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Droughts could wipe out nearly 15 per cent of economic output in the Eurozone, the European Central Bank has warned.
Eurozone banks have €1.3tn of loans extended to sectors most at risk from potential water shortages — particularly in agriculture, manufacturing, mining and construction, according to research by the ECB.
The warning underscores how the central bank is intensifying its focus on the financial risks of climate change, despite a growing political backlash against green policies and pressure from US officials for regulators to water down work in this area.
“Losses related to water scarcity, poor water quality and flood protection emerge as the most critical from a value added perspective,” Frank Elderson, an ECB executive board member, said in a speech on Thursday.
Elderson, a leading voice among central bankers warning of the financial risks from climate change, cited as an example how Dutch tulip-growing regions such as Bollenstreek could become unsuitable for bulb cultivation due to worsening droughts.
This year was “especially alarming: spring 2025 is on track to become the driest ever recorded in the Netherlands, likely surpassing the previous record set nearly 50 years ago,” he said.
The central bank said new research with the University of Oxford’s Resilient Planet Finance Lab had examined the economic and financial consequences of “an extreme but plausible drought” that occurs on average every 25 years, causing major water shortages.
The ECB and University of Oxford found farming was the sector most exposed to water shortages, with up to 30 per cent of agricultural output at risk in southern European countries. This declined in more northern countries, falling to 12 per cent in Finland.
The ECB’s research comes as economists are paying more attention to risks from erosion of biodiversity and natural resources.
The US, the EU and Japan generate about 10-13 per cent of economic output from sectors highly dependent on “ecosystem services, such as clean water, fertile soil, pollination and climate regulation,” economists at German insurer Allianz said in separate research on Thursday.
The global economy could suffer a 2.3 per cent contraction due to risks stemming from a degradation of nature, such as soil erosion, Allianz said.
How far central banks should intervene to minimise climate risks to the financial system is a subject of fierce debate among economists and policymakers.
It has become a topic of particular contention since President Donald Trump returned to the White House, with the US Federal Reserve recently withdrawing from the Network for Greening the Financial System, which co-ordinates policy on the issue.
Top officials at US financial watchdogs have also called on the Basel Committee on Banking Supervision, the standard-setter for global financial regulation, to downgrade a flagship project to tackle climate change risks and to dilute rules requiring banks to disclose climate risks by making them voluntary.
The European Commission recently announced plans to drastically cut the scope of business sustainability disclosure rules it introduced two years ago.
But Elderson warned that “when carefully calibrating a balanced degree of simplification, one should look at what data points we need most and make sure that sufficient companies report on precisely those data”.
Sarah Breeden, deputy governor for financial stability at the Bank of England, told a Financial Times summit on Thursday that it should stay in its “swim lane” when tackling climate risks and not interfere in the UK’s political debate around net zero carbon emissions.