Pension Wealth in Peril!

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A well-known advertising campaign in Australia for a soft chewing mint featured situations of minor embarrassment with the tagline: “It’s moments like these you need Minties.” Unfortunately, as we approach global “boiling,” it is more likely that we will have a Minsky moment rather than be able to calm down by chewing a Mintie. A recent Carbon Tracker report alerts us to the possibility that Pension wealth appears to be in Peril.

In summary: “pension funds are risking the retirement savings of millions of people by relying on economic research that ignores critical scientific evidence about the financial risks embedded within a rapidly changing climate.”

Carbon Tracker has been pointing out that the global financial system is in danger of having to support the stranded assets of fossil fuel companies as national economies go green. In its recent report, Loading the Dice against Pension Funds, the organization explores the economics behind the advice given to pension and superannuation funds. Financial advisors with high reputations are predicting that the impact of climate change on a funds’ portfolio investments will be minimal, even out to a 4 degree increase in global temperatures. We might not be able to live on a planet at that temperature, but these economists don’t seem to have worked that out.

One of the major flaws in those advising pension funds is that they treat climate as an externality and exclude it from economic models. This view is described by my friend, a retired economics professor, as “the major fault line in economics.” The economic models also seem to ignore the effect of tipping points — their predictions are linear, or logarithmic at best. They will not stand up to the reality of cascading tipping points creating a domino effect (triple metaphor!) for rapid unpredictable climate change. It is not distant and it will not be minor.

The Carbon Tracker report notes that the following tipping points were considered by senior economists but dismissed as having a low impact on global economic activity and thus not included in their modelling:

1. Loss of summer sea ice in the Arctic;
2. Slowdown of the Atlantic Meridional Overturning Circulation (AMOC);
3. Increased variability of the Indian summer monsoon;
4. Release of carbon from permafrost;
5. Release of carbon from ocean methane hydrates;
6. Dieback of the Amazon rainforest;
7. Disintegration of the Greenland Ice Sheet; and
8. Disintegration of the West Antarctic Ice Sheet

I will let our readers explore the document themselves for details of how this erroneous model was developed and then sold to fund managers and politicians. I doubt that it is a conspiracy, more an issue of knowledge silos intersecting with hubris and wishful thinking.

I have spoken to my own superannuation funds about the effect of the demise of the fossil fuel industry and been told that the fund makes every effort to maximize returns for its customers. They, too, are depending on erroneous advice. Will it be the global financial crisis all over again? That was not obvious, but surely the floods and fires of this summer are not so easy to miss?

“A range of senior economists forecast or in effect downplay the impact of climate change up to 3°C, and also manufacture models to see 4°C as unproblematic.” The perspective of insurance companies and their underwriters would certainly vary from this model of business as usual.

How high trivialisation goes is shown by the comments of Federal Reserve Board Governor Christopher Waller as quoted on page 60 of the Carbon Tracker report:

“Climate change is real, but I do not believe it poses a serious risk to the safety and soundness of large banks or the financial stability of the United States. Risks are risks. There is no need for us to focus on one set of risks in a way that crowds out our focus on others. My job is to make sure that the financial system is resilient to a range of risks. And I believe risks posed by climate change are not sufficiently unique or material to merit special treatment relative to others.”57 (Waller 2023, p. 1)

“By following the advice of consultants who have relied on the damages estimates from the small group of mainstream economists who work on climate change, pension funds have unwittingly and unintentionally misled their members about the threat that global warming poses for the size and security of their pensions.” Clearly this is inconsistent with the scientific consensus and with the reality we see on the news each evening.

Pension funds relied upon consultants, because of their reputation in the field; consultants relied upon academic economists, because their papers had passed refereeing. But the refereeing was only done by other economists — climate scientists were not consulted. The economic model did a cost–benefit analysis, but it actually ignored the climate and its effect on human activity. Garbage in, garbage out — like all models. Decarbonisation yes, but at the right price. I assume that means dollars not lives. Even in dollars, climate change has been under-priced.

Economists appear to tolerate a 3 degree increase in temperature, expecting that it will benefit colder countries. They do not factor in rainfall changes, though — look at the wildfires currently burning in Canada. Will global warming lead to a GDP increase in colder countries to balance out the losses in more vulnerable ones? Some analyses see global warming as a positive. Climate scientists see it as an existential threat. In true economic form, a complex multifaceted issue (the world’s climate) has been boiled down to quadratic equations and cost–benefit analyses, creating a false sense of security.

Surely economists should realize that climate change will have a bigger impact than COVID — which slowed global GDP by 3.4%. But they make the preposterous assertion that 6°C of global warming will reduce future global GDP by less than 10%. Might not be many people around to enjoy that level of prosperity!

In stark contrast: “scientists have claimed, in refereed science papers, that 5°C of global warming implies damages that are ‘beyond catastrophic, including existential threats.'” In the end, nature rules over economics.

This trivialisation of climate change–induced damage generated by a small group of economists is pervasive. It may lead to stock market valuations that are “wildly out of step with the future stock prices, dividends, and GDP in a climate-changed world,” and thus create a Minsky moment. “A Minsky Moment is a sudden major collapse of asset values (financial asset: equities, bonds and real estate) caused by the end to an unsustainable period of overly bullish activity, due to a sudden realisation of the gap between market aspirations and economic reality. The huge disconnect between what scientists expect from global warming, and what economists have claimed, means that a ‘Climate Change Minsky Moment’ could occur at a time within the investment horizon of existing firms.” This will impact pension funds severely.

We are seeing the impact on global food supply and hence GDP from the Russian invasion of Ukraine. What if this is coupled with floods that wash away your crops, temperatures too high to work in the fields, and droughts that prevent a crop from growing? Even worse than we are currently experiencing? We appear to have gone from “climate change isn’t real,” to “climate change is not a big risk.” The economists have won. But it may mean we have all lost. I am a pensioner — what happens if the system fails? We’ll need more than a Mintie. Time we all started asking questions of those who manage our money and those who receive our vote.