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How do you intend to manage financial risk from climate change? Initial plans are required by 15 October 2019.

26 June 2019
Jennifer Osoata

In April 2019, the PRA published Supervisory Statement SS3/19: Enhancing banks’ and insurers’ approaches to managing the financial risks from climate change.

This supervisory statement applies to all UK insurance and reinsurance firms and groups, banks, building societies and PRA designated investment firms.

Climate change and society’s response to it, present financial risks which are now becoming more apparent. The PRA’s view is that while firms are enhancing their approaches to managing financial risk from climate change, few firms are taking a strategic approach that considers how actions today affect future financial risks. Financial risk from climate change arises through two primary channels: physical and transition, which lead to increasing underwriting, reserving, credit or market risk for firms. Physical risks arise from increasing carbon dioxide emissions and may result in specific weather events such as heatwaves, floods or storms, and longer term shifts in the climate such as changes in precipitation, extreme weather variability, rising sea level and temperatures. Transitional risks arise from the process of adjusting towards a low carbon economy, eg reduced use of fossil fuels.

The PRA expects firms’ responses to the financial risks from climate change to be proportionate to the nature, scale, and complexity of their business. The PRA’s view is that, as a firm’s expertise develops, the firm’s approach to managing the financial risks from climate change will mature over time. The measurement and monitoring of these expectations are to be embedded into the PRA’s existing supervisory framework.

The expectations set out in SS3/19 take effect immediately. The first step for all firms is to delegate the responsibility for embedding the consideration of the financial risk from climate change to a Senior Management Function holder and notify the PRA by 15 October 2019. The next step will be to go through the requirements and start implementing processes or measures to meet them. The PRA has stated that it intends to publish more detailed expectations in due course.

The PRA’s current expectations concerning a firm’s strategic approach to managing the financial risk from climate change include how a firm:

  • embeds the consideration of the risk in their governance arrangements;
  • incorporates the risk into its existing risk management practice;
  • uses (long term) scenario analysis to inform strategy setting and risk assessment and identification; and
  • develops an approach to disclosure on the risks.