Transition risks refer to the challenges and uncertainties that economies, businesses and societies may face in the process of transition to a sustainable, low-carbon economy.
Important notes on transition risks
- Transition risks affect all industries, but not equally. Some sectors are more susceptible to transition risks, in particular carbon-intensive industries such as oil and gas or transport;
- Transition risks include losses in the value of fossil fuel assets, adjustments in supply chains and changes in consumer preferences towards sustainable products and services;
- The increasing value of losses and damages from climate change, also means an increasing transition risk related to potential litigation (the cumulative number of climate-related court cases has doubled since 2015). Reasons for such litigations include the inability of organisations to mitigate the impacts of climate change, failure to adapt to climate change and insufficient disclosure of significant financial risks.
The transition to mitigate and adapt to climate change requires systemic and radical changes. Such a major shift entails a number of embedded risks. Transition risks associated with climate change are generally divided into four macro-categories: policy and legal, technological, market-related and reputational.
The risks associated with new climate policies and the financial impact of policy changes are varied and depend on the nature and timing of new policies, such as increasing carbon disclosure requirements.
Technological innovations that support the transition to a low-carbon and energy-efficient economic system can also have a significant impact on organisations as they replace old systems and disrupt parts of the existing economic system.
The transition called for by the climate crisis also entails changes in the supply and demand for certain raw materials, products and services, causing upheavals in markets that are potentially risky for some actors.
Finally, climate change has been identified as a potential source of reputational risk. Consumers and entire communities are increasingly attentive to the contribution or indifference of organisations to the transition.
Transition risks can be seen as necessary challenges to deal with the consequences of climate change, but can also be a source of concern for those who fear negative economic impacts and destabilisation. However, failure to address these risks can lead to even more serious consequences, including increasingly devastating climate impacts, increasing regulatory pressures and the potential loss of corporate reputation. Addressing these uncertainties proactively, on the other hand, can lead to long-term benefits, including technological innovation, the creation of new economic opportunities, diversification of energy sources and increased resilience to climate change.