Public infrastructure, private property are at great risk

The economic impact of climate risk is frightening, and Florida is the canary in the coal mine. Climate risk has struck the state sooner and harder because of the one-two punch of geography and economy. Physical damages to Florida real estate will accelerate with the changing climate, and its subsequent financial impact could be even greater on the state’s economy.

Florida’s real-estate losses during storm surge from a 100‑year hurricane event would be $35 billion today. They are forecast to be $50 billion by 2050, according to a recent analysis conducted by KatRisk.

The First Street Foundation concluded that the devaluation of exposed homes could range from $10 billion to $30 billion in 2030 and $30 billion to $80 billion in 2050. Devaluation could be greater if climate hazards affect public infrastructure assets such as water, sewage and transportation systems, or if homeowners factor climate risk into their buying decisions. Rough estimates suggest this could impact property-tax revenue in some of the most affected counties by 15 percent to 30 percent. Property values and the taxes associated with buying and selling real estate make up a sizable chunk of state and local budgets. So the very governments tasked with protecting residents from extreme weather events will have less revenue to do so because of . . . extreme weather.

Business activity, such as the price or availability of insurance and mortgage financing in high-risk areas could also be negatively affected. Homeowners cannot protect against the risk of devaluation with insurance, and while mortgages can be 30 years long, insurance is repriced every year. This duration mismatch means that current insurance policy premiums might not build in the expected risk over an asset’s lifetime. This may lead to insufficiently informed decisions. In response, the insurance market will have to adapt to the risk-adjusted cost of insuring properties that face a higher likelihood of floods or stronger hurricanes by pricing higher premiums for flood and windstorm insurance.

Even homeowners who are not financially distressed might choose to strategically default if their homes fall in value with little prospect of recovery. To compare, in Texas, shortly after Hurricane Harvey hit Houston in 2017, the mortgage delinquency rate almost doubled, from about 7 percent to 14 percent, according to an article on consumer borrowing behavior, written for the Federal Reserve Bank of Chicago. As mortgage lenders start to recognize these risks, they could change lending rates for risky properties or even stop providing 30‑year mortgages. This would further damage home buyers and the state’s economy.

In response to the scale of these myriad economic challenges presented by climate risk, it’s estimated that $90 trillion will need to be invested globally in sustainable infrastructure by 2030, which will only be possible with a systemic shift in the way projects are financed to build resilience to climate change. The need for systemic resilience to shocks and stresses has already been made clear by the COVID-19 crisis. Investment decisions will either lock in a global network of climate-resilient infrastructure or a collection of exposed assets that will make social and economic activity vulnerable to climate risk. There are three critical barriers we must overcome in assessing climate risk and shifting toward a more climate-resilient economy.

1. Incentive structures limited by short-termism. There’s a crucial need to support longer-term incentive structures that promote resilience, such as regulation and cost of capital, to foster and reward an appropriate integration of physical climate risks in investment decision-making.

2. Add climate risk data and analytics into mainstream finance. Better data supported by sophisticated analytical tools are needed to properly assess and price climate risk and to translate exposure into cash flow modeling.

3. Share expertise across industries and the public sector. A collaborative approach focused on building consensus in analytical methods and financial materiality is pivotal.

Properly pricing climate risk in financial decision-making will entail aligning investment flows toward infrastructure capable of withstanding a changing climate. Equally important will be a methodology to quantify the economic and financial risks and benefits, providing a substantial incentive for financial markets to embed resilience upfront. With this purpose in mind, the Coalition for Climate Resilient Investment launched last year and has 53 members (including the World Economic Forum and the U.K. government) and $10 trillion in assets under management.

This is a good start. Alongside the physical impacts, climate change will continue to reshape every aspect of the global economy. With the stakes so high, the need to manage climate risk and support a more sustainable economy has become a strategic and financial imperative. Look no farther than Florida, and we can all see why.

Paula Pagniez is director of Climate and Resilience Hub at Willis Towers Watson.

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