After the review found widespread flaws in lenders’ approach to environmental challenges, the European Central Bank has asked banks to “emergency” improve their plans to protect their businesses from the risks of climate change.
In the past seven years, the European Central Bank, which directly supervises the largest bank in the euro zone, has completed its first assessment of banks’ readiness to respond to increasing climate and environmental risks. It found that none of the banks under its supervision came close to meeting the European Central Bank’s expectations. The central bank stated that banks may “eventually” face higher capital requirements due to the combination of climate risk assessment and the routine work of setting individual banks’ capital levels.
The assessment shows that the biggest risk for banks comes from energy companies that do not switch to more sustainable activities and energy-intensive industries (such as aviation). Other risks include providing loans to buildings with less energy efficiency, so the resale value may be lower.
Although banks such as HSBC and Bank of America have launched their own net-zero targets, there has been an increase in scrutiny of the industry’s lending to carbon-intensive activities in recent years.
The European Central Bank’s research focuses on 112 banks with total assets of 24 trillion euros. Half of the lenders said that climate change will have a “significant” impact on their business in the next three to five years. Frank Elderson, member of the European Central Bank’s Executive Board and Vice Chairman of the European Central Bank’s Board of Supervisors, wrote in a blog post that none of the banks that report climate risk as “insubstantial” has not conducted adequate analysis.
Other shortcomings highlighted by the European Central Bank include the lack of stress testing to understand what happens to the banking business under various climate change scenarios, and poor planning on how to make its business model more resilient in the face of climate change. As part of the European Central Bank’s regular supervision, the banks with the biggest flaws have been urged to fix them.
“Banks urgently need to set ambitious and specific goals and timetables-including measurable intermediate milestones-to reduce their exposure to current and future climate and environmental risks,” Elderson wrote.
Sasja Beslik, director of sustainability at PFA, Denmark’s largest pension fund, and a well-known investor in environmental, social and governance, said that he does not expect banks to make “significant improvements” in their climate risk management strategies “before financial losses occur”. [from lending to unsustainable industries]”.
“Banks are reflecting the real economy; the real economy is unsustainable, so the way banks operate is unsustainable,” he added.
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The European Central Bank did find some bright spots. Elderson said that two-thirds of banks have achieved “significant results in incorporating climate risk factors into their lending decisions by conducting additional due diligence on borrowers’ climate risks or phasing out loans to some of the riskiest industries. progress”.
The European Central Bank will release a report on banks’ climate risk disclosure in the first quarter of 2022, and plans to conduct a more extensive review of banks’ strategies, governance and risk management surrounding climate change risks in the first half of next year. The review will only publish the results of the financial system, not the results of individual lenders.
In the UK, the bank submitted data for the Bank of England’s first climate “stress test” last month, which the Bank of England called “exploratory” and has nothing to do with capital requirements. The results will be presented as a summary of the UK banking system, which is scheduled to be released in May.