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    HKMA Publishes Climate Risk Policy Manual and Stress Test Results

    December 30, 2021

    The Hong Kong Monetary Authority (HKMA) published the Supervisory Policy Manual GS-1 on climate risk management. This policy module is intended to guide authorized institutions to build climate resilience by incorporating climate considerations into their governance, strategy, risk management, and disclosures. The policy module also sets out the approach and expectations of HKMA for reviewing climate risk management at authorized institutions. A twelve-month period to the implementation of this guidance implies that authorized institutions are expected to implement relevant measures by the end of 2022. HKMA also published the results of its pilot climate risk stress test. The results show that, under extreme scenarios, climate risks could potentially cause significant adverse impact on the banking sector and that banks need to take early action to manage these risks.

    In light of the increasing threats of climate risks to the financial sector, HKMA had launched the pilot climate risk stress test in January 2021. Participating banks assessed their climate risk exposures under three scenarios: one physical risk scenario involving a worsening climate situation and two scenarios envisaging orderly and disorderly transitions to a low-emission economy. Twenty-seven banks, including 20 major retail banks and seven branches of international banking groups, participated in the exercise. The climate risk stress test results showed that the extreme climate scenarios assumed in the exercise would lead to a material reduction in the participating banks’ profitability due to an upsurge in expected credit losses from their exposures directly affected by climate change: for example, residential mortgages and lending to high-emitting industries. The results also revealed that climate change could also the capital positions of banks. The capital adequacy ratio of the domestic systemically important authorized institutions, for instance, would drop by three percentage points on average over the five-year horizon under the disorderly transition scenario. Some parts of the banks’ operations would be affected by the more intense climate hazards under the physical risk scenario. However, the assessment indicated that the banking sector remained resilient to climate-related shocks, given the strong capital buffers built up by the banks over the years.

    In light of the climate risk stress test results, the participating banks have developed plans to strengthen their climate strategies and risk governance frameworks. Measures taken by the banks include the incorporation of a broader range of climate risk factors into the risk assessment frameworks and strategic allocation of additional resources to climate resilient activities, such as green financing and providing transition finance to support customer transition to low-emission business models. HKMA intends to undertake another climate risk stress test in two years.

    Keywords: Asia Pacific, Hong Kong, Banking, Climate Change Risk, ESG, Stress Testing, Supervisory Policy Manual, Disclosures, Basel, SPM GS-1, Scenario Analysis, Lending, Credit Risk, HKMA

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