Response to the EBA Discussion Paper on Environmental Risks in the Prudential Framework

04 August 2022

Consultation response

Finance Watch welcomes the comprehensive work the EBA (European Banking Authority) has conducted so far, in order to deliver on its mandate and investigate a potential dedicated prudential treatment of exposures, substantially associated with environmental and/or social objectives and those subject to environmental and/or social impacts.

Finance Watch appreciates the EBA´s risk-based approach and recognition of the specific features of the climate-related financial risks. However, we see a fundamental inconsistency between these and some other considerations and conclusions, such as the ex-ante discussion regarding keeping the overall level of capital requirements unchanged and reluctance to advise on possible actions in the absence of historical empirical evidence.

In the discussion paper, the EBA claims to take an evidence-based risk-based approach, yet its very narrow interpretation of what constitutes eligible evidence of climate-related risks, fundamentally hinders the EBA from recommending any meaningful prudential actions.

The discussion paper does not depart from the need to find confirmation of climate risk differentials (i.e. prove that certain exposures are higher risk) in the past statistical data – despite the recognition that climate change is a forward-looking and non-linear phenomenon, which cannot be fully captured by probabilistic modelling.

In many cases, the EBA analyses defers actual conclusions to the areas of action which are not part of their mandate, such as incorporating climate-related risks into external credit ratings or collateral values – which does not help answering the core question of the consultation.

The deliberate wording of a choice between “integrating environmental risk”, or using the so-called “adjustment factors” in the discussion paper is biased, as it suggests that any credit risk weight adjustments are not risk-based.

In fact, exactly the opposite is true, as climate scenarios and estimates of stranded assets in the fossil fuel industry offer enough risk-based evidence to implement differentiated prudential treatment for the related assets.