Essays in climate risk modelling

Chronically insufficient action by policymakers has gradually increased the likelihood of both `green swan' events from climate physical risk, as well as abrupt forthcoming policy changes. The latter comes as a necessity, and also as a risk from the financial perspective. However, the understanding of climate risk interactions with the economy and the financial system has been plagued by the inadequacy of previous tools, the complexity of the underlying mechanisms, and a longer time frame that defies the preference for the present of classical economics. Therefore, economic research has been criticised for failing to integrate mechanisms that would be key to planning for the adaptation to climate change and its mitigation. This thesis provides studies that advance the understanding and modelling of climate risk, with a range of approaches that emphasizes the horizon complementarities of climate risk, i.e. recognizing that climate risk will materialize over different time spans that call for distinct assessment tools but are interdependent. The dissertation takes a cumulative form, with four chapters belonging to the still-emerging field of climate finance. The methods employed include a network model, a stock-flow consistent macro-financial model based on the post-Keynesian literature, and an ad hoc financial model to capture multi-period policy expectations. The first takeaway is that considering different angles and the joint modelling of risks is key. In particular, the consideration of climate physical risk is still unequal and backward looking, while more methods can offer insights into different physical risk pathways and their interaction with decarbonization policies. Climate shocks can propagate between financial entities as well as between whole macroeconomic sectors through supply chain links, employment, and fiscal effects. The role of transition spillover risks is also still underestimated, i.e. the effect that decarbonization policies in one country can have on its trading partners. Second, the complexity of the actions of economic agents in the system and the credibility of policy commitments matter in achieving the low-carbon transition. Thus, the achievement of policy goals is strongly dependent on their internalization by economic actors, both in the real economy and in the financial system. In that case as well, relying on existing tools such as risk pricing is likely to underperform relative to climate objectives, calling for more ambitious policy developments.