At the beginning of 2022, the European Central Bank assessed the climate resilience of 104 banks in the eurozone. What implications can this study have for the European real estate sector?
Real estate is a sector that depends on large amounts of financing. The European real estate ecosystem is highly dependent on access to credit. Commercial banks are therefore major players in this market, which in turn depend on the European Central Bank (ECB) for their internal policies. Since the announcement of its first climate strategy in July 2021, the ECB has been asserting its environmental ambitions, notably by testing the resilience of eurozone banks to climate risks.
The involvement of banks in the consideration of climate risks is quite recent. In 2021, the ECB announced a « climate change action plan ». It includes the development of new indicators on green financial instruments, the carbon footprint of financial companies and their exposure to climate risks.
How can these recent ECB positions impact on the European real estate industry?
Assessing the climate risk sensitivity of national banks
« Euro area banks must urgently step up efforts to measure and manage climate risk, closing the current data gaps and adopting good practices that are already present in the sector »
Statement by Andrea Enria, Chair of the ECB’s Supervisory Board, following the results of the climate stress test
Each year the ECB conducts stress tests in accordance with the Capital Requirements Directive. At the beginning of 2022, a prudential stress test for climate risks was conducted on 104 commercial banks in the euro area. This exercise, which was designed to educate managers, provided information on the following three aspects.
The first element assessed was the banks’ capacity to resist climate risks. The test revealed that almost 60% of banks do not have a climate resilience testing system. More generally, most respondents do not integrate climate risks into their credit risk models. Only 20% of banks take climate risks into account when granting loans.
The dependence of banks on high-carbon sectors was also estimated. The results show that almost two-thirds of the revenue banks receive from non-financial companies comes from high-emitting sectors. The carbon emission scopes considered are broad: scope 1, 2 and 3.
Finally, this prudential stress test allowed the modelling of different transition scenarios over several time horizons. Two cases were studied: the short term (3 years) to measure the banks’ response to a possible increase in carbon (credit risk and market risk), and the long term (30 years), to determine how banks deal with the transition risk in obtaining credit for their customers. The physical risks studied in both scenarios were limited to the following risks: drought, heat wave and flooding. 41 banks were studied. In the short-term disorderly transition scenario, credit and market losses amount to around EUR 70 billion in aggregate terms. These results are underestimated, partly because of the lack of available data and the rudimentary assessment of climate factors.
What are the consequences for the real estate sector?
This stress test was mainly intended to be educational for bank managers. The results nevertheless show a lack of consideration for climate risks. The ECB has announced in its climate strategy that it will impose common minimum standards on banks for the integration of climate risks into their rating and credit assessment systems by the end of 2024. It is therefore likely that soon these new requirements will condition access to credit and financing for European banks, and that detailed reporting on climate risks will be required, particularly from real estate players.
