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Banking Law and Climate Change: Key Legal Issues

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How do climate change policies intersect with banking supervisory law to ensure the safety and soundness of financial systems in the face of evolving environmental risks?

The views expressed in this interview are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

Image courtesy of interviewee. October 17, 2024

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This video outlines the role of banking supervisory agencies in relation to climate change and its impacts on financial stability. It emphasizes the importance of integrating climate risk into banking regulation and governance. The discussion addresses how supervisory agencies can help protect financial stability while adhering to their mandates, focusing on their ability to enforce regulations that consider climate risks without overstepping into fiscal responsibilities, such as providing financial aid for natural disasters.

The paper highlights the necessity for banks to consider climate change in their governance structures, risk management, and business strategies. It also mentions the evolving international standards that increasingly demand banks to integrate sustainability and climate considerations into their operations. The significance of fiduciary duties of bank boards is discussed, particularly in the context of managing risks and seizing opportunities related to climate change.

Furthermore, the text points out the different approaches to regulation taken in various jurisdictions, with some implementing binding regulations and others opting for guidance. There's also recognition of the need for collaboration among banks, policymakers, and stakeholders to enhance understanding and action regarding climate risks.

The conclusion stresses the need for continued dialogue and research to effectively incorporate climate risks into banking practices, ensuring the safety and soundness of the financial system while recognizing the shared interests of various stakeholders.

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Here are five key points from the video:

1. **Role of Banking Supervisory Agencies**: The video emphasizes the critical role that banking supervisory agencies play in addressing climate change in relation to financial stability. The agencies have a mandate to protect financial stability and must consider how climate change impacts financial assets.

2. **Integration of Climate Risks**: Banking boards are responsible for integrating climate risks into their business strategy, governance structure, and risk management processes. This is seen as essential for ensuring the financial soundness of institutions amid growing climate-related challenges.

3. **Duties and Responsibilities of Bank Boards**: The paper discusses the fiduciary duties of bank board members, including their responsibilities to manage climate risks and explore opportunities associated with climate change. It suggests that these duties evolve alongside the increasing understanding of climate risks.

4. **Diverse Regulatory Approaches**: The video outlines that different jurisdictions have varied approaches toward integrating climate considerations into banking regulations, with some adopting binding regulations while others issue non-binding guidance. This illustrates a spectrum of regulatory responses to climate change across the globe.

5. **Complementarity of Interests**: The paper asserts that the interests of shareholders and stakeholders are not always in conflict regarding climate action. There are examples of shareholder engagement around climate issues, suggesting that banks can align their financial strategies with broader environmental goals without compromising financial stability. The need for further conversation and research in this evolving area is also highlighted.

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Here are the key quotes extracted from the video, which highlight the main ideas regarding climate change and its intersection with banking law and financial regulation:

1. **Importance of Climate Change**: "Climate change is a macroeconomically critical area for the world and for the MF bank."

2. **Role of Supervisory Agencies**: "Supervisory agencies are in charge of financial stability. Their mandate is to protect financial stability."

3. **Banking Supervisory Agencies and Climate Change**: "...what's the role of banking supervisory agencies when it comes to climate change? How do they address climate change?"

4. **Impact on Financial Assets**: "As long as climate change has an impact on the value of the financial assets, [...] this might have an impact on the balance sheet of the banks."

5. **Risk Management**: "The financial regulator has a clear legal basis to react in connection with this particular topic. For example, it should consider what is the overall governance structure, the risk management, the business strategy, and how do they cater for climate change."

6. **Regulatory Approaches**: "We can see a great variety of approaches [...] establishing stress testing disclosure requirements."

7. **Corporate Governance and Climate Considerations**: "We believe that best practices on corporate governance as related to banks are comprehensive enough to cater for climate considerations."

8. **Fiduciary Responsibilities**: "Now, the OECD corporate governance principles [...] include a new chapter on sustainability and resilience, which lays out the actual fiduciary responsibilities of boards with regards to climate."

9. **Responsibility of Bank Boards**: "Bank boards have the ultimate responsibility for the business strategy and financial soundness governance structure and the risk management of the institutions."

10. **Intertemporal Nature of Climate Change**: "Climate change also raises different complexities, right? Because it has some intertemporal nature."

