The Bank of England has set out its first climate stress test for the UK’s top banks and insurers but have said the results will not currently be used to determine capital requirements.
The test will scrutinise the resilience of Britain’s financial system to stresses from a shift to a net zero-carbon economy as well as the impact of extreme weather.
“This is the first time we are testing both banks and insurers to allow us to capture interactions between them and understand the risks presented by climate change across the financial system,” the BoE said.
The test is based on three scenarios that span three decades: early action by governments globally to cut carbon emissions, action that is late, and taking no additional action.
The results are expected to be published by May 2022, the bank said, although this could come earlier if no second round of test submissions is needed.
“The end result will be more robust management of climate related financial risks across the sector,” Governor Andrew Bailey said.
For banks the stress test will focus on the credit risk associated with their banking book, and for insurers it will focus on changes in invested assets, reinsurance recoverables and insurance liabilities, including accepted reinsurance.
“It will stretch the time horizon over which the banks and insurers assess these risks and it will require them to build up their own scenario analysis capabilities, helping them to understand better how they are exposed under different potential climate pathways. The end result will be more robust management of climate related financial risks across the Sector,” Bailey added.
Last week the Governor has doubled down on promises to carry out policies to help the UK shift to a net zero economy. Earlier this year Chancellor Rishi Sunak changed the BoE’s mandate to require it to support the shift to a net zero economy by 2050. But Bailey warned it was not the financial regulators’ role to force that change.