Council of Financial Regulators Climate Change Activity Stocktake Paper 2023

Prepared by CFR Climate Working Group

This stocktake paper outlines the recent activities and planned work of the Council of Financial Regulators Climate Working Group in relation to the financial risks and opportunities for Australia posed by climate change.

Key messages

Australia's financial system will play an integral role in achieving the Government's climate and sustainability goals, including the transition to net zero. Through the CFR Climate Working Group, Australian financial system regulators are coordinating on a set of priorities to enhance the ability of financial market participants to manage the financial risks and identify the opportunities associated with adapting to climate change. These include: improving the understanding of the impact of climate change on the Australian economy and financial system; improving the transparency and consistency of sustainability-related information; contributing to the development of an Australian Sustainable Finance Taxonomy; and continuing Australia's international engagement on sustainable finance.

Key developments

Over the last year, the CFR agencies have progressed a range of important activities, both aligned to the priorities of the Working Group outlined in the 2022 Stocktake paper and in response to new developments. A key achievement was the completion of the banking Climate Vulnerability Assessment (CVA) for banks, a multi-year exercise measuring the potential impact of physical and transition risks to the five largest banks and broader financial system using scenario analysis.

Significant progress was also made on climate-related financial disclosures, with Treasury completing two consultations on policy considerations to support the implementation and sequencing of standardised, internationally‑aligned requirements for disclosing climate‑related financial risks and opportunities in Australia. This international alignment is supported by the release of the final International Sustainability Standards Board (ISSB) standards on the general requirements for disclosure of sustainability-related financial information (IFRS S1) and climate-related disclosures (IFRS S2).

The CFR Climate Working Group has also played a key role in supporting the development of a sustainable taxonomy for Australia, by providing oversight for the initial phase of an Australian Sustainable Finance Taxonomy in partnership with industry via the Australian Sustainable Finance Institute (ASFI).

Much of the work executed by the CFR aligns with the Government's upcoming Sustainable Finance Strategy, which encompasses a range of measures to improve transparency, deepen Australia's green finance markets, and take up sustainable finance opportunities. The CFR agencies will continue to support a range of priorities that will be proposed in the Strategy.

Background

The Council of Financial Regulators Climate Working Group was established in 2017. Consistent with their mandates for financial stability and market efficiency and integrity, the Working Group provides a forum for APRA, ASIC, RBA and Treasury to consider and coordinate actions to enhance the ability of financial market participants to manage the financial risks and identify the opportunities associated with climate change. The last update from the Working Group was provided to the CFR in September 2022.

Summary of activities in 2022/2023

Regulators, shareholders, customers and broader society increasingly expect that financial institutions proactively address climate risks and embrace mechanisms to enhance transparency and comparability of climate-related data and information. The Working Group identified three priority areas for 2022/2023:

1. Complete the banking CVA and continue analysis of climate-risk exposures for both financial institutions and the financial system more broadly.

   APRA, on behalf the CFR, released the results of the inaugural Climate Vulnerability Assessment for Australia's five largest banks in November 2022. The results showed that participating banks' losses from lending portfolios could rise in the medium- to-long-term as climate risk and the global response to it unfolds. Although those impacts are not expected to cause severe stress to the banking system, the analysis found that climate risk impacts are likely to be more concentrated in specific regions or industries, and that climate change could lead to the banking sector being more vulnerable to future economic downturns. In response to these potential losses, the banks predicted that they would adjust their risk appetites and lending practices, such as cutting back on high loan-to-valuation lending and reducing their exposure to higher risk regions and industries. The RBA conducted complementary analysis on Australian banks using a top-down stress testing model, with broadly similar results to the banking CVA, and discussed the lessons from these early exercises in the June 2023 RBA Bulletin, Climate Change and Financial Risks.

2. Continue strengthening the foundations needed to facilitate high-quality and comparable climate-related financial disclosure.

   Treasury commenced initial consultation policy considerations for climate disclosure in late 2022. Feedback indicated almost universal support for alignment with the ISSB's work on climate disclosure standards, subject to appropriate Australian-specific modifications and phase-in periods. In late June 2023, Treasury commenced a second consultation process, seeking feedback on a detailed design proposal for mandatory climate-related financial disclosure requirements, commencing for annual reporting periods starting on or after 1 July 2024 for the largest listed and unlisted companies, with others phased-in over time. Final policy decisions on the climate disclosure reforms are a matter for Government.

