Someone will have to pay: Climate damage - a new blow to Europe's public finances

Someone will have to pay the price for the damage caused by Europe's increasingly unstable weather, and since most of those economic losses are uninsured, the burden will fall on public finances unless urgent action is taken, Reuters news agency reports today.

This year's fires in southwestern Europe, as well as the severe floods that hit Spain in 2024 and Germany and neighboring countries in 2021, show how climate damage is further straining European finances, which are already under pressure from higher defense spending and rising costs related to an aging population, Reuters writes in the article "Climate damage: New blow to Europe's public finances."

"The problem is that they are becoming more frequent," said Federico Bariga-Salazar, director of Western European sovereign ratings at Fitch, referring to disasters that have so far been largely seen as costly but one-off budgetary shocks rather than regular expenditure.

"If a government is already fiscally constrained, it means that such losses force decision-makers to make trade-offs between different policies," he said, referring to the pressure these economic losses put on other budget items.

While the current fiscal shock is likely still relatively small, there is a growing belief that it will only get bigger in a region that is warming faster than any other continent in the world.

Extreme weather and climate events caused economic losses in the European Union (EU) estimated at 822 billion euros ($953 billion) between 1980 and 2024, according to the European Environment Agency — with a quarter of that damage occurring in the last four years alone.

Public deficits across the eurozone already average around 3 percent of gross domestic product (GDP). Bariga-Salazar cited estimates that the 2024 floods in Spain — the worst flooding event in Europe in five decades — would entail reconstruction costs of 0,7 percentage points of GDP between 2024 and 2026.

In addition, only a quarter of climate-related disaster losses are insured in the EU, with some countries having insurance coverage of less than 5 percent, according to EU estimates. Some fear that the level of insurance coverage as a share of total costs will fall even further as extreme weather events become more frequent.

"I think it simply means that as these risks become more common, they will become less and less insured. It's a big problem and it will cost some countries between one and two percent of GDP," said David Zahn, director of European fixed income at Franklin Templeton.

The Brugel Economic Research Center calculated that while most of the damage from the 2021 floods in Belgium was covered by insurance, the low level of insurance in Germany meant that the country had to allocate €30 billion in public funds to cover the bulk of the damage.

Risk adaptation and change

As the European Union is set to present proposals for climate resilience and risk management this autumn, attention is focused on possible solutions.

Greece, whose economy is dependent on tourism and is particularly exposed to the risk of heat waves and fires, is considering ways to increase insurance coverage while making water and energy infrastructure more resilient in tourist centers.

After major floods in early 2026, Portugal announced plans to introduce mandatory household insurance, which would be supported by a fund for natural disasters and earthquakes, as well as a solidarity mechanism to guarantee universal access.

A possible temporary solution for some countries could be to rely on so-called catastrophe bonds, in which investors can earn high returns but also lose part or all of their principal if a predefined event occurs, such as a hurricane or earthquake.

Franklin Templeton's Zahn notes that this could be an expensive gamble for the state: "If an event happens, the payout is immediate. But you could have five years where nothing happens, and you've been paying eight percent a year the whole time."

Heather Grabe, a senior fellow at Brugel, said governments need to put in place more systemic solutions than one-off emergency budget allocations, as such an approach can create the wrong incentive for households and businesses not to take out insurance at all.

"All governments across Europe need to assess their own exposure and make comprehensive plans to reduce future damage through investments in adaptation, as well as through risk pooling across borders," Grabe said.

Numerous studies suggest that early investments in making economies more resilient to climate change can save money in the long run — and prevent what a 2025 Oxford University study called the “adaptation investment trap,” in which repeated climate disasters increase debt and leave less money for protection measures.

Spanish Prime Minister Pedro Sanchez has claimed that green investments worth 0,1 percent of GDP could prevent economic losses eight times that amount, as well as tax revenue losses three times the initial investment.

The ECB has proposed a joint public-private reinsurance system at the EU level, which would pool private risks from natural disasters, with the support of an EU fund for public financing of the consequences of disasters.

However, the question is whether this year's summer heatwaves will create sufficient political will to accept the initial costs of such measures - both at the level of national governments and at the EU level.

A European Commission spokesman said the EU executive is considering ways to address the problem of insufficient insurance protection against climate risks, as part of a package of measures that should be adopted by the end of the year.