Reserve Bank of Australia flags climate risk disclosure a priority, warns of uncertainty on banks’ exposure

Improving climate-related risk disclosure is a priority for the Reserve Bank as it highlights a ‘significant uncertainty’ on the size of risks confronting banks.

Outside the RBA headquarters in Sydney, above. The central bank has outlined the steps domestic regulators are taking to oversee risks related to climate change. Picture: NCA NewsWire / Gaye Gerard

The Reserve Bank has signalled improving the disclosure of climate-related risks as a priority this financial year for companies and regulators, as it highlighted “significant uncertainty” on the magnitude of risks confronting banks.

In its latest Financial Stability Review, the central bank said while the risks from climate change were not currently substantial they would increase over time if not addressed.

“These risks relate to the physical damage to assets, and the value of assets from changes to policy and technology that are implemented to address climate change and to assist in the transition to a lower emissions economy,” the report, released on Friday, said.

“Australian financial institutions are vulnerable to these growing risks and, if not adequately managed, there could be considerable implications for financial stability,” it said.

“There is significant uncertainty about the magnitude of risks to banks from climate change … mortgages account for approximately two-thirds of banks’ credit portfolios and so potentially represent a significant source of exposure to the effects of climate change.”

RBA analysis has shown that risks to bank mortgage portfolios may be concentrated in a small number of geographical areas, such as agricultural and farming regions in NSW and Queensland, and metropolitan areas flanking the ocean or waterways.

The analysis estimates that by 2050, just more than 1 per cent of properties will experience a drop in value of 10 per cent or more compared to current prices.

“Insurers are more exposed to physical risks from climate change than banks because their policies cover natural disaster damage,” the RBA said.

The report noted that climate change-related risks to the financial system were a growing focus of the Council of Financial Regulators (CFR), which counts the RBA, Treasury, the banking regulator and the Australian Securities and Investments Commission as members.

The RBA also highlighted that it was closely monitoring global developments around climate change reporting.

“An important development in this area is the International Financial Reporting Standards Foundation proposal to create a new International Sustainability Standards Board to drive greater consistency in sustainability reporting,” the stability review said.

“In addition, some jurisdictions have, or are moving towards, mandating the disclosure of climate risks, including the European Union, New Zealand and the United Kingdom.”

The RBA added that a CFR working group was considering the possible impacts of the overseas developments for Australian firms and whether the nation should respond, albeit noting any policy decisions would be determined by the federal government.

“A priority for 2021-22 is to identify and strengthen the building blocks that will be needed to improve the ability of Australian firms to disclose climate-related risks, through steps like improving data quality and developing consistent scenarios,” the RBA said.

Separately, the Australian Prudential Regulation Authority has made gauging climate change risk across the financial sector a priority. Last month, APRA published a paper outlining “the purpose, design and scope” of a formal Climate Vulnerability Assessment that the nation’s five banks are undertaking.

The assessment uses two future climate scenarios provided by the international Network for Greening the Financial System, although tailored to Australian conditions. One scenario looks at higher transition risks linked to “delayed or divergent” emissions reduction paths across countries and sectors while the other assumes limited further action on climate change globally with significant warming and more “severe physical risks”.

The assessments are occurring after APRA also released draft prudential guidance on climate risk.

The RBA said that climate and emissions-related actions by companies were increasingly influencing the decisions of some investors in their capital allocation, which could impact the financial system and the real economy.

“These developments highlight the need for regulators and financial institutions to understand and manage climate change risks, which in turn requires robust disclosure of those risks,” the report added.

“The development of consistent and widely recognised taxonomies internationally may have implications for the pricing of climate risk and investment in Australia. Taxonomies can be used to redirect money towards sustainable projects, and therefore may incentivise investment in particular sectors and industries.”

The RBA said the CFR was involved in international groups – such as the G20 Sustainable Finance Working Group – to facilitate learning and potentially influence policy settings when required.

On climate measures, ASIC is conducting a surveillance program on governance and disclosure of climate risk from Australian companies, the RBA said. The report noted ASIC was also examining the “extent of potential harms from greenwashing”, or make false claims about climate and green initiatives or products.

The major banks are, however, being targeted by Climate activist group Market Forces which is seeking a commitment they stop funding fossil fuel growth projects. Market Forces has lodged resolutions for the annual general meetings of the major banks, and the debate will be heard first at Commonwealth Bank’s investor meeting on Wednesday.

Originally published as Reserve Bank of Australia flags climate risk disclosure a priority, warns of uncertainty on banks’ exposure