2023 Climate Stress Test results
Read the key findings and recommendations from our 2023 Climate Stress Test.
Read the Bulletin
Climate Stress Test
The key stress test for the 5 largest banks in 2023 was a Climate Stress Test (CST) designed to improve their capability in managing climate-related risks.
About the 2023 Climate Stress Test
Stress tests assess how banks can cope with hypothetical scenarios that are severe, but plausible.
We use our annual bank industry stress test to look at banks' resilience, making sure they have enough capital to withstand extreme shocks while being able to continue supporting the economy.
The key stress test for the 5 largest banks in 2023 was the CST, which replaced our annual bank solvency stress test. The 2023 CST scenario, 'Too Little, Too Late,' presents severe but plausible climate-related challenges spread over a 28-year period.
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Our scenario covers an extended 28-year period and is titled 'Too Little, Too Late' because of the lengthy delay in enacting meaningful global climate policies.
- After a period of delay, the EU and a cohort of countries including New Zealand introduce policy initiatives to start increasing emissions pricing in 2031. This results in a divergence of their paths of emissions pricing from those of the rest of the world that leaves them exposed to high transition risk.
- From 2036, as physical risk events continue to increase in severity and frequency, larger emitters enact policies to reduce emissions by sharply increasing emissions pricing, leading to high transition impacts and slowing world growth.
- Due to the delay in global policy action, physical climate-related risks increase throughout our scenario, which runs to 2050.
- New Zealand's economy slows well below trend growth between 2031 and 2040, due to high domestic transition-related costs, increasing domestic physical climate-related impacts, and flow-on effects of slower global growth as other economies suffer from physical and transition climate-related effects.
- In addition to the onset of more frequent and intense physical climate-related risk events, New Zealand suffers 2 specific 'extreme' weather events in the scenario:
- between 2036 and 2040, Auckland experiences 2 extreme inland floods in consecutive years, each currently defined as a once-a-century weather event. This accelerates insurance repricing for climate-risk exposed properties, including the withdrawal of insurance for a portion of the most 'at risk' areas
- then, in the period 2041 to 2045, the North Island experiences back-to-back years of drought. The combination of droughts is equivalent to a current once per century event. The drought causes rating agencies to re-assess the New Zealand economy and downgrade bank long-term debt issues by 1-notch.
- There is a severe operational risk event brought about by climate-related risks. For example, damage to bank infrastructure from flooding.
CST background information
What is a CST?
The CST consists of a severe but plausible scenario in which we specify the climate change path, associated policies and the impact on the New Zealand economy. The scenario is hypothetical and does not represent a view of the most likely outcome. Banks take the common scenario and set of variable paths as inputs into their own models to estimate the impact on their profits, balance sheet and capital. The CST adds complications due to the longer nature of the scenario and the new kinds of risk variables, meaning physical and transition climate-related variables.
The purpose of our CST
Why are we stress testing climate-related risks?
Climate-related risks are already impacting the financial system and the broader New Zealand economy, as witnessed by the cyclone and inland flooding affecting Auckland and other areas of the North Island in early 2023. The global impacts of climate change are predicted to intensify and will likely be compounded locally by increasingly intense and frequent extreme weather events.
We think it is prudent to explore the more severe aspects of climate-related physical risks, which are expected to increase in the future, combined with risks that may materialise in transitioning to a lower carbon-emitting economy, through a stress test of our largest banks. This is consistent with our Financial Policy Remit to achieve financial stability, including building resilience and facilitating the adaptation of the New Zealand economy to climate change.
Which banks are involved?
The 5 largest banks — ANZ, ASB, BNZ, KiwiBank and Westpac — which hold 90% of total bank loan balances (as of March 2023), have agreed to participate. However, other entities can make use of the CST scenario.
How was the scenario designed?
We designed the scenario in the final quarter of 2022. We developed the scenario in consultation with the sector, and the scenario was shared with participating banks in May 2023. We have consulted widely on the scenario design with stakeholders, including:
- regulators - APRA, Bank of England, and the European Central Bank
- participating banks - 1-on-1 meetings and combined workshops
- an internal climate change group made up of representatives from Supervision and Economics, and
- external experts.
