Disentangling Climate Risk and Institutional Responsibility: New insights from Columbia Center for Sustainable Investments

The Liberty Mutual Climate Transition Center supported the Columbia Center for Sustainable Investments on the research paper, " From Planetary Hazard to Financial Stability: Disentangling Climate Risk and Institutional Responsibility. " Written by Lisa Sachs, Director of the Columbia Center on Sustainable Investment, along with Danielle Fujimoto and Quentin Harel, the paper examines how physical climate risk affects near-term financial stability, clarifies misconceptions on managing climate risk, and questions if existing tools are adequate. It also clarifies the distinct roles and limits of insurers, banks, and investors in managing these risks.

For readers interested in climate governance, sustainable finance, insurance, banking, or public policy, the paper also offers practical clarity on a central question: how can institutions support the transition without being asked to do what they are not designed or authorized to do? Different risks require different solutions, and institutions should focus on what they can actually influence.

Misconceptions about climate-related risk to the economy, the financial system, and the planet and how are they distinguished

Climate change is often framed as a single "climate risk" that has the potential to disrupt the financial system, but this is too simplistic. The paper shows that in reality, it creates planetary, economic, and financial risks - and treating them as the same has widened the gap between what society expects institutions to do and what their mandates, tools, and incentives allow.

• Planetary risk is the physical hazard itself, including rising temperatures, sea levels and extreme weather events, and the full range of human and ecological harm they cause, much of which will never appear in any economic or financial measure.
• Economic risk is the subset of physical and transition impacts that reduce output, livelihoods, infrastructure, and public budgets.
• Financial risk is the further subset that impairs credit quality, portfolio values, and balance sheets, and in severe cases threatens financial system stability.

The paper also examines the mistaken belief that financial institutions can address these challenges on their own. In reality, banks, insurers, investors, and policymakers each have distinct roles, tools, and limitations.

Misplaced expectations around Climate risk and the role of financial institutions

It is overly ambitious to assume that financial institutions can reduce climate risk by managing emissions within their portfolios. This is a fundamental misunderstanding of the mandates of financial institutions and confusion of actions that reduce climate risk. The paper corrects this misunderstanding by clarifying that:

• Financial stability is not climate stability.
• Risk pricing is not decarbonization.
• Portfolio alignment is not real economy decarbonization.
• Disclosure is not capital reallocation.
• Prudent exposure management can create perverse climate outcomes.

Banks, insurers, and investors may act prudently by reducing exposure to climate risk, but those actions can shift stress elsewhere rather than lower emissions or support the transition.

Roles played by different parts of the financial sector - insurers, banks, and investors - in addressing physical climate risks

The author explains that different types of institutions within the financial sector deal with climate risk in different ways because they have different legal mandates, tools, time frames, and responsibilities. Understanding these differences helps organizations focus on what they can do and helps regulators avoid developing regulatory requirements that ask for reporting beyond its authority. Climate frameworks developed by governments, regulators, and international bodies often expect private financial institutions to take on roles beyond their mandates, while the public institutions best positioned to advance societal goals frequently lack the capacity or incentives to do so.

Insurance

• Insurance and other risk-sharing tools help financially cover losses after climate events happen, which can protect households, businesses, and public budgets. But insurance cannot stop physical damage from occurring in the first place and is not a direct replacement for actions that need to be undertaken by communities, like mitigation, resilience, or smarter land-use planning that help keep risks manageable over time.
• Public and private insurers can play an important role in making climate risks more manageable. They can encourage mitigation and adaptation by supporting stronger building standards and designing products that make payouts faster and more predictable.

Banks

• A bank's main goal when it comes to climate risk is to manage risks to credit quality, asset value, and the strength of its balance sheet over the time period that matters most to it, which is often less than 10 years.
• Banks can also help make projects easier to finance by working with project sponsors, other financial institutions, public agencies, and development institutions. Together, they can address common barriers, such as mismatched loan terms, uncertainty around buyers, currency risk in emerging markets, and the risks tied to new or untested technologies.

Investors / Asset Managers

• For investors, the main goal is to preserve and grow asset and portfolio value by directing capital toward opportunities that fit their return, risk, liquidity, and mandate requirements. Their decisions are guided by fiduciary responsibility, which means they focus on investments that offer strong risk-adjusted returns within the limits of their portfolio structure and investment criteria.
• Asset managers can help move capital toward climate-related opportunities, but they must work with assets that are already investable. In public markets, this includes listed stocks, issued debt, and structured products, while in private markets it includes assets that have been sufficiently developed and de-risked to meet institutional standards.

The summary table included in the full paper provides more details on where these expectations are misaligned and what each institution can realistically contribute to mitigation financing.

Looking Ahead & What's Next

The paper suggests that the main solutions are to reduce emissions and address climate risk at its source, strengthen resilience so people, communities, and systems can better withstand climate impacts, and expand risk-sharing mechanisms to absorb and distribute losses after climate events through insurance and public support. At the same time, institutions can improve exposure management by adjusting lending, underwriting, and investment decisions to limit losses, while governments can build fiscal resilience to preserve capacity for disaster response and recovery.

Exposure management reduces loss risk for banks, investors, and insurers by adjusting lending, underwriting, pricing, and portfolio decisions in response to physical and transition risks. Its effects on borrowers, communities, and the broader economy depend on incentives, mandates, market structure, and complementary policies, and can be neutral, positive, or negative. In some cases, it encourages resilience investment; in many others, it shifts risk onto households, firms, and communities, often migrating exposure into less regulated parts of the financial system rather than reducing it overall.

Overall, the paper suggests that careful planning will require clearer roles, stronger coordination, and more realistic expectations. That way, banks, insurers, investors, and policymakers can each address the parts of climate risk they are best equipped to handle.

For more information and insights, read the full paper .