Climate risk – a threat to financial stability

This month, the Basel Committee on Banking Supervision’s Task Force on Climate-related Financial Risks released the paper on the “Principles for the effective management and supervision of climate-related financial risks”. The high level task force was established in 2020 to further strengthen regulation, supervision and practices of banks to enhance financial stability in the ever changing environment.

Australia’s largest banks have had this on their radar for some time, with various responses already evident in their sustainability reports. Nevertheless, banks are a primary target for activist shareholders seeking more pro-activity from banks to reduce support for major carbon emitters. To an extent, some banks will reflect this in the risk adjustments that APRA requires for variable remuneration (see the latest APRA initiative HERE)

This paper is a culmination of 3 years of research and analysis. It started with a stocktake of the global banking industry’s climate risk management in 2020. Further analysis was released in 2021 on the risk drivers and measurement methods in the financial sector. The research provided additional supervisory guidance for supervisors and banks to enhance alignment.

The result of the research and analysis is 18 principles targeted towards improving risk management and supervisory practices with regards to climate-related financial risks.

The principles are a primer for bank (principles 1 through 12) and regulators (13 through 18) to ensure that climate change risk is identified and managed, the goal being that the potential impact to the safety and stability of the banking system is addressed.

The principles in essence establish climate-related risks as a discrete risk element within the traditional risk categories to be identified in a bank’s Risk Appetite Statement and addressed in the business strategy and risk frameworks. There is also a matching emphasis on the role of regulators who should ensure that they have adequate resources and capacity to effectively assess individual bank management of climate-related financial risks.

Global and domestic investors have telegraphed climate change in their voting priorities (see HERE and HERE)

The principles based approach outlined should provide a better perspective for boards in regard to the complex nature of climate-related risks and their company exposure.

The full paper can be viewed HERE. The stocktake paper can be viewed HERE. The 2 analysis papers can be viewed HERE and HERE.

© Guerdon Associates 2024
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