Supply Chain Climate Risk: How Weather Shocks Ripple Through Global Trade Networks

Understanding Supply Chain Climate Risk in the Modern Economy

Supply chain climate risk has emerged as one of the most significant yet underestimated threats to global economic stability. As interconnected trade networks span continents, a drought in one region can trigger cascading economic losses thousands of kilometers away. The Bank for International Settlements (BIS), the central bank of central banks, has published groundbreaking research demonstrating that climate-related physical risks do not respect geographic boundaries — they travel through supply chains with devastating efficiency.

Traditional climate risk assessments have focused almost exclusively on direct, local impacts: a flood destroying a factory, a heat wave reducing crop yields, or a hurricane shutting down a port. While these direct effects are severe, they represent only part of the picture. The BIS Working Paper No. 1260, authored by Douglas Araujo, Fernando Linardi, and Luis Vissotto, reveals that supply chain transmission channels amplify climate damage far beyond the regions directly affected. This research fundamentally changes how businesses, policymakers, and investors should assess climate-related financial risk.

For organizations navigating this complex landscape, understanding how supply chain climate risk propagates through trade networks is no longer optional — it is essential for survival. Whether you manage a global manufacturing operation or oversee a local agricultural cooperative, the data shows that your economic future is tied to the climate resilience of your entire supply chain, not just your immediate geography. Explore how leading institutions are transforming complex research into actionable insights that drive better decision-making.

The BIS Working Paper: A Groundbreaking Supply Chain Climate Risk Study

BIS Working Paper No. 1260, titled “Supply Chain Transmission of Climate-Related Physical Risks,” represents a methodological leap in climate economics research. Published in April 2025, the study leverages a unique combination of confidential central bank payments data from the Banco Central do Brasil and high-resolution climate datasets spanning decades. This combination allows the researchers to trace exactly how climate shocks in one municipality affect economic outcomes in distant, trade-connected municipalities.

The study uses Brazil as a natural laboratory, and for good reason. Brazil’s continental size — comparable to the contiguous United States — creates enormous geographic diversity in climate conditions. Municipalities separated by over 572 kilometers (roughly the distance from San Francisco to Los Angeles) can experience completely different weather patterns while still maintaining strong trade linkages. This geographic separation is crucial because it allows researchers to isolate supply chain transmission from shared local climate effects.

The payments data underlying the study captures an extraordinary 42 percent of all transaction values in the Brazilian payments system, making it the single largest value share of any payment category. Firm-to-firm payments in the dataset roughly equal 100 percent of Brazil’s GDP, ranging from 90 to 120 percent over the study period. With a minimum bilateral threshold of R$10,000 per quarter (approximately $2,300), the data captures meaningful business relationships while filtering out noise. The median connected municipality grew from dealing with 25 unique partner municipalities to 75 over the 2012-2019 study period, reflecting the increasing interconnectedness of Brazilian commerce.

Climate anomalies in the study are measured using the Standardized Precipitation Evapotranspiration Index (SPEI), calculated from the CRU TS monthly dataset at 0.5-degree grid resolution with historical calibration back to 1961. This rigorous approach ensures that what constitutes an “anomalous” climate event is defined relative to each municipality’s own historical baseline, not an arbitrary national average. The researchers at the Bank for International Settlements set the anomaly threshold at one standard deviation from the historical average, with events exceeding two standard deviations classified as “intense.”

How Climate Anomalies Devastate Local Economies

Before examining supply chain transmission, the BIS researchers established a robust baseline of local climate impacts. The findings are stark and statistically significant. Local dry spells reduce annual GDP growth by more than one full percentage point, with regression coefficients ranging from -0.0137 to -0.0173, all significant at the 1 percent level. Local wet spells also depress growth, reducing it by approximately 0.5 percentage points, though with somewhat weaker statistical significance at the 10 percent level.

