Not a once in a generation event

Views From the Marsh - David Owen

Last month saw the BIS publishing a paper examining whether climate-related risks were priced into sovereign bonds. These climate-related risks were very much in line with those that go into our Saltmarsh Economics Climate Index (SECI), ranking sovereigns on climate grounds. These include physical risks, on the back of more frequent and larger climate related events, the ability to adapt and fiscal space, as well as emissions.

We will be writing a lot more about all such things, but the BIS did find that “transition risk is associated with higher sovereign yields, with the effect more pronounced for developing economies and for high-emitting countries…….”, but we are a long way before all such things are fully priced in.

For example, they found that “high-temperature anomalies do not appear to be priced-in sovereign borrowing costs” and “that sovereign yields respond significantly but also differently to different types of disaster caused by climate change” and “a striking contrast in the impact of climate shocks on sovereign borrowing costs according to income level and fiscal space when the shock hits”.

Our last post looked at the pattern of natural disasters (see here), as well as the impact that a run of hot days can have on activity. This can also be seen in the chart below, that suggests a relationship between the so-called cooling day index at the height of the summer in Italy (a measure of how much above comfortable the temperature is), and what then happens to GDP in the third quarter. (2020 and 2021 have been excluded for obvious reasons.)

Of course, there will be many factors influencing what happens to GDP in any given quarter, but going forwards, one should expect more forecasters to think about weather adjusting GDP estimates, as we highlighted last week. Everything being equal, cooler summers may be associated with higher GDP prints, very hot summers, lower GDP numbers.

One other point we would make is that one cannot really describe what has occurred recently in Texas, as “a once in a generation event.”

True since 1980 flooding has made up just less than 5% of all natural disasters in Texas (reported as CPI adjusted, of $1bn or more). But we are talking here about a US state where natural disasters were put at 1.3% of its GDP in 2024, around double that of the US overall, with the reported number of events on the rise (see charts).

The worst year was 2017 when all reported natural disasters, in 2024 prices, cost Texas (with its annual GDP of around $2.7 trillion) between an estimated $100bn and $200bn.