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Climate change could deliver a $4 trillion hit to the financial system

How climate change could hit financial system
  • U.S. cities owe $3.8 trillion in debt that's increasingly threatened by extreme weather events and economic disruption driven by climate change, according to the investment giant BlackRock.
  • Seattle's economy will be least affected by climate change, while Miami and Houston stand to lose about 4 percent of their GDP.
  • Commercial real estate would also be hard-hit, which hurts not only corporations but the many others who invest in their properties.

Climate change is a problem of epic proportions. For BlackRock, the world's largest asset manager, it amounts to nearly $4 trillion. And Seattle will weather that damage better than Houston or New York, according to a report the financial company released this week.

The report, which looks at the physical risks of unchecked climate change, pinpoints the Gulf Coast, the Atlantic seaboard and Arizona as the places that will lose out the most in a "business as usual" scenario, in which policymakers do nothing to mitigate climate change.

While a handful of northern counties, clustered in the upper Midwest, could see a net gain under unchecked climate change due to longer agriculture seasons, the potential losses are much bigger than the gains. "Some 58% of U.S. metro areas would see likely GDP losses of up to 1% or more, with less than 1% [of metro areas] set to enjoy gains of similar magnitude," BlackRock estimated.

Trickle-down effects from extreme weather

More worrying, per BlackRock, is how those losses could trickle down into the entire finance system. That's because cities -- which today generate the vast majority of the U.S.' economic growth -- fund many of their services by issuing municipal bonds.

U.S. cities currently have about $3.8 trillion in bonds outstanding, Federal Reserve data shows. These securities are owned by mutual funds and various institutional and individual investors. The returns those bonds generate rely on a city's economic expansion, which climate change can undermine in a number of ways.

Consider extreme-weather events, such as wildfires or hurricanes, which in 2017 did $300 billion worth of damage. The cost of cleaning up after these disasters can lead cities to accumulate more debt, which has harsh effects on bonds they issue. Severe natural disasters, like Hurricane Maria, can lead to population drain and dropping property values, further eroding a city's tax base and its ability to pay back bonds. Bonds issued by a specific project, like a water or power utility, could be hurt even more, since these utilities can be disproportionately harmed by floods, droughts or hurricanes.

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No major cities benefit in this scenario, but some withstand it better than others. "Seattle, with its relatively temperate climate, shows the most resilience with little projected damage to GDP over time," BlackRock finds. On the other hand, the New York region is projected to lose the equivalent of 1 percent of its enormous GDP by the end of the century. Miami and Houston will each see damage equating to about 4 percent of GDP, the report said.

The silver lining is that "the projected losses are not set in stone. Larger, more diversified MSAs [metropolitan statistical areas] such as New York are in a better position to fund adaptation and mitigation projects," which would prevent the worst of climate-change damage down the line.

Corporations, too, stand to lose in this scenario, thanks to the sheer amount of real estate in storm-prone coastal regions. That hurts not only the corporations but the mortgages secured by that pricey real estate, which themselves are a fairly common financial investment. Just three cities -- New York, Houston and Miami -- make up one-fifth of the value of commercial mortgage-backed securities, the report finds.

If recent hurricanes offer any evidence, most of the buildings flooded in storms won't carry flood insurance, meaning even greater financial losses. Flooding isn't the only risk: Within 30 years, the chances of a typical commercial property getting hit by a Category 5 hurricane rises 275 percent, the report finds. "Bottom line: Climate-related risks are significant today -- and set to grow in the future."

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