These headline numbers mask important nuances in how different intensities of climate shocks affect local economies. Moderate dry spells — those between one and two standard deviations from the historical average — reduce GDP growth by 1.37 percentage points with high statistical confidence. Intense dry spells, exceeding two standard deviations, reduce growth by a similar 1.42 percentage points. The critical insight here is that moderate and intense shocks produce nearly identical per-event economic damage, but moderate shocks occur far more frequently, making them the dominant driver of total economic losses over time.

The study controls for municipality-specific fixed effects, year-level fixed effects, and lagged climate conditions, ensuring the results capture genuine causal relationships rather than spurious correlations. Standard errors are clustered at the mesoregion level across 137 Brazilian mesoregions, providing conservative statistical inference. The sample encompasses 88,931 municipality-year observations for local shock analyses, spanning from 2000 to 2019 and covering all 5,570 Brazilian municipalities. This level of granularity and statistical rigor sets the study apart from much of the existing climate-finance research.

Supply Chain Transmission: When Distant Weather Hits Your Bottom Line

The most groundbreaking finding of the BIS study is the quantification of supply chain climate risk transmission. When all customer municipalities — the places where a region’s firms sell their goods — experience a dry spell, GDP growth in the selling region falls by close to 2 percentage points. This effect persists even after controlling for any local climate shocks the selling region itself may be experiencing. The regression coefficient of -0.0196 is statistically significant, providing robust evidence that climate shocks propagate through demand channels in trade networks.

The transmission mechanism operates through straightforward economic logic. When a drought hits agricultural regions that are major customers for, say, a manufacturing hub hundreds of kilometers away, the agricultural regions reduce their purchases. The manufacturing hub then experiences declining demand, falling revenue, and ultimately lower GDP growth — all because of weather events occurring in distant locations. This is supply chain climate risk in its purest form: economic damage inflicted not by local weather but by the climate vulnerability of your trading partners.

Perhaps the most alarming finding concerns simultaneous supply chain shocks. When wet spells hit both customer and supplier municipalities at the same time, the combined effect on GDP growth is a staggering -14.6 percentage points. While this scenario is rare, it illustrates the catastrophic potential of coordinated climate disruptions across supply chains. The correlation between customer and supplier climate shocks is not trivial: customer wet spell and supplier wet spell exposures correlate at 0.329, while dry spell correlations reach 0.369, suggesting that climate events affecting one set of trade partners frequently affect the other as well.

Understanding these dynamics is critical for any organization with exposure to physical financial risk management frameworks. The data makes clear that assessing your own location’s climate vulnerability without considering your supply chain’s exposure leaves you dangerously blind to a major source of economic risk.

Moderate Climate Shocks: The Hidden Supply Chain Climate Risk

One of the most counterintuitive and policy-relevant findings from the BIS research is that moderate climate shocks — not extreme weather disasters — drive the majority of supply chain climate risk. The literature on climate economics has traditionally focused on catastrophic events: Category 5 hurricanes, unprecedented floods, record-breaking heat waves. While these events cause enormous damage when they occur, the BIS data shows that the steady accumulation of moderate anomalies produces greater total economic harm.

When transmitted through customer supply chains, moderate dry spells reduce GDP growth by 1.70 percentage points, while intense dry spells reduce it by 4.83 percentage points per event. The intense shocks appear more damaging on a per-event basis, but their rarity means they contribute less to the overall burden. Across the full study period, moderate shocks account for the bulk of supply chain-transmitted climate damage. This finding has profound implications for risk management: organizations that prepare only for extreme events while ignoring moderate climate variability are mispricing their true exposure.

The distinction between moderate and intense shocks also matters for policy design. Disaster relief programs typically activate only after extreme events exceed predefined thresholds. The BIS research suggests that economic support mechanisms triggered by moderate anomalies — perhaps through parametric insurance products or automatic fiscal stabilizers — could prevent more aggregate damage than programs focused exclusively on catastrophic events. This represents a fundamental shift in how we should think about climate adaptation spending and supply chain resilience investment.

