In the last few months, competent authorities have published a list of guides and requirements, stating their expectations for banks to start integrating Environment, Social and Governance (ESG) risks into their business strategies, risk management framework and disclosures.
While the European Central Bank (ECB) finalised their expectations on the climate and environmental dimension, the European Banking Authority (EBA) shed more light on the EU’s ESG taxonomy and how it would apply to the banking sector more specifically. Locally, the update of the Commission de Surveillance du Secteur Financier’s (CSSF) Circular 12/552 calls for banks to consider ESG risks into their strategy and risk appetite with the objective to ensure viability of the bank’s business model.
This leads to risk and operations officers moving forward in their management of ESG risks: there is a need to present the banks’ ESG considerations, document them into the 2020 ICAAP report and develop a roadmap starting from today.
ECB: In November 2020, the ECB published a guide on climate-related and environmental risks setting out 13 supervisory expectations for ECB-directly supervised banks to consider climate-related and environmental risks in their business strategy, governance, and risk management frameworks. The ECB is asking significant institutions to submit their plan on integrating against these expectations by the end of February 2021, and will challenge them in the course of its supervisory dialogue with these banks.
The 13 expectations set by ECB cover the areas of business model and strategy, governance & risk appetite, risk management as well as disclosures.
EBA: In October 2020, the EBA published the discussion paper EBA/DP/2020/03 to propose a definition of ESG risks and related factors and indicators to monitor. It also shed light on the potential expectations for banks to include ESG in their Pillar 1, 2 and 3 regulatory and capital requirements and disclosures. The paper:
Defines ESG risks and proposes ESG factors and indicators to monitor
Calls for banks to formalise their ESG risk appetite and set out appropriate policies and procedures
Invites banks to collect data related to ESG risks, develop their ESG risk monitoring metrics and stress test them.
The perspective as seen in the EBA paper is to monitor the banks’ counterparties against the proposed ESG factors as follows:
CSSF: In December 2020, CSSF revised their Circular 12/552 on internal governance and stated that banks’ management bodies need to adjust and embed their business strategy and risk appetite to cover ESG risks. CSSF also announced that an ESG-specific Circular is to be expected in 2021.
Set the right ESG risk culture, starting with the education part
Monitor and navigate within the changing regulatory space
Identify exposure levels and perform gap analyses
Finalise an ESG strategy within relevant time horizons
As supervisors tighten their grip on ESG, it is essential for banks to take that timely and decisive action to start integrating them in their strategy arrangements and risk management frameworks. Where many banks still think of ESG or environmental risks only in terms of potential “physical risk”, they often underestimate or overlook the so-called “transition risk” and how the letter will impact all banks, regardless of their business model. And that realisation is a call for action now.
We will continue to inform you on further developments in this area. For more information, please visit our page "ESG in banking: what it means for Risk Managers".
1. PwC Luxembourg (www.pwc.lu) is the largest professional services firm in Luxembourg with 2,800 people employed from 77 different countries. PwC Luxembourg provides audit, tax and advisory services including management consulting, transaction, financing and regulatory advice. The firm provides advice to a wide variety of clients from local and middle market entrepreneurs to large multinational companies operating from Luxembourg and the Greater Region. The firm helps its clients create the value they are looking for by contributing to the smooth operation of the capital markets and providing advice through an industry-focused approach.
2. The PwC global network is the largest provider of professional services in the audit, tax and management consultancy sectors. We are a network of independent firms based in 155 countries and employing over 284,000 people. Talk to us about your concerns and find out more by visiting us at www.pwc.com and www.pwc.lu.
Risk & Regulatory Partner, PwC Luxembourg
Tel: +352 49 48 48 2874