A report by the European Central Bank (ECB) has found that banks are partially or completely missing climate risk goals.
The study examined the current state of climate-related and environmental (C&E) risk management in 112 banks that are currently under its direct supervision.
In the report – titled the State of C&E Risk Management in the Banking Sector – the ECB set out 13 supervisory expectations for the banks regarding the integration of C&E risks into their business models and strategies, governance and risk appetite. It was found that almost all banks that participated in the study were only partially – or not at all – aligned with the supervisory expectations of the ECB.
Of the banks that report C&E risks as being immaterial to them, there was not one bank found to have a materiality assessment in place that was deemed appropriate. While many banks recognise that C&E risks will have a material impact on their risk profile within the next three to five years, only the practices of a few banks are having a notable impact on their strategies and risk profiles.
Where banks were found to be making progress were in the areas of adapting their governance and policies, while some are beginning to incorporate C&E risks into their lending policies and are giving formal responsibilities within their organisation for the management of such risks.
Two-thirds of banks have made progress in integrating climate-related risks into the credit risk management, which has been achieved through measures such as enhanced due diligence procedures and new phasing-out criteria to limit the financing of activities that are highly exposed to climate-linked risks. In addition, banks are starting to assess energy label certifications when evaluating real estate collateral, however, many do not yet include the results in their lending and monitoring practices.
According to the ECB, banks have been placing less emphasis on identifying and measuring these risks through a set of risk indicators – while fewer than half have taken any steps to adjust their business model and strategic planning despite the growing climate-related risks that are arising.
Where banks are making the least progress is in the areas of market and liquidity management, stress testing and internal reporting.
ECB vice chair of the supervisory board and member of the executive board Frank Elderson said, “By publishing such an extensive and detailed set of information on the good practices identified across the euro area banking sector, the ECB hopes to close some of the gaps identified thus far and encourage banks to proceed more forcefully towards fully integrating C&E risks into their DNA.”
Next year, the ECB will conduct a thematic review of institutions’ C&E risk management practices and a supervisory stress test with a view to gradually integrating these risks into the Supervisory Review and Evaluation Process methodology. Once integrated into the SREP, banks exposure to such risks will eventually influence their Pillar 2 requirements.
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