Sectoral Vulnerability: Agriculture, Manufacturing, and Services

Supply chain climate risk does not affect all economic sectors equally. The BIS study provides detailed sector-level analysis that reveals dramatically different vulnerability profiles for agriculture, manufacturing, and services. Agriculture stands as the most exposed sector across every dimension measured. Local dry spells reduce agricultural GDP growth by 3.83 percentage points, more than five times the impact on services. When customer supply chain effects are included, moderate customer dry spells cut agricultural growth by 4.13 percentage points, while local wet spells slash it by 5.68 percentage points.

Manufacturing presents a more nuanced vulnerability profile. Local dry spells reduce manufacturing GDP growth by 2.03 percentage points — significant but less severe than agriculture. However, the supply chain transmission channel reveals a critical danger: intense supplier dry spells reduce manufacturing growth by a massive 15.74 percentage points. This means a single intense drought affecting a manufacturing region’s key suppliers can inflict damage nearly four times larger than the local drought effect itself. For manufacturing firms, supplier climate resilience may matter more than their own location’s weather patterns.

Services display the greatest resilience to climate shocks, both local and supply chain-transmitted. Local dry spells reduce services GDP growth by only 0.70 percentage points, and supply chain shocks show no statistically significant effect on the services sector. Only local wet spells produce a meaningful services impact at -0.95 percentage points. This relative immunity likely reflects the services sector’s lower dependence on physical inputs and geographic specificity compared to agriculture and manufacturing. For economies transitioning toward service-oriented structures, this finding offers some comfort — but also a warning that the agricultural and manufacturing foundations underlying service economies remain deeply vulnerable.

Labor Markets and Trade Under Supply Chain Climate Stress

The economic damage from supply chain climate risk extends well beyond GDP figures. The BIS study examines how climate shocks transmitted through customer supply chains affect labor markets and international trade, revealing deeply concerning patterns. When customer municipalities experience dry spells, total payroll growth in connected regions falls by 7.03 percentage points — a result significant at the 1 percent level and representing one of the study’s most robust findings.

The labor market impact decomposes into both employment and wage effects. Job growth declines by 5.21 percentage points (significant at 5 percent), while average wage growth falls by 1.91 percentage points (significant at 10 percent). This dual channel means that supply chain-transmitted climate shocks simultaneously reduce the number of available jobs and compress the wages of those who remain employed. For workers in regions connected to climate-vulnerable supply chains, the economic squeeze operates from both directions.

International trade patterns also respond to supply chain climate disruptions, though asymmetrically. Import growth falls by a dramatic 39.4 percentage points in log USD terms when customer municipalities face dry spells. This collapse in imports reflects reduced domestic economic activity and purchasing power flowing from supply chain disruptions. Notably, export growth shows a positive but statistically insignificant coefficient of 0.1025, suggesting that foreign trade does not serve as an offsetting adjustment mechanism. Firms cannot simply redirect sales abroad when domestic supply chain partners suffer climate shocks — a finding that undermines assumptions about trade flexibility in many international climate risk models.

How Firms Adapt Through Supply Chain Diversification

Amid the concerning findings on economic damage, the BIS study identifies a significant adaptive response: firms actively diversify the geographic distribution of their supply chain partners when climate shocks strike. This diversification response is both statistically significant and economically meaningful. When customer municipalities experience dry spells, firms reduce their customer geographic concentration (measured by the Herfindahl-Hirschman Index) by 14.14 percentage points, significant at the 1 percent level.

The supplier-side response is even more pronounced. Dry spells affecting supplier municipalities trigger a 19.48 percentage point reduction in supplier geographic concentration. The Wald test for joint significance of all supply chain shock variables yields p-values of 3.6 × 10⁻³³ for customer diversification and 7.23 × 10⁻⁴⁶ for supplier diversification — essentially zero probability that these results occurred by chance. Firms respond to both wet and dry spell shocks across both customer and supplier dimensions, indicating that climate-driven supply chain restructuring is a broad, systematic phenomenon rather than an isolated response to specific event types.

