Financial Institutions Face Greater Risks of Climate Transformation
The European Insurance and Occupational Pensions Authority (EIOPA) released the climate stress test report of insurance and pension institutions for the first time. This report assumes that the implementation of climate policy is later than expected, which leads to the hasty transformation of green economy and the rapid increase of carbon emission price, so as to measure the impact on financial institutions. As a result, financial institutions face greater risks of climate transition.
A total of 187 insurance and pension institutions participated in the stress test, with total assets of €1.98 trillion, accounting for 65.3% of the market share. The main objects of the stress test are stocks and corporate bonds, while the fixed assets and commodities are less involved.
The stress test shows that the potential hypothetical environment will lead to 12.9% of the total assets’ loss of financial institutions, which is about €255 billion. However, the losses on the asset side and the gains on the liability side (the increase of risk-free interest rate makes liabilities decline) can offset each other to a certain extent, but the overall asset liability ratio will still decline by 2.9%.
ESG Performance in Stress Testing
From the stress test, almost all insurance and pension institutions have integrated ESG into their business processes, such as making a list of investment scope and adopting international sustainable investment principles. 35% of these financial institutions use external ESG ratings. However, nearly half of the financial institutions said that there were some difficulties in identifying and measuring sustainable investment.
In addition, nearly 90% of financial institutions will explain to investors how to incorporate ESG into investment decisions, and 38% of institutions will ask investors for their opinions on the application of ESG. In terms of ESG risk management, more than 60% of institutions have started to identify, assess and monitor ESG risks, and 40% have measured asset risks in environmental, social and corporate governance respectively.
EIOPA believes that the main difficulty of stress testing is that data is difficult to obtain. First, the climate data is constantly changing. Second, the behavior of financial institutions will also affect the whole market. Both of them interfere with the test results to some extent.