On November 19, 2024, the European Supervisory Authorities (ESAs) which include the European Central Bank (ECB), the European Insurance and Occupational Pensions Authority (EIOPA), and the European Securities and Markets Authority (ESMA) published the results of the ‘Fit-for-55’ climate stress test. The scenario analysis examined the resilience of banks, investment funds and pension and insurance sectors to transition to a low carbon economy.

Fit-for-55

The “Fit-for-55” package is a set of legislative proposals and policy initiatives designed as part of the European Green Deal with the aim of ensuring that EU policies are aligned with the climate goals agreed by the European Council and the European Parliament. “Fit-for-55” refers to the EU’s aims to stimulate investment and innovation in the transition to a green economy and plays a crucial role in the EU’s goal to achieve an emissions’ reduction of 55% by 2030 and climate neutrality by 2050.

Main findings

The stress test found that while transition risks alone are unlikely to threaten financial stability in the EU, the financial sector could see an increase in losses and disruption in some scenarios when combined with macroeconomic shocks. This lead to the ESAs calling for “a coordinated policy approach to financing the green transition and the need for financial institutions to integrate climate risks into their risk management in a comprehensive and timely manner.”

Scenarios and results

The climate stress test was conducted against three scenarios developed by the European Systemic Risk Board (ESRB), with the support of the ECB. The scenarios incorporate transition risks as well as macroeconomic factors, under the assumption that the “Fit-for-55” package is implemented as planned. 

The first “baseline” scenario examined the impact on institutions of the “Fit for 55” policies being implemented in a stable economic environment that reflect 2023 forecasts; the second examined the first adverse “Run-on-Brown” scenario where investors would shed assets of carbon-intensive firms, leaving these firms with less financing to “green” their activities; and the third looked at a “Run-on-Brown” scenario combined with wider macro-financial stress factors.

The results showed the estimated losses from a “Run-on-Brown” scenario would only have a limited impact on the EU financial system. Over the eight-year horizon, total first-round losses stand between 5.2% and 6.7% of starting point exposures, with the  most significant losses in the investment funds sector at 11.2% of starting point exposures.