EU capital rules likely to include climate transition plans for banks

September 22, 2023|Written by Scott Speer|European Central Bank

New powers to assess bank climate transition plans are to be given to EU banking supervisors, according to leaked documents seen by Responsible Investor.

The documents indicate that climate transition strategies are progressing towards inclusion as a fundamental element within the supervisory review and evaluation process (SREP) employed by European financial regulators. This integration aims to evaluate the risks encountered by individual banks and determine suitable actions.

In June, the European Parliament voted in favour of proposed rules requiring companies to adopt transition plans and implement them in accordance with the corporate sustainability reporting directive (CSRD). This marks a significant step toward increased supervision, as there is currently no regulatory oversight applied to transition plans themselves.

Paul Schrieber of Reclaim Finance welcomed the inclusion of transition planning but warned that “its real impact will depend on how the ECB conducts its assessment of transition plans. If the alignment with CSRD gives us some clues, supervisors will still have to define its expectations for each indicator required by the disclosure rules.”

Currently, the CSRD mandates reporting on how greenhouse gas reduction targets align with the 1.5°C global warming limit but lacks specific criteria. Supervisors must ensure targets meet essential criteria, including a 50% emissions reduction by 2030, leveraging existing UN High-Level Expert Group guidance for assessment, said Schrieber.

Additional information regarding the evaluation of transition plans, including the establishment of “specific timelines and intermediate quantifiable targets and milestones,” is anticipated to be finalised by the European Banking Authority (EBA) within one year of the legislation being enacted. While the EBA is the primary prudential supervisor in the EU, enforcement of its regulations falls under the purview of the European Central Bank (ECB).

The ECB will also assume the responsibility of verifying that bank business models possess adequate resilience to endure the “scale, nature, and complexity of the environmental, social, and governance risks” over a 10-year period, although ongoing discussions revolve around inclusion of the phrase “where appropriate”. This represents a significant extension beyond the current three-to-five-year supervisory horizon.

Finance Watch’s Julia Symon told Responsible Investor that transition plans should consider the external climate impacts of bank exposures based on double materiality, in addition to their direct transition risk. These plans would empower the ECB to compel underprepared banks for the climate transition and allocate greater capital reserves to absorb potential losses, known as climate-adjusted capital requirements. However the ECB’s Andrea Enria recently proposed strategies to shift away from higher capital requirements as the primary approach for motivating lenders to address issues.

In 2022, the ECB increased capital requirements due to weaknesses in the management of climate and environmental risks by some EU banks. However, in January members of the European Parliament’s economic affairs committee opted against adopting higher-level capital requirements for lending towards new fossil fuel projects.

Adoption of the banking package may be delayed until a conclusive agreement is made on Solvency 2, an equivalent prudential reform package for insurers. Trialogue negotiations are continuing after an EU committee voted earlier this year for mandatory climate transition plans and capital relief for insurers.

This page was last updated September 22, 2023

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