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1) Banque de France shines a light on climate stress test challenges
Banks and insurers in France have only “moderate” exposures to climate risks, a pilot exercise run by the local regulator shows.
The Autorité de contrôle prudentiel et de résolution (ACPR), the supervisory unit of the Banque de France, conducted the tests between July 2020 and April this year. Nine banking groups and 22 insurers participated. The firms were subjected to three transition risk scenarios and a physical risk scenario, each with a 30-year time horizon.
The results show that French institutions’ exposures to the most transition risk sensitive sectors — including mining, coking and refining, agriculture and construction — are low. Participants were given the freedom to reshape their balance sheets under the tests, too, and generally elected to pare down their exposures to these high risk sectors over the stress period.
Alongside the quantitative results, the exercise highlighted certain methodological issues ACPR said it would learn from. One issue was the use of climate scenarios with variables projected over the long-term and their incompatibility with financial institutions’ risk models, which “are not adapted to incorporate smoothed trends in macroeconomic and financial variables over a long period”.
Another concerned the freedom afforded firms to adjust their balance sheets through the scenarios. Because ACPR did not factor in “feedback effects” between management actions and the dynamics of the economy through the scenarios, the participants were not encouraged to “implement an active risk reduction policy” — as the scenarios presumed the economy would hit net zero emissions by 2050 regardless of the financial systems’ actions.
The ACPR said it would repeat its climate stress tests “regularly”, with the next round tentatively scheduled for 2023/24.
2) RMS debuts climate change models
Catastrophe risk modelling firm RMS launched a series of climate change models on Wednesday that shed light on how a warming planet will exacerbate natural hazards.
The models identify and measure the impact of acute physical risks under an array of Representative Concentration Pathways (RCPs) — each of which describes a different climate future — across a variety of time horizons and regions.
This first batch covers North Atlantic hurricane, Europe inland flood and Europe windstorm. Running the models over today’s exposures revealed that insured average annual losses (AAL) from North Atlantic hurricane wind could surge as much as 24% by 2050 under the RCP 8.5 scenario — a ‘high emission’ iteration. European flood risk AAL could jump 59% over the same time horizon under the same scenario.
The models will be made generally available in June this year. RMS says firms will be able to use them to “quantify climate risk impacts at any scale, from individual assets through to portfolios, commercial entities, sectors, and entire markets”.
3) Update capital rules to stop climate ‘doom loop’ – Finance Watch
Campaign group Finance Watch urged European policymakers to raise the amount of capital banks have to hold against fossil fuel exposures by up to three times in order to break a “climate-finance doom loop”.
In a letter to European Union commissioners and the head of the European parliament’s economic committee, Finance Watch said that “financial institutions feed a vicious circle, enabling climate change by financing fossil fuel related activities despite the now universal recognition that climate change poses a major threat to financial stability”.
To stop this, it proposed a series of amendments to the Capital Requirements Regulation (CRR), the prudential rulebook for banks, and Solvency II, the framework for insurers, that would treat existing fossil fuel exposures as highly risky and eligible for higher capital charges.
Finance Watch said that today, many of the world’s big oil and gas companies have risk-weights attached to their exposures of 20% to 50% under the CRR, because of their high external credit ratings. To better reflect the risk of these firms’ assets becoming stranded as the low-carbon transition takes hold, these should be raised 150%, the group said.
It added that a risk-weight of 1,250% should be applied to exposures “related to the business of exploring, extracting or exploiting new fossil fuel resources”. This would mean that for every euro of investment, a bank would have to hold a euro of capital against it.
When it comes to insurers, Finance Watch said their equity investments in fossil fuel companies should be given a 49% capital charge under Solvency II — the highest allowed. Debt investments should be treated as highly risky under the rules, too.
4) Allianz tightens coal policies
German insurance giant Allianz will stop investing in, and extending insurance to, companies planning new coal mines or coal-fired power stations as of January 1, 2023, ratcheting up the pressure on mining and electricity clients.
Companies that make more than 25% of their revenues, or 25% of their generated electricity, using coal will also be cut off from that date. Allianz will also stop investing in, and exclude from its single-site insurance plans, all coal-linked infrastructure, such as coal ports.
The announcement tightens up its previous policy, which set the exclusion threshold at 30% of revenues or electricity generated, and barred only coal-fired power plants and mines from single-site insurance. However, Allianz said it would insure or finance “business activities and investment opportunities” of these coal-linked firms if they are “exclusively renewable” and have a climate transition path in place.
Since 2015, Allianz has divested €6.3 billion of coal investments. It has not introduced a new coal project to its underwriting portfolio of policyholder funds since 2018.
Lucie Pinson, founder and executive director of climate lobby group Reclaim Finance, said: “Allianz is finally cracking down on companies with coal expansion plans, albeit belatedly, and should now be a driving force for the phase-out of coal in Europe by 2030. However, this policy is not enough to honor its commitment to be a net zero insurer and investor by 2050. It has taken six years for Allianz to get to this point since it first adopted a policy on coal and the climate crisis doesn’t afford us baby steps. With COP26 looming, Allianz must go further, close all remaining loopholes on coal and say no to new oil and gas production projects”.
5) ECB’s Lagarde says climate change already affecting price stability
President of the European Central Bank (ECB) Christine Lagarde said Friday that climate change impacts are already destabilising prices, and will likely constrain the agency’s ability to conduct monetary policy.
Speaking at The State of the Union virtual conference, Lagarde said “climate change will have — has already — an impact on price stability. Whether you look at climate-related events, whether you look at particularly exposed areas, prices will be determined as a result of that”.
Under Lagarde, the ECB has ramped up efforts to examine how climate change will affect the financial system and its own activities. Earlier this year, the agency set up a climate change centre to “shape and steer” its climate agenda internally. On April 30, it appointed Irene Heemskerk, a Sustainability Fellow at the International Financial Reporting Standards (IFRS) Foundation, to head the unit.
Besides price stability, Lagarde said that the ECB itself faced constraints because of the warming planet: “The monetary policy space that is available will also be determined partly, not exclusively, but partly on climate change,” she told the conference.
Earlier this week, Lagarde also called for a Europe-wide “green capital markets union” to foster effective cross-border climate finance. As part of this, she urged “proper European supervision of green financial products with official EU seals such as the forthcoming EU Green Bond Standard” in order to identify “systemic links and associated risks within the cross-border market”.
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