On February 10, Finance Watch published its response to the European Insurance and Occupational Pensions Authority (EIOPA) Consultation on running climate change materiality assessments and using climate change scenarios in the own risk and solvency assessment (ORSA).
Finance Watch welcomes the EIOPA’s Guidance as an essential step to help financial institutions build identification and risk management capabilities for climate-related financial risks, and embark on the process to explore and understand those risks going forward.
However, operationalisation of the generic guidance on materiality assessment represents a major issue. There is a significant level of uncertainty associated with climate-related risks: insufficient availability of data, as well as the standardisation and consistency of data with which to analyse and measure these risks. The radical uncertainty around climate-related risks complicates the view on the relevant time horizons of their materialisation. In particular, time horizons for acute physical risks cannot be modelled/predicted with any degree of precision due to the “green swan” nature of climate events and overall non-linearity of climate changes.
Therefore, climate scenario analyses will likely remain of exploratory nature rather than be a precise risk management tool. Implementing the Guidance on scenario analyses and materiality assessment will be a gradual process, where insurers will need to develop expertise and capabilities and allocate appropriate resources to these tasks. Thus, it is unlikely that in the near future, scenario analyses will deliver credible and reliable outcomes, which would be consistent across institutions, in order to steer their behavior and ensure resilience against climate-related financial risks.
In the meantime, Finance Watch is strongly convinced that more timely and impactful measures to manage climate-related financial risks should be prioritised such as introducing capital requirements to account for these risks. Specifically, Pillar I capital requirements for fossil fuel exposures should be adjusted to reflect the risks associated with such assets – differentiating between the existing fossil fuel assets and exploration and production of new fossil fuels.