Bank of England sets out expectations for management of climate risk

The draft supervisory statement (19 page / 568KB PDF) sets out how firms should apply effective governance, risk management, scenario analysis and disclosures to manage the financial risks connected to climate change.

The PRA said there needs to be “clear board-level engagement and responsibility” for the issue, and firms need to identify those in senior management who are responsible for managing climate-related financial risks.

Existing risk management frameworks should be used to address the risks identified. The PRA said it expected firms to provide evidence of how they are mitigating risks, to have a “credible” plan or policies in place to manage exposures, and to make sure they had relevant information or data to understand the potential current and future impacts of climate change.

Scenario analysis needed to include both short-term and long-term assessments of a firm’s exposure to a range of climate change scenarios. Firms are expected to use this analysis to understand the impact of financial risks from climate change on their solvency, liquidity and ability to pay policyholders.

Additional disclosures, over and above disclosures already mandated by existing regulation such as the EU’s Solvency II directive, may be necessary to meet the expectations laid out in the supervisory statement. The PRA also said it expected firms to engage with wider initiatives on climate-related financial disclosures.

Insurance law expert Elaine Quinn of Pinsent Masons, the law firm behind Out-Law.com, said the consultation should be welcomed.

“It provides further clarity and guidance about the regulators’ expectations on this increasingly important issue,” Quinn said.

Quinn said a research report, aimed at pension trustees and published by Pinsent Masons earlier this year, had reached similar conclusions to the PRA.

“One of the key research findings - of general interest to all financial services firms - is that firms’ environmental values play a critical role,” Quinn said.

“Therefore while the PRA consultation outlines essential technical actions firms will need to be carefully thinking about now, this is also a hugely important cultural issue about the extent to which environmental values are being incorporated into firms’ activities. Bearing that in mind while considering the PRA’s requirements will likely make the path towards compliance for firms a smoother one,” Quinn said.

The consultation is open until 15 January 2019.

Separately the Financial Conduct Authority (FCA) has launched a discussion paper (22 page / 303KB PDF) on the impact of climate change and green finance on financial services.

The FCA is seeking input on four areas where it says a greater regulatory focus is warranted: climate change and pensions; enabling competition and market growth for green finance; ensuring that disclosures in capital markets appropriately give adequate information to investors of the financial impacts of climate change; and the scope for a new requirement for financial services firms to report on how they manage climate risks.

The PRA and FCA are together setting up a climate financial risk forum to encourage discussion and help the sector manage financial risks arising from climate change. The forum’s membership is currently being finalised with the aim of holding a first meeting in early 2019.