The European Central Bank (ECB) is stepping up pressure on lenders to prepare for stress tests next year that would show how vulnerable the industry is to climate change, people familiar with the process said yesterday.
The ECB, which earlier this year voiced displeasure over finance industry efforts to respond to climate risks, has sent out confidential documents to banks stating that they would need to provide data on how their balance sheets might fare through 2050, the people said.
The regulator also plans to study the link between profits and carbon risk in banks’ portfolios, they said.
Photo: AFP
European politicians want banks to become a key plank in the fight against climate change by steering capital away from polluters.
Companies in the region, unlike their peers in the US, tend to rely more on their lenders than on capital markets for financing. Investors are taking note as banks burdened by carbon-intensive loan books might face higher capital requirements, which could erode their power to pay dividends.
A methodology for banks might be introduced next month, one of the people said.
Banks would have to supply the ECB with information that shows how their portfolios might evolve over periods of 10, 20 and 30 years, said the people, asking not to be identified as the documents are private.
An ECB spokesman declined to comment.
The power of EU environmental, social and governance (ESG) standards to disrupt the financial industry played out publicly last month as investors dumped shares of DWS Group after it became the target of investigations for alleged greenwashing.
Although DWS said that it did nothing wrong, the development showed that financial firms, whether banks or asset managers, can no longer afford to underestimate ESG compliance.
The ECB has said its supervisory arm’s stress test next year would rely on banks’ assessments of their exposure to climate change and their readiness to address it.
The test would also be informed by this year’s EU-wide exercise, it added.
The outcomes would be reflected qualitatively by potentially affecting the scores used to calculate individual banks’ capital requirements, it said.
However, the ECB has made clear that it would gradually start to treat climate risks as it treats any other risk by reflecting it in those requirements.
The ECB in July said that hardly any eurozone banks were adequately prepared for the risks they might face from climate change.
It would give banks individual feedback on their plans for addressing the deficiencies identified in the self-assessments this month, one of the people said.
Credit rating agencies have also warned that the industry is behind when it comes to adapting to climate and social risks.
“Apart from the high-level corporate social responsibility statements, banks do not appear to have fully embedded the management of ESG risks into all aspects of their business strategy and business processes, particularly pricing,” said Monsur Hussain, a senior director at Fitch Ratings Inc in London.
Fitch previously said that new capital requirements based on climate risk are the “next logical step” for regulators in Europe.
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