Assessing financial risks stemming from the transition to a net-zero emission economy – an application to China
The transition to a carbon-neutral economy requires substantial investment in developing and deploying new low-carbon technologies. During periods of financial stability, investment activity tends to surge, whereas during financial distress and high uncertainty, investments commonly dwindle. Therefore, ensuring sustained financial stability becomes pivotal in fostering heightened levels of investment in low-carbon initiatives. The transition to carbon-neutrality is however posing a new set of risks to financial institutions, so called transition risks. These risks emerge from evolving climate policies, advancements in technologies, and shifts in market behaviours. The lack of standardized risk assessment methodologies and limited data availability contributes to a yet inadequate comprehension of the scale and severity of transition risks. To avert potential negative repercussions of unidentified risks on financial stability—both at a systemic level and within individual financial institutions—the financial sector must bolster its capacity to consistently identify, assess, and manage the financial implications stemming from transition risks.
This thesis aims to contribute to the existing literature on transition risks by (1) identifying the most material transition risks faced by China’s financial sector in the lead-up to the country’s 2060 carbon neutrality target and by (2) assessing the potential financial implications of these transition risks. Through scenario analysis techniques and the use of firm-level data, the study aims to quantify transition risks under various hypothetical scenarios. The study focuses on China since the low-carbon transition is expected to generate substantial transition risks in the financial sector due to the nation's current reliance on carbon-intensive assets and industrial activities. This research will provide rare empirical insights into transition risks at a country level.
Key words: decarbonisation, transition risks, scenario analysis, Chinese economy