‘Disappointing’: Bank of England delays climate-risk-related changes to frameworks

On Monday (13 March), the Bank published a new report on climate-related risks and how they can be accounted for through regulatory capital frameworks. It includes no changes to Bank policy, with the Bank instead stating a wish to lay out its “latest thinking”.

The Bank has been assessing the extent to which climate-related risks are being measured, and the extent to which these measurements are captured in capital regimes, since last October, with the assistance of researchers and other internal and external experts.

The conclusion is that estimating climate risk to capital markets is still in its relative infancy. The Bank has spoken of “capability gaps” in estimating risks and “regime gaps” in ensuring they are accounted for in decision making.

“As a short-term priority, the Bank is focused on ensuring firms make progress to address ‘capability gaps’ to improve their identification, measurement, and management of climate risks,” the latest report said.

Regarding ‘regime gaps’, the report points to the need to improve climate related stress testing and scenario analysis. The Bank first announced its intention to introduce a mandatory and uniform stress test regime for the sector back in 2019 and the delivery has progressed to the original timeline in spite of Covid-19. Flagship test results were published last year, with most institutions unable to project climate-related losses.

Beyond strengthening stress test requirements as time goes on, the Bank noted that it has only garnered a “limited” amount of research on recommendations of how to close ‘regime gaps’. It received more than 60 submissions relating to this week’s report but most did not “directly address” this question. The report states that “substantial further work is needed and there remain many open questions” which the Bank will wish to close before making any policy changes.

The Bank has made some acknowledgements, via the report, that its approach is likely to need to evolve rapidly in the future. As Positive Money’s head of policy and advocacy Simon Youel summarised: “The Bank has finally accepted that climate risks have ‘unique characteristics’, including ‘non-linearities and feedback loops’, that make them hard to predict and that may require more ‘forward-looking’ tools.”

Capital at risk

On a positive note, the Bank has concluded that the existing timescale over which banks and insurers hold capital are appropriate for climate risks. This signals a shift away from previous conceptions that climate-related risks will crystallise across timeframes that are too long for them to be meaningfully accounted for.

Youel said, however, that “there is no time for further delay” in bringing forward more concrete climate policy changes at the Bank. He said: “After regulators have recently been found asleep at the wheel on Silicon Valley Bank, it is concerning that the Bank of England is also delaying essential changes to capital frameworks to ensure they protect the public against climate risks.”

The Bank itself has noted concern over whether banks and insurers are sufficiently capitalised for future climate-related losses. Youel pointed to a previous piece of research from the One for One campaign, stating that it is likely for banks to need a $4.9trn bailout globally if the fossil fuel market crashes in the next decade. This underscores the need for a just yet rapid transition of finance away from high-carbon activities with no credible plans to decarbonise in line with climate science.

The New Economics Foundation think-tank has expressed similar concerns. One of its economists, Lukasz Krebel, said“Climate-related risks pose a grave and growing threat to the stability of the financial system… It is therefore worrying that the Bank of England acknowledged that actions we take now will influence how serious these risks will grow but failed to act following its capital requirements review.”