11. **Implications for Board Members**: "How the fiduciary duties of bank board members [...] can actually support or create implications for this role."

12. **Duty of Care and Opportunities**: "Opportunities can also be part of the duty of care that is expected from the bank board members."

13. **Shared Interest in Safety and Soundness**: "The safety and soundness of the banks is the shared interest for all stakeholders."

14. **Role of Duty of Loyalty**: "To what extent do you expect from duty of loyalty to be a legal basis for actions for the board [...] to reallocate capital to low carbon activities?"

15. **Complementarities of Stakeholder Interests**: "There are growing number of examples where shareholders [...] are putting pressure on bank boards to do more on climate change."

16. **Mandate of Banking Supervisory Agencies**: "Banking supervisory agencies can pursue climate change policies, not overstepping into other mandates."

17. **Need for Further Research**: "There is need for further research... how climate risks can be incorporated."

These quotes reflect the importance of integrating climate risk into the governance and regulatory framework of banking institutions, emphasizing the need for oversight, best practices in corporate governance, and the evolving role of supervisory agencies in addressing climate change.

X-TIMESTAMP-MAP=LOCAL:00:00:00.000,MPEGTS:90000

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Climate change is a macroeconomically, critical area

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for, for the world and for the MF bank.

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Supervisory agencies, are in charge

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of financial stability.

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They're mandate that it is to protect financial stability.

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Uh, and so financial stability is

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macroeconomically relevant.

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So for us, the question is, as lawyers, as banking lawyers,

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what's the role of, banking supervisory agencies,

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when it comes to, climate change?

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How do they address, climate change?

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So our paper looks at intersection between climate change

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and banking law,

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and looking at what is the mandate of, of, of,

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banking supervisory agencies.

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And now their mandate is conducive

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to address climate change.

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What's their role? What are the limitations,

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what they can do, what they should do

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with respect to, to climate change?

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As long as climate change has, has an impact on the value

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of the financial assets, as we, as we see when they are hit,

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for example, for per China tornado,

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this might have an impact on the balance sheet of the banks,

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and therefore it is, it is in the purview

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of the financial supervisor to take actions,

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to the extent that climate change has consequences on the

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soundness of the central bank, of the banks,

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the financial regulator has clear legal basis

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to react in connection with this particular topic.

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For example, it should consider

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what is the overall governance structure,

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the risk management, the business strategy,

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and how do they cater for, for, climate change.

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Furthermore, they can issue financial

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regulation in these regards.

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This financial regulation can be

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binding, can be non-binding.

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It will be, possibly some guidance.

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And the scope might vary in several jurisdictions.

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For example, in some jurisdictions, they have gone through,

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through establishing stress testing disclosure requirements.

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The scenario analysis, what it is key from the legal point

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of view is to clearly establish what is the nature

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of this regulation, if it is binding, not binding.

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And we have seen several approaches among the, the,

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the different constituencies.

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For example, in some jurisdictions,

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they have established capital adequacy.

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This is a case of Brazil.

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In other jurisdictions,

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they have established simply guidance

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that is not binding regulation.

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So we can see a great of, of approaches.

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We believe that best practices on corporate governance

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as related to banks, are comprehensive enough to cater for,

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climate considerations.

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I think that this was even the case

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before revisions to Basel core principles

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and the OEC, the, corporate governance principles.

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But we see

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that there are now specific references introduced into these

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international standards for the integration of climate,

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considerations within different time horizons.

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Uh, for instance, now,

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the OECD corporate governance principles now include a,

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a new chapter on sustainability

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and resilience, which lays out the actual fiduciary

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responsibilities of boards with regards to climate.

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And, it also makes recommendations on the complex

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relationship between, shareholders

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and stakeholders on such, central issues.

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The first key principle from our perspective is driving from

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international standards, is

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that bank boards have the ultimate responsibility

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for the business strategy

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and financial sounders governance structure

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and the risk management of the institutions.

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Building on this at the conclusion is bank port are also

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responsible to integrate climate risk considerations into

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these, these, these areas.

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What we are facing is a unique challenge,

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because while the idea is straightforward,

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climate change also raises different complexities, right?

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Because it has some intertemporal nature.

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You have different stakeholders involved, shareholders,

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depositors creditors, investors, public in,

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in general environment climate.

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So basically you have different constituencies.

