Generation of Climate Shock Scenarios Using An Agent Based Model

The impact of climate events on the economic and financial systems is of particular interest as societies navigate the transition towards a net-zero state (dealing with both physical and transition risk). Agent based models are a powerful modelling technique that can be used to model these systems at the level of microscopic agents. In this paper we use an agent based model to track pre- and post shock dynamic trajectories of the economic and financial systems evolution in response to a simple climate scenario narrative. In particular we show that the model can be used to understand what types of economic and financial scenarios can arise from a particular climate shock narrative. Specifically, we consider the impact of a short-lived (but significant) physical climate shock to the economy. This is then followed some time later by a fiscal (tax) policy response. We track the impact these shocks have on the economic and financial systems in both the immediate aftermath of the shock and the longer-term (capturing the fully dynamic, path-dependent behaviour of the coupled systems including first-, second- and subsequent round events). In particular we track the impact of the shocks on macroeconomic variables (such as unemployment, prices and firm default rates) as well as financial variables (interest rates, inflation, CDS spreads and equity values). In the scenario analysed, we observe that the initial shock, being short-lived, does not have a substantial impact on the long-run behaviour of the economy or financial markets. However, the later introduction of the policy response can have a marked impact on the systems behaviour. This highlights clearly that policy responses must be carefully designed and calibrated in order not to have negative unintended consequences