July 29, 2021

UK announces climate stress test and mandatory TCFD roadmap

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By Emilio Demetriou-Jones From GBRR

The Bank of England has confirmed that its inaugural climate stress test will take place next year, as the UK’s chancellor announces a roadmap to make climate disclosure mandatory for banks by the end of next year.

Chancellor of the Exchequer Rishi Sunak confirmed in a statement before the UK’s parliament on 9 November that the UK will make Task Force on Climate-related Financial Disclosures (TCFD) aligned disclosures fully mandatory for financial institutions by end-2021.

The UK’s government taskforce for TCFD implementation published an interim report with a roadmap for mandatory disclosures on the same day.

According to the release, the UK government expects a “significant portion” of mandatory requirements to be in place by 2023 with complete adoption across the economy by 2025, marking a departure from the existing “comply or explain” approach to UK supervision.

The roadmap shows that banks, building societies and insurance companies are expected to disclose their climate-related financial risks and opportunities by end-2021.

“It is the most ambitious timetable that any major economy has done to date. In fact, it goes far beyond what was recommended by the taskforce,” said Sunak.

“We will be the first major economy – the first in the G20 – to mandate disclosures by 2025.”

Financial Conduct Authority head Nikhil Rathi told a City of London event on 9 November that implementing the TCFD recommendations in the UK is just the first step. “It must be complemented by more detailed climate and sustainability reporting standards that promote consistency and comparability,” he said.

The TCFD published voluntary climate-related financial disclosure guidelines in 2017, which are designed to provide companies a “structure and impetus” for disclosing this information in order to better inform financial markets and investors.

Elaine Keats, a partner at Linklaters in London, says Sunak’s statement reiterates the market view that investor appetite for sustainability projects is continuing to grow.

“Greater regulatory clarity will guide markets and protect the green agenda. Moving forward, regulators need to be mindful that too onerous a level of requirements can shift the pace of the growth,” Keats said.

BoE announces climate stress test

Bank of England (BoE) governor Andrew Bailey also announced that the central bank would carry out its first climate stress test exercise in June 2021.

Speaking at the same event as Rathi, Bailey said the exercise will explore three different climate scenarios, testing “different combinations of physical and transition risks” over a 30-year period.

In his speech, Bailey assured that the BoE would not use the results to adjust regulated firms’ capital buffers, but warned that banks should still be thinking about near-term capital requirements.

“Firms must assess how climate risks could impact their business and review whether additional capital needs to be held against this. Investments that look safe on a backward look may be existentially risky given climate risks. And investments that might have looked speculative in the past could look much safer in the context of a transition to net zero,” he said.

Bailey added that a lack of data is “not an excuse,” saying the central bank expects firms to “make reasonable judgements rather than defaulting to zero.”

The BoE announced plans for the climate stress test in 2019, and postponed it to address the difficulties presented by the covid-19 crisis.

Lorraine Johnston, counsel at Ashurst in London, said Governor Bailey’s speech was a “clear marker” that climate change is back on the BoE’s agenda and “not just a flight of fancy of his predecessor.”

“While there are no formal proposals announced in relation to the capital and prudential treatment of climate risk, the inference from the Governor is that this is something the banks should be considering,” she said.

Johnston also questioned whether the BoE’s “encouragement” could be formalised in the coming years. “The output of the climate stress tests – which have now been resumed – may pave the way for this,” she said.

Mick McAteer, a former Financial Conduct Authority director and founder of the not-for-profit policy and research group The Financial Inclusion Centre, said in a series of tweets that Bailey’s speech was positive, but questioned the role of regulators in making the financial system more sustainable.

“We cannot afford to rely on disclosure or regulators guiding/enabling financial markets to deliver the necessary, wholesale reform of our financial system so it is aligned with sustainability and social impact goals. Disclosure has never delivered,” McAteer said.

“Government must play a bigger role in funding sustainable, responsible and social impact activities (it is the most cost effective way). The BoE, PRA and FCA must regulate and enable private finance so it is aligned with socially responsible investing goals,” he added.

According to a Financial Inclusion Centre report published this year, the UK has one of the lowest levels of spending on research and development of the major economies ­– something it says is slowing the UK’s development.

“The dominant culture of short-termism and shareholder value in financial markets is at odds with the long-term approach needed for socially responsible investing,” the report said.

For more on this story go to: GBRR

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