Climate change scenarios in public service pensions valuations
GAD has included climate change scenario analysis in public service pension scheme (PSPS) valuations to illustrate potential implications for schemes.
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Climate change is defined by the United Nations as, ‘the long-term shift in global temperatures and weather patterns.’
Research indicates that human activity, including the burning of fossil fuels, has been a major contributor to climate change since the 1800s. Over this period global temperatures have increased by over one degree Celsius.
Climate change has widespread impacts, including on:
- life expectancy
- government spending priorities
- economic growth and other macroeconomic variables
Therefore, climate change would be expected to have an impact on future PSPS valuations. However, there remains uncertainty around the likely extent and consequences of climate change, for example, depending on current and future mitigations and their impact.
Scenario analysis has therefore been used to illustrate some potential implications for schemes at future valuations.
Scenarios considered
For each public service pension scheme three scenarios, covering a range of climate outcomes at 2100, have been considered. These are the orderly transition, disorderly transition and failed transition scenarios.
We formulated a broad narrative around each scenario, with reference to the two main risk types from climate change:
- physical risks arising due to the changes in temperature and extreme weather events
- transition risks arising from moves to a greener, low carbon economy. These risks are primarily due to policy and financial market changes
The 3 scenarios we considered for each scheme are detailed in this infographic:
For each scenario we considered the potential impact on future valuation assumptions; and how these in turn might impact on the cost of future benefits payable from each scheme.
Results of the scenario analysis
The implications of different climate change pathways for the key valuation assumptions were considered. For example, climate change effects are expected by many analysts to influence gross domestic product (GDP) growth. Assumptions about long-term GDP growth are currently made in determining the SCAPE discount rate used for setting employer contribution rates for unfunded public service pension schemes.
The illustrative scenario outcomes, versus a baseline, are shown at each valuation year up to 2040. The assumed baseline is the expected cost of future benefits calculated using the standard assumptions adopted for the 2020 PSPS valuations.
The following has been taken from the Civil Service Pension Scheme (Great Britain) valuation report.
The chart above compares the estimated change in the cost of future benefits at each valuation up to 2040.
For the funded Local Government Pension Scheme (LGPS), fund actuaries have had to consider climate change risk (including the use of scenario analysis) in their local 2022/2023 valuations.
Next steps
Over the coming months, GAD will finalise the valuations for all public service pension schemes and present them to clients. This will help clients and stakeholders to understand the risks their schemes face because of climate change.
Further work, including more bespoke analysis, can be done on request and should initially be discussed with your usual GAD contact.
For any climate change risk related requests, including help producing reports in line with the Task Force on Climate-related Financial Disclosures, TCFD, please contact climate.change@gad.gov.uk.