The results show that the long-term benefits of early adoption of policies boosting the transition to a carbon-free economy more than offset the short-term costs of this transition. They also show that if climate change is not mitigated, the materialisation of the physical risks will generate large economic losses, which would be greater in certain geographical areas, with particularly significant effects on banks exposed to these areas. 16  Climate-related financial risks – measurement methodologies, BCBS, April 2021. 6  In terms of their impact on economic activity, the differences between these scenarios are considerable. The short-term cost, in terms of GDP, of measures to mitigate climate change will be greater the later they are implemented. Even so, by the end of the time horizon of the exercise, GDP would be approximately three percentage points lower under the disorderly transition scenario than under the orderly transition scenario, and six percentage points lower under the scenario of no significant measures. These impacts on economic activity lead to a deterioration in the financial situation of businesses and, consequently, in their ability to pay their bank debts. Also, the materialisation of climate risks impairs the quality of bank collateral and increases the losses in the event of default. Given these results, the ECB estimates that the expected losses for the banking sector arising from the impairment of the credit quality of its counterparties and collateral would amount to approximately 3.5% and 8% in 2050 under the disorderly transition and measure-free scenarios, respectively.
Following the Lehman Brothers bankruptcy last September, banks became ever more reluctant to lend to each other as a result of a sharp increase in the perceived risks of counterparty default and a continued lack of transparency about the health of banks’ balance sheets. 5 Since last October, the ECB has provided unlimited funding in euro at fixed interest rates over periods up to six months against an expanded list of eligible assets for use as collateral in Eurosystem refinancing operations. This extraordinary expansion of liquidity provided to euro area banks is reflected in the growth of the Eurosystem’s balance sheet. Between the end of June 2007 and the end of April 2009, the balance sheet of the Eurosystem increased by about EUR 600 billion, and had reached EUR 1.51 trillion which is equivalent to 16% of the nominal GDP of the euro area. By comparison, the size of the Federal Reserve System balance sheet had reached 14% of the US nominal GDP at the end of April 2009. III. The effectiveness of central bank policies  How effective have the ECB policies been in mitigating the impact of the crisis on the financial system and the economy? We can assess this by first examining the effects of the measures taken on the money and credit markets. The provision of unlimited amounts of liquidity (against adequate collateral) in the interbank money market and the sharp reduction in the ECB’s key policy rates to exceptionally low levels have resulted in a significant improvement in money market conditions.