As climate change intensifies, financial institutions’ exposure to climate-related risks could increase meaningfully over the medium term with considerable economic effects. Financial institutions face growing pressure from some stakeholders to better quantify and integrate climate risk analysis into their lending practices. Climate risk management is essential for most corporate, financial, and government debt issuers, but stakeholder pressure is also becoming especially acute for some banks as regulators and other constituent groups increasingly focus on carbon-intensive lending activities and investments. In this report, Kroll Bond Rating Agency (KBRA) examines the implications of climate risk in the global banking system, the importance of disclosure, and the steps that financial institutions are taking to mitigate their climate risk exposure.
Key Takeaways
Banks may play an influential role in speeding the transition to a low-carbon economy by directing financing resources to support green and sustainable projects. However, banks can only do this if the financing meets acceptable return and expected loss thresholds. Accordingly, a public-private partnership featuring subsidies may be necessary to meet stakeholder climate policy objectives.
Physical and transition risks pose significant financial threats over time, particularly if banks and other financial institutions are unable to accelerate efforts to align lending practices with climate-change mitigation. Analyzing their downstream impact on climate change through the financing of carbon projects could be an important step toward mitigating these risks.
Financial regulators are key actors in addressing the financial risks of climate change. Central banks, regulators, and governments are working with market participants to ensure that financial institutions disclose their exposure to climate risks, as well as the climate impact of their loans.
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