EBA report: EBA PUTS PRESSURE ON THE INCLUSION OF ESG RISKS

The recently published report by the European Banking Authority (EBA) dealt with the question of how banks and investment firms should integrate environmental and social risks into their supervisory framework in the near future. The EBA is now calling for a faster integration of these risks into Pillar 1.

Environmental and social risks have been gaining in importance for some time and will change the risk landscape of the banking sector in the long term. These changes affect various risk categories such as credit risks, market risks and operational risks. In addition, environmental and social risks have the potential to impact both individual institutions and the stability of the financial system as a whole. The integration of these risks is therefore highly relevant for financial institutions.

The EBA's recently published report contains a series of short and long-term recommendations to better integrate environmental and social aspects into risk management. The proposed improvements aim to support the transition to a more sustainable economy while ensuring that the banking sector remains resilient.

Among other things, the EBA proposes short-term approaches to be implemented over the next three years. These include:

• The integration of environmental risks into stress test programs
• Greater consideration of environmental and social factors in external credit assessments
• The inclusion of environmental and social risks in due diligence requirements and in the valuation of real estate collateral
• A call for financial institutions to identify how environmental and social factors can trigger operational risk losses.
• The development of environmental concentration risk indicators as part of the supervisory reporting system.

In addition to short-term recommendations, the report also contains proposals for long-term implementation. For example, the EBA proposes a possible revision of Pillar 1 to take account of the increasing relevance of environmental and social risks. Among other things, this could include a mandatory scenario analysis. In the long term, changes to the supervisory formula based on internal ratings (IRB) are also conceivable in order to take better account of environmental risks. The report also proposes including environmental concentration risk indicators in Pillar 1.

Conclusion: The European Banking Authority is putting pressure on banks to incorporate environmental and social risks into their business practices. The EBA publishes short-term recommendations for the next three years, but also provides an outlook on possible long-term changes. One thing is certain: with the increasing relevance of environmental and social risks, adjustments to the minimum capital requirements (Pillar 1) are to be expected, with banks being made more obliged to deal with these risks.

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