Climate change is becoming a top priority for banks

• Banks are solidifying their risk management infrastructure
• Risk management survey reveals that climate change is now a primary concern for banks
• Chief Executive of Norwegian bank says fossil fuel divestment is a dangerous way to reduce carbon emissions
• Australia’s economy forecast to see 5% growth by the end of 2021
• European Central Bank urged to maintain flexibility on stimulus measures by ECB board member, Fabio Panetta

According to the 11th Ernst & Young (EY) and Institute of International Finance (IIF) bank risk management survey, climate change is becoming a primary concern for banks worldwide. EY is a professional services network, and IIF is a trade group for the global financial services industry. The risk management survey covered 88 financial institutions across 33 countries, observing risks within financial services over the past ten years and anticipated risks over the next decade.

The revelations regarding climate change come as Kjerstin Braathen, the Chief Executive of Norwegian oil bank, DNB ASA, commented that fossil fuel divestment is a dangerous way to reduce carbon emissions.

A significant 91% of respondents stated climate change was an emerging risk that would escalate over the next five years. In comparison, just 52% of respondents had the same opinion in 2019. In addition, 49% of financial institutions stated that climate change required imminent action within the next 12 months, whilst just 17% thought this was the case two years ago. Aside from climate change, 83% of the banks surveyed also listed global economic recovery as an ongoing risk.

Mark Watson, EY Deputy Leader, noted how climate change has swiftly become a top priority for many banks for the first time in history. Financial institutions need to remain resilient across all dimensions as global economies continue to recover from COVID-19 pandemic.

It’s now apparent that risks related to climate change have become a significant dimension in addition to social and governance issues.

The survey revealed that 54% of banks admit that they are still developing and maturing their risk management strategies with a basic understanding of their risk exposures, whilst 28% of respondents fully understand.

In the near future, 98% of banks stated that credit risk is the number one priority over the next 12 months as global economies recover from the coronavirus pandemic. The survey also revealed that an imminent focus was risks related to cybersecurity, with 80% of respondents highlighting this as a critical concern.

Banks are set to become increasingly reliant on technology, with 29% of respondents claiming that they could reduce control costs in the next three years using data and technology to elevate their risk management processes.

Chief Risk Officers (CROs) list seven out of the ten significant risk management threats related to technology. For example, 68% of CROs state that pace and breadth in changes from digitisation remains a major risk, 68% say technology-related disruptions will be significant, and 62% say outdated, and legacy systems could pose a threat.

93% of financial institutions believe new or additional regulatory requirements will be introduced on operational resilience, and 60% expect similar action on economic resilience.

CROs expect banks will place increased focus on their digital transformation, with 88% believing that automated processes will become a priority, 66% on modernising technology and 64% on providing customers with further insight.

Risk management: the importance of resilience

The survey outlined 83% of financial institutions listed global economic recovery as a primary risk, highlighting the necessity for resilience within risk management today. The impacts of COVID-19 have placed enormous pressure on financial institutions worldwide, with many maintaining a solid position.

Jan Bellens, EY Global Banking Leader, noted how most banks endured the coronavirus pandemic exceptionally well and now have the opportunity to build on their resilience and generate future growth.

In the years leading up to the coronavirus pandemic, banks worldwide made substantial investments to help build the resilience of their core businesses, which allowed them to survive the coronavirus pandemic’s impact. This observation has become the driving force for banks to continue this approach to endure the post-COVID economic climate.

Although major economies are anticipated to recover to pre-pandemic levels during 2022, it’s likely that financial disruptions as a result of COVID-19 will continue for many years to come.

Overview of central banks

Central banks appear to be taking on a more optimistic tone this month as the reopening of non-essential businesses continues to support economic growth.

Reserve Bank of Australia

There was little to report during the Reserve Bank of Australia’s (RBA) June monetary policy meeting. The bank confirmed that interest rates would not be hiked until inflation meets their target rate of between 2-3%. Low-interest rates will also continue until Australian employment figures see a substantial improvement. That being said, unemployment levels have been gradually reducing and are expected to drop to 5% by the end of 2021. Australia’s labour market is unlikely to see significant growth until around 2024, and it is unlikely that interest rates will not be touched until this time.

The RBA also noted the rise in coronavirus cases across Australia but expected these figures to diminish as more people receive their COVID-19 vaccines. The outlook for Australia’s economic recovery from COVID-19 was revised, with more robust growth now expected. The RBA forecast that Australia’s gross domestic product (GDP) will see 4.75% growth this year and 3.5% in 2022.

European Central Bank

The European Central Bank‘s (ECB) latest monetary policy meeting took place on 10th June 2021 and appeared to echo sentiments from their meeting last April. Thus, interest rates were left untouched, and the Pandemic Emergency Purchase Programme (PEPP) also remains at EUR 1.85 trillion, and quantitative easing purchases will continue at EUR 20 billion per month.

The meeting maintained an optimistic tone with the bloc’s GDP set to accelerate faster than anticipated. As a result, the ECB now forecastsEurope’s GDP will grow 4.6% in 2021 compared to the 4.0% previously projected. Moreover, in 2022 it is thought that Europe’s GDP will grow 4.7% compared to the previously anticipated 4.1% and 2.1% in 2023 compared to 2.1%.

ECB board member Fabio Panetta stated that the ECB should maintain its flexibility on emergency bond purchases throughout the coronavirus crisis. Mr Panetta said that the PEPP has demonstrated the advantages of flexible monetary policies during adverse financial conditions and that the policy has served the bloc well. The ECB board member also highlighted that whilst the impact of the coronavirus pandemic on Europe is improving; there are set to be ongoing difficulties. It was argued that cutting the pace of asset purchases too soon would encourage a tightening of financing conditions and trigger higher purchases later.

Mr Panetta’s comments conflict with fellow ECB Executive Board members Isabel Schnabel and Bundesbank President Jens Weidmann, both of whom are against retaining the PEPP’s flexibility in the long term.

Bank of Canada

The Bank of Canada (BoC) reduced their bond purchases from CAD 4 billion a week to CAD 3 billion a week, which caused the Canadian dollar (CAD) to rally against its key currency competitors.

Additionally, the BoC stated that they would raise interest rates earlier than expected, from 2023 to 2022. Interest rates are currently being held at 0.25%, with quantitative easing kept at CAD 3 billion a week.

The BoC acknowledged that COVID-19 cases continue to fall across many countries and that coronavirus vaccine levels are helping boost economic activity and growth. The US’ strong economic recovery was also noted as well as the economic rebound taking place across Europe.

Federal Reserve

The Federal Reserve’s recent monetary policy meeting saw a significant rise in the number of members opting for earlier interest rate hikes. June’s meeting saw seven members propose for interest rates to increase from 2022, compared to just four members back in March 2021. The proposals kickstarted a rise in bond yields and provided a more bullish outlook for the US economy in the short term.

Quantitative easing will remain at USD 120 billion per month, and a technical adjustment was made to the interest rate on excess reserves (IOER) to 15bps from 10bps.

US banks are also prominent news today, following a rise in US stocks. Morgan Stanley, JPMorgan Chase, and Goldman Sachs are all trading higher following a rise in dividends yesterday after approval from the Federal Reserve.