The RBA’s work on bank’s climate risks

  • By Zilla Efrat

Reserve Bank of Australia Deputy Governor Guy Debelle outlined the latest work the RBA was doing to assess the climate risk to the Australian banking system.

Speaking at the virtual CFA Australia Investment Conference yesterday, he also warned that climate risks could result in foreign divestments in Australian assets.

Debelle explained the RBA had been doing work to assess the climate risk to the Australian banking system that complemented the Climate Vulnerability Assessment (CVA). Led by APRA with assistance from the RBA and Treasury, the CVA focuses on the climate risks of the five largest Australian banks.

“We have had a first attempt at doing a top-down risk assessment to provide preliminary estimates of the possible scale of risks climate change poses to banks' housing and business exposures,” he said of the RBA’s work.

“This is broadly similar to our approach to stress tests of banks' housing loan books, where we provide a top-down look that is complementary to APRA's granular assessment.

“The results of this exercise suggest that a small share of housing in regions most exposed to extreme weather could experience price falls that might subsequently result in credit losses. However, the overall losses for the financial system are likely manageable. Banks are also exposed to transition risks from their lending to emissions-intensive industries, but their portfolios appear to be less emissions intensive than the economy as a whole.”

Debelle said this was the RBA’s first look at this and it would continue to learn from this process and refine, adapt and improve our analysis.

“It is useful to examine climate risk from different angles because there is considerable uncertainty surrounding climate change and estimates of its impact,” he said.

“Similarly, the CVA is a necessary first attempt at analysing the climate risk of the banking system. APRA, the banks and the RBA are all learning as we go. We are aware of the challenges and limitations of the exercise. The results will be necessarily imperfect. But it is important not to let the perfect get in the way of the good.”

On potential foreign divestments, Debelle observed said: “Climate comes up in most conversations I have with foreign investors. This is a marked change from a few years ago. Australian companies with an international investor base experience the same, as do the government debt agencies.

“To date, these discussions have not led to any obvious change in investor appetite for Australian bonds or equity, with only a few small exceptions. One of these is when the Riksbank discontinued its investment in Queensland and WA state government paper a few years ago. There is a risk we will see more of these divestment decisions sooner rather than later.”

Debelle said investors would adjust their portfolios in response to climate risks. “Governments in other jurisdictions are implementing net zero policies. Both of these are effectively increasing the cost of emissions-intensive activities in Australia. So, irrespective of whether we think these adjustments are appropriate or fair, they are happening and we need to take account of that. The material risk is that these forces are going to intensify from here.”

Debelle added divestment raises the question as to whether change can be more effective from within, by influencing the approach of the entity you are investing in, or whether divestment is more effective.

“If it is the latter, it begs the question as to how the transition will be financed, particularly in the case of governments that will have to deal with both the costs of compensating those adversely affected directly by climate change as well as structural changes to the economy as it evolves.”