   ASIC continued to focus on lifting sustainability-related disclosure and governance standards by listed companies and other issuers of financial products, following the release of Information Sheet 271: How to avoid greenwashing when offering or promoting sustainability-related products.

   On 10 May 2023, ASIC published a report of greenwashing interventions between 1 July 2022 and 31 March 2023 (Report 763). Report 763 summarises measures taken by ASIC to address each identified instance of potential greenwashing by a listed company, managed fund or superannuation fund.

3. Oversee ASFI's work on the taxonomy project and examine the broader implications of sustainable finance taxonomies, including for investment flows.

   The CFR agencies have taken an active role in supporting the development of a sustainable finance taxonomy for Australia, including providing oversight of ASFI's taxonomy development body. The taxonomy will provide common agreed standards and definitions about the sustainability characteristics of different investments. Credible information will provide an important input to investment decision making.

In June 2023, APRA Executive Director Dr Sean Carmody was appointed chair of the Working Group, replacing outgoing APRA Deputy Chair Helen Rowell.

Priorities for 2023/2024

The working group has identified four priority areas for 2023/2024. These priorities are aligned to the Government's Sustainable Finance Strategy, with specific reference to the work of the CFR agencies. These priorities will also support the private sector to allocate capital in a manner aligned with Australia's sustainable finance objectives. CFR member agencies will continue to coordinate to ensure adequate resources are made available to deliver on the priorities of the Working Group.

First, continue exploring the impact of climate change on the Australian economy and financial system via a range of analysis and modelling activities. Treasury has enhanced its climate modelling capability, and is continuing to deepen its understanding of the macroeconomic impact of climate change and related policy responses. The RBA is also taking steps to integrate the implications of physical and transition risks into its internal analysis and modelling work. The agencies are also supporting and conducting complementary analysis for the next iteration of APRA's CVA, examining access and affordability issues in general insurance. Related to this, CFR agencies will continue to examine challenges associated with the availability of data needed to assess climate-related financial risks and opportunities.

Second, improve the transparency and consistency of sustainability-related information to support the efficient operation of markets and effective allocation of capital. ASIC will continue to support market integrity through proactive supervision and enforcement of governance, transparency and disclosure standards in relation to sustainable finance. This includes expanding its surveillance and enforcement activities to support ASIC priorities in targeting misleading sustainability-related and ESG claims. APRA intends to undertake its second iteration of its voluntary climate risk self-assessment survey, the outcomes of which will be considered as part of its ongoing supervisory activities. Further consultation work to implement the Government's commitment to the mandatory climate disclosure reform is ongoing, with a view for these requirements to commence for large listed and unlisted entities on 1 July 2024. In addition, each agency will continue to explore the scope for its own climate-related disclosures, in line with Government requirements.

Third, contribute to the development of an Australian Sustainable Finance Taxonomy to help expand the flow of investment toward the activities and priorities critical to Australia's transformation. Building on their taxonomy scoping project, over the next year ASFI will develop a preliminary taxonomy screening criteria, focusing on climate mitigation objectives for key economic sectors. The CFR will play a central role in the governance of the initial development phase of the taxonomy, providing oversight of the project, having regard to the Government's policy objectives and developments in regulatory practice and priorities. Over the next year Treasury will undertake work to develop permanent governance arrangements for the taxonomy.

Fourth, continue Australia's international engagement on sustainable finance. ASIC will continue to support international developments of best-practice sustainability disclosure and assurance through its engagements with the ISSB and International Organisation of Securities Commission (IOSCO). This work is aligned to Treasury's priority to support the development of consistent global standards, and support efforts to maximise interoperability of sustainable finance frameworks across different jurisdictions. Both the RBA and APRA continue to be active members of the Network for Greening the Financial System (NGFS), supporting work that includes the development of common climate scenarios, frameworks for nature-related financial risks and supervisory guidance. APRA's Sean Carmody was appointed to the NGFS steering committee in 2023 for a two-year term. APRA also continues its climate engagements with the International Association of Insurance Supervisors (IAIS) while the RBA and APRA are active members of the Basel Committee on Banking Supervision (BCBS). The Working Group also supports the work of the Financial Stability Board (FSB), which is implementing a roadmap for addressing climate-related financial risks, as well as the G20 Sustainable Finance Working Group, which is also implementing a roadmap supportive of the consistency and interoperability of sustainable finance frameworks.