The Network for Greening the Financial System (NGFS) has 135 member institutions, including central banks and supervisors, plus 19 observer organisations. This growth demonstrates a global commitment to addressing climate risks and integrating sustainable practices into financial systems.
The NGFS scenarios offer a framework for analysing the impact of climate risks on the economy and financial system. They outline potential futures based on various factors, such as climate change (physical risk), transition policies, technological advancements, and changes in preferences (transition risk).
These scenarios are not forecasts; they explore plausible futures for assessing financial risk and preparing the financial system for possible shocks.
Recently, the NGFS has released its Phase V climate scenarios, incorporating the latest advancements in climate science, policy, and economic modelling. These updates aim to provide governments, businesses, and financial institutions with improved tools for assessing climate risks and planning sustainable transitions.
Major Updates from Previous Versions
The NGFS Phase V update introduces significant refinements to its climate scenarios, reflecting the latest economic, policy, and scientific data. Here’s a breakdown of the updates:
- Refined Physical Risk Modelling (Damage Function Enhancements)
Phase V adopts a damage function developed by Kotz et al. (2024), which significantly revises GDP loss estimates by considering additional climate factors like temperature variability, number of wet days, and extreme rainfall. For example, it now estimates global losses from climate change (chronic risks like heatwaves and sea-level rise) that are 2 to 4 times higher than those in Phase IV in some scenarios.
- Higher Transition Costs (Carbon Pricing)
Phase V Adjustments include a higher carbon pricing projection to meet net-zero targets by 2050. The required carbon price has been increased to $300/tCO₂ by 2035, up $50 from Phase IV estimates. This reflects the impact of delayed emission reductions, necessitating stricter policies to meet climate targets and emphasising the rising costs of inaction.
Phase V vs Phase IV: Current Policies Scenario
“Current Policies” assumes that only currently implemented policies are preserved, leading to high physical risks. Emissions grow leading to about 3°C. Investment allocation and energy mix do not change.
Phase V vs Phase IV: Delayed Transition Scenario
“Delayed Transition” assumes global annual emissions do not decrease until 2030. Strong policies and investments are subsequently needed to limit warming to below 2°C. The level of commitment of countries depends on currently implemented policies, leading to heterogeneity at the global level.
Phase V vs Phase IV: Net Zero 2050 scenario
“Net Zero 2050” is an ambitious scenario that limits global warming to 1.5 °C through stringent climate policies and innovation, reaching net zero CO₂ emissions around 2050. This scenario assumes that ambitious climate policies and technological shifts are introduced immediately and forcefully impact the economy.
What does it mean for Businesses?
Companies can rely on the latest version of NGFS models to reassess physical and transition risks in their operations and supply chains, particularly for assets exposed to chronic risks (e.g., real estate, agriculture, and insurance sectors).
For example, a steel manufacturer may face increased costs from carbon pricing. Using the NGFS scenarios, the company can model future policy impacts and make strategic decisions, such as investing in green hydrogen technologies or carbon capture and storage (CCS) to reduce emissions and maintain profitability.
With updated policy pathways, users can now model scenarios that better reflect current global ambitions and uncertainties. This is particularly valuable for regulatory compliance and strategy alignment in industries heavily reliant on scenario analysis, such as energy, banking, and real estate industries.
However, the higher carbon price projections indicate escalating costs for carbon-intensive operations, pushing companies to adopt stricter decarbonization strategies to remain competitive. Investors will also need to account for elevated transition costs in evaluating loan and investment portfolios.
Phase V of the NGFS climate scenarios offers more robust and granular insights than prior versions, making it an essential tool for stress testing, transition planning, and risk assessment. However, the increased risk estimates and stricter carbon pricing underscore the urgency of immediate climate action for businesses and value chains.
Explore the NGFS Phase V scenarios with us (info@gc-insights.com) today to ensure your business stays ahead in a rapidly evolving regulatory and risk landscape.
NGFS: https://www.ngfs.net/en/ngfs-climate-scenarios-phase-v-2024