The Bank of England has issued an urgent advisory to financial institutions, urging them to proactively address climate-related risks or risk incurring a significant decline in annual profits, potentially by 15%.
This prompt follows the release of the Bank’s Climate Biennial Exploratory Scenario, which assesses the financial repercussions of climate change on major UK banks and insurers.
Sam Woods, the Deputy Governor of the Bank, emphasized that climate risks will increasingly exert a consistent pressure on profitability for both banks and insurers if not managed appropriately. He stated, “Our analysis indicates that the overall loss rates reflect an annual profit impact in the range of 10-15%.”
Woods reassured that the financial burden associated with transitioning to a net-zero economy is manageable for these institutions if they act promptly and systematically, stating that the costs would be considerably less if addressed early on.
To achieve net-zero emissions, Woods pointed out that several sectors must fundamentally revise their business strategies: “Financial institutions have a vested interest in supporting clients who have credible plans to adapt, ultimately decreasing their exposure to sectors misaligned with net-zero objectives.”
Interestingly, he suggested that banks and insurers should continue providing financing to carbon-intensive industries to enable them to invest in necessary transitional changes. He cautioned against abruptly cutting off financing, as this could lead to broader economic repercussions, including increased energy costs reminiscent of current challenges.
Woods confirmed that the Bank will provide tailored feedback to participants regarding their strategies, highlighting several key focus areas:
– An increased need for data and understanding of clients’ existing emissions and their plans for transition, including examining intricate financial relationships to gauge underlying emissions.
– The importance of enhancing modeling capabilities and rigorously evaluating data and projections from external sources.
– Encouraging firms to strategically consider their responses to various climate policy scenarios and the potential implications of different approaches.