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Bursting the Carbon Bubble - Impacts of climate change on the global
financial market
There is broad international acceptance that stabilizing the atmospheric concentration of
greenhouse gases at below 450 parts per million (ppm) of carbon-dioxide equivalent is
consistent with a near 50% chance of achieving the 2 °C target (WEO, 2015). European green
party reports that between now and 2050, only approximately 900 Gt of CO2 can be emitted if
the 2°C target is to be attained with a probability of 80%. In the second half of the century, only
a further 75 GtCo2 can be emitted. If more CO2 is emitted, the probability of remaining within
the 2°C limit falls rapidly. With 1,075 Gt by 2050, the probability is only 50% (European Green
Party, 2015). But according to Carbon Tracker report from 2011 there is room to emit 565
GtCO2 into the atmosphere by 2050 (Carbon Tracker, 2011). If we calculate how much CO2
is contained by world proven reserves, we arrive at a figure of 2,890 Gt. This is around three
times the maximum which our climate could bear (European Green Party, 2015). In figure 1
cumulative CO2 emission projections were estimated in IPCC RCP 2.6, IPCC RCP 8.5, IEA
current policies and IEA 450. The carbon budget will be broken in just a few decades. In order
to analyse three scenarios are being considered:
1) Industry rapidly and definitively switches to methods which do not harm the climate.
2) If political decision-makers do not act as decisively as it should be done.
3) Politicians would fail to enforce the 2°C target, and that instead, fossil fuels would make a
comeback.
It is supposed that political decision-makers will act quickly and decisively, giving businesses
and investors a clear framework that the bulk of oil, gas and coal reserves cannot be burned,
and therefore worthless to their owners (Jacob et al. 2015). According to the study by HSBC's,
BP for example, would be unable to burn a quarter of its reserves if the 2°C target was enforced.
This would turn these reserves into ‘stranded assets’, or worthless investments. With a low-
carbon breakthrough, Britain and the Netherlands on account of their pension funds, a lose
between 2.5% and 3.4% of their value, and France because of BNP Paribas and Société
Générale (EGP, 2015). Altogether, under this scenario, banks, pension funds and insurance
companies would lose €350bn to €400bn. Thus the carbon bubble does not present a systemic
risk to the EU financial market as a whole (EGP, 2015).
If the switch to alternative fuels not only takes longer but it also has a high degree of uncertainty
the impact is far more difficult to quantify. However, it is likely that the damage suffered by
banks, pension funds and insurance companies would be incomparably greater. The main
reason is that, in the absence of a clear lead from politicians, they will initially continue to invest
in fossil fuels and the losses incurred if the bubble bursts will therefore be significantly greater
(EGP, 2015) and would result in a re-evaluation of the fossil fuel companies’ assets, making
earlier price adjustments, such as when real estate or IT bubbles have burst, looked marginal
(Carl Schlyter, 2011).
If all fossil reserves were to be burned, our climate would warm by far more than 2°C — with
disastrous consequences for humanity and our planet (Hansen et al., 2013). The costs that they
would incur as a result of climate change would presumably be significantly greater than the
losses due to the decline in value of fossil fuels. For example, insurance companies would have
to cover the enormous costs of damage caused by flooding arising from unbridled climate
change. Carbon tracker estimated the intensity of situation by taking companies listed on

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exchange having around quarter of known fossil fuel reserves. Figure 2 shows that if we break
2 C we will very quickly hit 2.3 C and 3 C.
However recent concerns from different institutes and banks made policy makers to dive into
this issue with serious attitude. In January 2012 coalition investors and scientists warns about
the dangers of a carbon bubble to the Bank of England, in July 2012 The American journalist
Bill McKibben publishes an article “Global Warming’s Terrifying New Math”, causing a
considerable stir, in January 2013 HSBC calculates that Shell, BP or Statoil could lose 40 60%
of their market value, and recently The church of Sweden completes full divestment, Glasgow
University divests from fossil fuels, Norway’s largest pension fund divested from coal,
California State University in Chico/US commits to fully divesting from the top 200 coal, oil
and gas companies within four years. IEA redrew the energy map in 2013 and calculated that
coal is most exposed if carbon bubble will burst as shown in figure 3. Gilbert (2014) analysed
that Exxon, Shell and Chevron have increase in capital expenditure than production shown in
figure 4.
What can be done in order to avoid bursting of carbon bubble? The transition from fossil fuels
must be carefully managed to avoid an economically disastrous bursting of the "carbon bubble,"
said by World Bank official’s. Implementing the strategies without overly destabilizing oil
companies and carbon-intensive industries, which already face a growing divestment
movement. Investment Advisors, Actuaries, Individuals, Investors, Ratings Agencies,
Researchers, Financial Regulator and Finance Ministers should all corporate to make
recommendations for policy makers in order to avoid bursting of carbon bubble as shown in
figure 5.
Thesis:
• Fossil Fuel! It is not meant for us. Divestment needs to be done NOW.
• Carbon bubble: All a myth and exaggerated fear.
• Current Energy transition policies are the solution to minimize the possible negative
impact of carbon bubble on global financial market.
References:
• Jacob et al. (2015), "Unburnable fossil-fuel reserves", 517, p.7533.
• UNEP (2011), “Towards a green economy, Pathways to Sustainable Development and
Poverty Eradication”.
• Hansen et al. (2013), “What If We Burn All The Fossil Fuels?”, Millennium Alliance
for Humanity and Biosphere (MAHB).
• Department for Environment, Food and Rural Affairs and Climate Disclosure Standard
Board (2011). Financial Institutions: Taking Greenhouse Gases into Account.
• Carl Schlyter (2011), The carbon bubble: the real threat to the financial system, Green
European journal, volume 7, page 15-19
• European Green Party (2015), “The Carbon Bubble: The financial risk of fossil fuels
and need for divestment”.
• Carbon Tracker and the Grantham Research Institute (2013) “Unburnable Carbon:

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Wasted capital and stranded assets”, P. 3-40.
• Carbon Tracker Initiative (2013), “Unburnable Carbon – Are the world’s financial
markets carrying a carbon bubble?”, p. 6-36.
• IEA (2013), “Redrawing the Energy Climate Map”, World Energy Outlook Special
Report.
• Daniel Gilbert and Justin Scheck (2014) “Big Oil Companies Struggle to Justify Soaring
Project Costs”, The Wall Street Journal.
Suggested Further Reading:
• Battiston et al. (2016) “A Climate Stress-Test of the EU Financial System” Social
Sceince Research Network.
• Prudential Regulation Authority (2015), “The impact of climate change on the UK
insurance sector”, Bank of England, Prudential Regulation Authority, London.
• Dyer, Evan (2015), "Climate change study says most of Canada's oil reserves should be
left underground", Canadian Broadcasting Corporation.
• Scott, Mike (2014), "Fossil Fuel-Free Index Will Help Investors Manage Climate
Risks", Forbes.
• Paton, James (2013), "Australian Wind Energy Now Cheaper Than Coal, Gas, BNEF
Says", Bloomberg.
figure 1: Cumulative CO2 Emission projection

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figure 2: Comparison of listed reserves (companies listed in stock exchange) to 80% probability
pro-rata carbon budget
figure 3: valuation of different fossil fuel assets.

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figure 4: comparison between rate of capital expenditure and production of fossil fuel.
Figure 5: Recommendations in order to avoid bursting of carbon bubble?