Abstract
This study analyses the impact of climate related physical risks, with a particular focus on floods, on the financial and macroeconomic stability of Montenegro. Using regression models and stress-test scenarios, the paper examines the relationship between climate shocks and key indicators such as the share of non-performing loans (NPLs), GDP growth, and banks’ capital adequacy ratio (CAR). The findings indicate that extreme climate events significantly increase credit risk, which is reflected in higher NPLs, lower CAR, and adverse effects on economic growth. The simulations suggest that a severe climate shock could double the level of NPLs and substantially undermine banking-sector stability, with potentially broader implications for the fiscal sector and insurance companies. The results confirm that climate risks should be integrated into macroprudential policies, supervisory frameworks, and risk-management strategies, particularly in small and open economies.