Philip Lee - Recognition of climate risks by banks

ECB guidance on climate-related and environmental risk supervisory expectations, and what are the implications for banks?

The European Commission Climate Action Plan’s objectives are to reorient capital flows towards sustainable investment, manage financial risks stemming from climate change, resource depletion and foster transparency and long termism in financial and economic activity. The EU Green Deal seeks to support the reorientation of capital through the publication of the EU Taxonomy, the Sustainable Financial Disclosure Regulation and other steps.

On the other side of the coin institutions are exposed to climate risk in their existing portfolios, investments and new lending activities. These risks need to be assessed, managed and mitigated so that institutions can reorient their business strategy and governance systems to address climate-related and environmental risks.

The ECB recently outlined its supervisory expectations of institutions with respect to climate-related and environmental risks (the “Guide”)1, pursuant to its existing mandate under the Capital Requirements Directive (CRD) and Capital Requirements Regulation (CRR). The CRD and CRR impose certain governance obligations on institutions, including requirements to implement internal governance arrangements, processes and mechanisms to ensure effective and prudent management of an institution. The Guide describes how institutions should consider climate-related risks when formulating business strategy and governance and risk management frameworks.

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