Banks Have a Key Role on the Path to Sustainability
Europe relies largely on a bank-centric financial market and direct bank lending is a key constituent. Historically banks have originated loans largely with the intent to hold them to maturity. This is one of a number of reasons why climate related risks may directly impact European banks.
Policymakers and supervisors alike have understood the potential materiality of how climate related risk may affect banks in the future. In Europe, already in 2017, the Bank of England was one of the first to introduce their strategy on climate risk. This was followed soon after with the incorporation of climate risk in the stress testing regime.
Recently, the pace of supervisory action has increased dramatically. Central Banks and supervisors have a joint initiative called the NGFS (Network for Greening the Financial System) and in May 2020, they published their guide for Supervisors.
The BCBS has a task force in place looking at the impact of climate related risks on banks. They recently concluded that climate related risks can be captured in the risk categories that form the basis of the Basel Framework. This would enable supervisors to capture how climate related risks impact all risk surfaces, most importantly, Credit, Liquidity, Market, and Operational Risk. In April 2021 the BCBS published a guide to measurement methodologies.
In Europe, the ECB has identified climate risk as a key risk. Going forward, this will be incorporated as part of the SREP (Supervisory Review and Evaluation Process). In November 2020, the ECB also published their guide on climate related risks.
Recently, the EBA published the findings of their EU-wide pilot exercise on climate risk.
Lastly, there is the EU-wide reporting taxonomy, which will serve as the basis for future disclosure requirements.
Adequate policies and supervisory action have the potential to shape the future, for better or worse. Having said that, banks themselves have also picked up the gauntlet and have made great efforts towards a more sustainable future, recognising that they are in an instrumental position to shape the future. Clearly, there is also widespread pressure from society at large.
If climate risk would be incorporated within the existing risk categories underpinning the Basel framework, what would this mean for banks? Well, banks largely rely on siloed structures to monitor, manage, and report Credit, Liquidity, and Market Risk. This is far from ideal. For any holistic or integrated purpose in Europe, as part of the annual SREP-results, the ECB has cited data aggregation and risk infrastructure as an area of weakness. In August 2020, the ECB commented on banks ICAAP Practices and concluded that banks lack agile and responsive tools.
So, what can banks do and how should climate related risks be managed proactively? With unique transaction level data and multiple risk surfaces treated in the same holistic solution, MORS helps banks monitor and manage climate related risks transparently and the impact on Credit, Liquidity and Market risk alike can be measured accordingly.
Would you like to know more about how MORS Software can help your bank find its way on the path to a sustainable future?
See upcoming MORS webinars here or watch on-demand webinars here.
Climate-related financial risks – measurement methodologies (bis.org)
Guide on climate-related and environmental risks (europa.eu)
EBA publishes results of EU-wide pilot exercise on climate risk | European Banking Authority (europa.eu)