This natural diversification behavior reveals important market dynamics. Firms are already internalizing supply chain climate risk into their operational decisions, even without explicit regulatory mandates to do so. However, this adaptation comes at a cost. Geographic diversification of supply chains may reduce efficiency, increase transportation costs, and weaken established business relationships. The fact that firms choose diversification despite these costs signals the severity of supply chain climate risk as perceived by actual market participants. For insights into how organizations are adapting their digital transformation strategies to address these challenges, the research provides a compelling evidence base.

Measuring the True Cost of Climate Change on Supply Chains

The BIS researchers constructed a counterfactual analysis to isolate the specific economic cost attributable to climate change — as distinct from natural climate variability. By estimating linear climate trends from 1961 to 2011 for each municipality and extrapolating to 2012-2019, they calculated what climate conditions would have been without the accelerating effects of climate change. The difference between actual and counterfactual conditions, multiplied by the estimated economic coefficients, yields the supply chain-transmitted cost of climate change itself.

The results are sobering. Supply chain spillovers from climate change reduced GDP growth by an average of approximately 0.4 percentage points per year over the 2012-2019 study period. The worst year was 2016, when the mean supply chain climate change effect reached -0.7 percentage points of GDP growth. In 2019, the effect was -0.6 percentage points. Some individual municipalities recorded an average GDP growth reduction of one full percentage point annually over the entire eight-year period due solely to supply chain-transmitted climate change effects. The vast majority of the distribution of these effects falls in negative territory, confirming that climate change is systematically eroding economic growth through supply chain channels.

These numbers have critical implications for climate change cost estimates at the macro level. Most existing projections of climate change economic damage focus on direct, local effects. The BIS research demonstrates that ignoring supply chain channels leads to systematic underestimation of the true economic cost. When policymakers at institutions like the European Central Bank or the Federal Reserve design climate stress tests for financial institutions, incorporating supply chain transmission is essential for generating realistic loss estimates.

Policy Implications for Managing Supply Chain Climate Risk

The BIS Working Paper No. 1260 carries profound implications for multiple policy domains. For financial regulators, the study provides empirical justification for requiring climate risk disclosures that extend beyond direct physical exposures to include supply chain dependencies. Current frameworks like the Task Force on Climate-related Financial Disclosures (TCFD) and its successor under the International Sustainability Standards Board (ISSB) are moving in this direction, but the BIS data suggests the urgency is greater than previously understood.

For central banks and macroprudential authorities, the research underscores the need to incorporate supply chain linkages into climate stress testing models. A bank’s loan portfolio may appear geographically diversified and climate-resilient based on direct exposure analysis, but if its borrowers share common supply chain connections to climate-vulnerable regions, the true risk concentration is much higher than surface-level analysis reveals. The confidential payments data used in this study, available to central banks worldwide, represents an untapped resource for conducting these deeper analyses.

For corporate risk managers and investors, the findings demand a fundamental rethinking of climate due diligence processes. Assessing a company’s climate risk based solely on the physical location of its assets ignores what may be the larger risk: the climate vulnerability of its customers and suppliers. The BIS data shows that manufacturing firms face up to 15.74 percentage points of growth reduction from intense supplier droughts — an order of magnitude larger than many direct climate impact estimates. Supply chain mapping, climate scenario analysis across trading partners, and geographic diversification strategies should become standard components of enterprise risk management.

Perhaps most importantly, the finding that moderate climate shocks drive the bulk of economic damage through supply chains challenges the prevailing “tail risk” framing of climate economics. Climate adaptation investment that focuses exclusively on preparing for extreme events misallocates resources. The steady, cumulative erosion of economic growth from moderate anomalies — the kind that rarely make headlines but appear in the data year after year — may ultimately prove more damaging than any single catastrophic event. This reframing should reshape how governments allocate adaptation budgets, how insurers price climate risk products, and how businesses invest in supply chain resilience.