Introducing the “green asset ratio”: EU banks to face new ESG disclosure requirements

The European Banking Authority has proposed new rules requiring the EU’s largest banks to provide detailed disclosures of how much of their portfolios contribute to climate change.

The EBA published draft implementing technical standards (ITS) on 1 March, which included the introduction of a new “green asset ratio” (GAR) measure, among other disclosures designed to facilitate comparability across institutions.

Under the GAR – not to be confused with GBRR’s sister publication – large EU financial institutions would have to disclose how many of the loans and advances, debt securities and equity instruments in their banking books are environmentally sustainable, in accordance with the definitions in the EU’s Taxonomy Regulation, as a portion of their total eligible exposures.

Banks would also need to provide accurate point-in-time information on the stock of loans, to show the level of alignment of their activities with the EU taxonomy, and on flows of their new lending, to demonstrate how they are transitioning towards sustainable economic activities.

The disclosures would also include details of how banks are adapting to new climate change circumstances, and how they are helping their counterparties with the transition.

In an opinion on the same day as the ITS, the EBA says that financial assets held by banks for trading purposes should be excluded from the calculation of the GAR. It argues “temporary nature” of such assets is less compatible with the nature of taxonomy-aligned activities, which it says should “substantially contribute to environmental objectives”.

It warns that if firms were to disclose climate alignment information for this type of “volatile investment,” it could lead to “undue ‘window-dressing’ practices as of the disclosure reference date, given their short-term nature”.

The opinion, issued in response to the European Commission’s call for advice published in September 2020, is designed to be read alongside the consultation.

The EBA says GAR disclosure will serve as a tool to show how institutions are embedding sustainability considerations in their risk management, business models and strategy, and their progress towards the goals laid out in the United Nations’ Paris Agreement.

The disclosure requirements would be applicable from June 2022 on an annual basis for the first year, and then biannually.

While the EU taxonomy does not cover non-EU exposures, the EBA suggests that banking groups with non-EU subsidiaries should identify lending and equity exposures to non-EU counterparties that pertain to the climate change-related sectors the taxonomy specifies.

Banks should then use proxies “to determine on a best effort basis the part of those exposures that are aligned with the EU taxonomy, and this information should be disclosed separately from the EU GAR with appropriate caveats,” it says.

That disclosure could be based on counterparties’ disclosures on the basis of international standards (such as the Task Force on Climate-related Financial Disclosures), the institutions’ own models and the classification of exposures, or on public data and proxies at aggregate sector level.

According to the Netherlands-based news publication NRC Handelsblad, the Dutch Banking Association (NVB) responded positively to the news of the GAR proposal, with a spokesperson saying it “wants to make the economy greener as quickly as possible and be transparent about it.”

But the association said it was “curious” about the GAR’s implementation. “Providing the data must be really simple and not create additional administrative burdens for the customers of banks,” it said.

The EBA also says firms should disclose their exposures to non-financial corporates  operating in sectors that “highly contribute” to climate change, as well as exposures towards fossil fuel counterparties and those that operate in other carbon-related sectors.

The disclosures should include information on the firm’s carbon emissions under Scope 3 of the Greenhouse Gas Protocol, which covers all indirect emissions occurring in a reporting entity’s value chain. However the EBA is proposing a two-year transitional period for the disclosure of that information, with a June 2024 implementation date. It says that until then, firms should still disclose information on their plans and potential methodology to implement the disclosures.

The consultation’s comment period will remain open until 1 June.

The new ITS are mandated under the CRR, which requires the EBA to specifying disclosure requirements of large institutions’ environmental, social and governance risks in a way that conveys “sufficiently comprehensive and comparable information for users of that information to assess the risk profile of institutions”.

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