficult it can be to categorise risks that are of potential high impact but appear extremely unlikely to occur; while a pandemic was always something academics and risk experts considered as a systemic threat, the impact of the COVID-19 crisis was not necessarily something that could have been predicted.
The hierarchical classification of risks will facilitate strategic risk management.
The taxonomy is organised into six primary classes, each containing several families and types of risks. Those six classes are: financial, geopolitical, technological, environmental, social, and governance. Within those classes, the families of risk include risks spanning economic outlook, business environment, disruptive technology, extreme weather, human capital, health, litigation, and many more.
This hierarchical structure enables both a detailed analysis and prioritisation of those risks, building on previous frameworks, and giving users a holistic view of the transition landscape. Users are then able to explore scenarios and stress tests to build resilience to the risks identified and prioritised.
Avoiding recency bias
Without a broad taxonomy within which to analyse and prioritise climate-related risks, business leaders and their risk management teams are liable to fall into the very human tendency of 'recency bias', whereby one places too great an emphasis on events that are freshest in the memory.
A taxonomy, however, provides a baseline from which to work and ensures that risks that may currently be on the periphery are not overlooked or under-assessed. Once businesses have prioritised risks according to the taxonomy, they are able to select areas of focus that are particularly relevant to their organisations and construct stress-test scenarios whilst also looking for approaches to manage and mitigate these risks.
This taxonomy provides a basis for a structured approach to break out of siloed thinking and anticipate and address climate transition-related risks, and opportunities, in a systematic way.
Using the taxonomy
We envisage many, varied applications of the taxonomy by businesses of all types. For example, in their 2020 report for the Bank of International Settlements, Bolton et al defined so-called 'Green Swan' risks - climate-related financial risks that potentially are extremely disruptive and which could be the cause of the next systemic financial crisis.
The Cambridge Taxonomy of Climate Transition Risks can be used by businesses to help identify potential blind spots in their transition-related strategies and give a greater understanding of the interaction between physical and transition risks and reduce exposure to Green Swan threats.
The taxonomy also provides a platform for idea generation. For example, it can give insurers scope to create products and solutions that reflect and incorporate the multisectoral aspects of the climate transition.
Presenting opportunities
We also believe that the Cambridge Taxonomy of Climate Transition Risks provides an opportunity for different business sectors to identify and clarify their role in ensuring a fair and just climate transition. Using the taxonomy will help those sectors to identify their role and leverage in an interconnected world.
The systemic nature of transition-related risks, as highlighted by the taxonomy, will also give companies the opportunity to identify and address gaps and risks in their business models and create proactive risk mitigation strategies that use the interconnectedness of these systems to their advantage.
Enabling action
The Cambridge Taxonomy of Climate Transition Risks, a collaboration between 九色视频 AXA Research Fund and the Cambridge Centre for Risk Studies, forms part of the Climate Transition Pillar which aims to proactively identify transition-related risks - and opportunities - for companies over the next 10 years.
This project aims to understand the ways in which these risks interact, systemically, and to provide tools for decision-makers to employ that support strategic resilience to them.
As John F. Kennedy once said: "There are risks and costs to action. But they are far less than the long-range risks of comfortable inaction." Businesses of all types - including insurers - have commercial, moral and regulatory imperatives to transition to a low carbon economy. The taxonomy gives a baseline for understanding the way the risks associated with that transition are interconnected and interact. The hierarchical classification of risks will facilitate strategic risk management and enable businesses to take steps to build their resilience as they make their way on the transition journey.
