Rising risks of climate extreme events can lead to greater sovereign ratings divergence in Europe

Scope Ratings says that extreme climate events constitute one of the main environmental challenges that governments face.

Investor Relations Specialist

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Some European countries are more exposed than others to the rising costs of extreme climate events, posing risks of sovereign rating divergence unless mitigating investments and institutional capacities to respond to environmental risks are mobilised.

Scope Ratings says that extreme climate events constitute one of the main environmental challenges that governments face, with temperature extremes, heavy rain, floods and droughts all posing serious and most likely increasing risks to human life and economic activity in Europe. Natural disaster risks also constitute an important component of Scope’s assessment of a sovereign’s environmental risk profile.

“Economic losses from extreme climate events represent the main natural hazard risk in countries across Europe,”

Alvise Lennkh, deputy head of sovereign ratings at Scope

Scope’s study covers member countries of the European Environmental Agency (EEA) which comprise European Economic Area states plus Turkey.

Over 1980-2019, such events, including extreme temperatures, heavy rain and droughts, led to estimated economic costs of EUR 446bn (3% of 2019 GDP) in the EEA. Significant as that the sum looks, the overall macroeconomic relevance of weather-related natural disasters over 1980-2019 was limited, though it varied considerably across countries.

Countries in Central and Eastern Europe such as Croatia, Romania, the Czech Republic, Bulgaria and Hungary were the most affected, with average annual economic losses from climate extremes over 1980-2019 ranging from 0.11% to 0.15% of GDP, well above the 0.07% EEA average,”

Alvise Lennkh, deputy head of sovereign ratings at Scope

In the absence of mitigating investments, these costs are expected to grow in the coming years and to varying degrees across Europe. In particular Southern European and Central and Eastern European countries are most exposed.

“While efforts to address changes in climate are accelerating in the region, the adverse impact of extreme climate events will increasingly present a credit challenge for sovereign ratings as effects become more severe and pervasive, potentially leading to rating divergence,”

Alvise Lennkh, deputy head of sovereign ratings at Scope

Against this backdrop, it is crucial that governments mobilise resources and implement reforms that reduce their exposure to natural risks and enhance their capacity to cope with climate extremes.

EU leaders have agreed to earmark at least 37% of EU funding received under the Recovery and Resilience Facility while the European Commission has proposed that at least 25% of the EU’s multiannual budget be geared towards climate action over 2021-27.

“However, the recovery plans announced to date do not show that countries’ exposure to and historical costs from natural disasters necessarily influenced their allocation of the recovery and resilience funds,”

“The interaction between physical risks and political priorities at the national level remains limited overall”.

Thibault Vasse, analyst at Scope

European countries have begun including climate considerations in their budgetary frameworks. The French government, for example, published its first “green budget” which identifies expenditure that supports the green transition and assesses spending that is damaging to the environment.

“Still, more efforts are needed to bolster the environmental resilience of European economies and avoid potential rating divergence longer-term,”

Thibault Vasse, analyst at Scope
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Rising risks of climate extreme events can lead to greater sovereign ratings divergence in Europe