The European Central Bank (ECB) published a letter that highlights the work done on addressing climate change risks and sets out the roadmap for the upcoming initiatives. As part of its action plan, in 2022, ECB plans to announce details of how it will introduce disclosure requirements for private-sector assets as an additional eligibility criterion or as a basis for a differentiated treatment for collateral and asset purchases. ECB also plans to assess how to further adjust the framework guiding its corporate bond purchases to incorporate climate change criteria and conduct full supervisory review of banks' risk management and disclosure practices. ECB emphasizes that further analysis is needed as a matter of priority, notably in the context of the European Banking Authority (EBA) mandate to report on whether and how regulatory capital requirements should reflect sustainability considerations. In a separate development, the ECB Banking Supervision published feedback on the comments and suggestions raised by the European Parliament (also known as EP) in its latest “Resolution on Banking Union—Annual Report 2020,” which was published in October 2021.
The ECB Banking Supervision provided feedback on the following key topics:
- Potential cliff-edge effects. ECB Banking Supervision is carefully monitoring the impact of the COVID-19 pandemic on banks’ capital trajectories, including potential cliff-edge effects stemming from the end of moratoria. It has communicated that it will allow banks to operate below the level of their Pillar 2 Guidance and the combined buffer requirement until at least end-2022 without automatically triggering supervisory actions.
- Credit risk. ECB Banking Supervision shares the European Parliament’s views and wishes to highlight that credit risk management and the reduction of non-performing loans will continue to be one of its key priorities. ECB Banking Supervision is stepping up its efforts to monitor the increasing risk posed by banks’ exposure to highly indebted borrowers and to foster banks’ adherence to its guidance on leveraged finance. Moreover, in line with the Resolution, ECB Banking Supervision is working together with the national competent authorities within the Single Supervisory Mechanism to promote the harmonized implementation of Article 500 of the Capital Requirements Regulation (CRR), which allows for some adjustments for massive disposals of non-performing loan portfolios.
- IFRS 9 application. ECB Banking Supervision shares the concerns mentioned in the Resolution and believes that the high degree of heterogeneity in approaches to applying IFRS 9 impedes the comparability of prudential ratios among significant institutions and the effectiveness of prudential supervision. The Resolution calls on ECB Banking Supervision to take measures to ensure the consistent application of reporting standards across institutions in the Banking Union. The latest IFRS 9 benchmarking exercises showed that certain good practices are being applied across an increasing number of European banks. Although this convergence of practices is a step toward a more consistent application of reporting standards, some issues still require scrutiny.
- Climate and environmental risks. In 2022, the Banking Supervision will carry out a thematic review of institutions’ climate and environmental risk management practices as well as a stress test on climate-related risks. The results of the two exercises will be included in the Supervisory Review and Evaluation Process (SREP), mainly in a qualitative manner. At the same time, ECB Banking Supervision is updating its dedicated SREP methodology so that climate and environmental risks will eventually influence banks’ Pillar 2 capital requirements.
- Post-Brexit regulatory environment. To assess the progress made by significant banks to reach their post-Brexit target operating models, the Banking Supervision has carried out horizontal monitoring exercises complemented by bank-specific follow-ups. In parallel, the Banking Supervision launched a horizontal review to assess the booking models of the newly established European Union subsidiaries of international banking groups, with the key objective of banks being operationally self-standing and thus not overly reliant on group entities outside the European Union. In line with the Resolution, the Banking Supervision fully supports further legislative initiatives to mitigate the risks of regulatory fragmentation in the European Union.
- Basel III implementation and beyond. The Banking Supervision fully shares views of the European Parliament and supports the full, timely, and faithful implementation of the final elements of the Basel III reforms in the European Union. In this context, the Banking Supervision welcomes publication of the European Commission legislative proposal that allows European Union to move forward with the adoption of the Basel III package. Beyond the Basel III implementation, the European Commission proposal also introduces a number of additional positive elements, which will enhance the current prudential framework and increase consistency of the Single Rulebook.
Keywords: Europe, EU, Banking, Climate Change Risk, ESG, Disclosures, Credit Risk, Pillar 2, IFRS 9, Basel, CRR, SREP, Stress Testing, Regulatory Capital, Brexit, European Parliament, Sustainable Finance, ECB
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