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So actually, I think that one of the key questions

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that we discussed in the paper is,

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how the fiduciary duties of, banks board members,

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as we understand under corporate law, can actually support

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or, create implications for this,

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for this, for this role.

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I think in case of DT of care, the situation was easier

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because DT of care is a dynamic concept,

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and it's evolving, understanding on the basis of

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what is required in terms of diligence requirements.

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I think that with the growing expectations on, the, the,

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the, the, the, the, the growing understanding on the impact

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of climate risks

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and the, proliferation of regulatory instruments

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that require actually bank's management

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to take this into account, I think

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that there is a strong case to see that this, this is,

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this is natural, in respect of climate risks.

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I think that the, the, the, the different point

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that we discussed was,

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how opportunities can also be part of the duty of care

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that is expected from the, from the bank,

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board members.

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I think that we come to the same conclusion,

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but I think that possibly the accountability

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of board members with respect to, taking

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or extracting, exploiting opportunities could be different

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than their, their, their, their management of, of risks.

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Uh, due to have loyalty is a bit of a different topic.

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We have to, to recognize

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because there are different governance

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models around the world.

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And, as we said, like, the wider range

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of stakeholders and different layers of banking regulation,

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corporate laws, I think it, it creates, it creates a bit

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of a different environment to assess, duty of,

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loyalty.

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Uh, but again, I think that it was, easy for us

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to conclude that the safety

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and soundness of the banks is the shared

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interest for all stakeholders.

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So in case there is a foreseeable risks to the, to the,

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to the safety and soundness of the banks,

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different co corporate governance models actually converge

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on, on, on this, on this topic.

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Uh, the interesting question is to

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what extent do you expect from duty of loyalty

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to be a legal basis for actions for the board, the board

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to take decisions to reallocate, for instance, capital

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to low carbon, activities?

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Uh, of course there are different models as we discussed,

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but I think that the key point is,

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these different models actually are not necessarily an

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impediment for the boards, to, to reallocate capital.

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So long as that they consider

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that this is within the in line with,

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with their respective governance models, maybe it is a bit

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of a wrong step to start a discussion

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that there is always a conflict

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between shareholders' interests

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and the, the, the, the other stakeholders interests.

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Because we are seeing, actually, there are growing number

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of examples where shareholders through proxy voting

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or shareholder engagement are putting pressure on bank

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boards to do more on corporate, on, on climate change.

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So I think, maybe we can

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at the same time focus on the complementarities instead of,

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without, of course overlooking the,

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the potential, trade-offs.

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But I think that there are also complementarities there.

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And I think that in, in, in one of the contribution

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that the, the paper, made is we, we discussed,

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various legal, I mean sta

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or contractual arrangements, that jurisdictions can use

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to, to further support these, duties of the board,

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to, to take into account climate considerations in

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their, in their respective, work

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By sticking to their core mandate

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that banking supervisory agencies can pursue climate change

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policies, not overstepping into other mandates.

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So if you think about natural disasters

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or hurricanes, providing financial aid is a fiscal role.

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It's not a role for banking supervisory agencies providing

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subsidies to green industries.

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It's not a, it's not a responsibility

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of banking supervisory agencies as a fiscal dimension.

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While it is by basically, you know,

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protecting financial stability

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and making sure

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that banks incorporate climate risks into their gov,

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corporate governance into their processes, that's where

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the role of, of,

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banking supervisor agency comes into play.

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Uh, this is also an evolving area,

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and as you say, I think, you know, there are,

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there is need for further research.

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Our goal is here to really initiate a conversation

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with our member countries, with,

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with the public officials,

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with academics, with policy makers.

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And there needs to be a broader understanding about,

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you know, how climate at risks, can be incorporated,

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about taxonomies,

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about corporate governance aspects, and banking.

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Supervisory agencies can play a role,

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particularly if they stick to their core mandate,

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which is safety and soundness of the financial system.

Integrating Climate Change into Banking Supervision

00:00:00 - Climate change is a macroeconomically, critical area for, for the world and for the MF bank. Supervisory agencies, are in charge of financial stability. They're mandate that it is to protect financial stability. and so financial stability is macroeconomically relevant. So for us, the question is, as lawyers, as banking lawyers, what's the role of, banking supervisory agencies, when it comes to, climate change? How do they address, climate change? So our paper looks at intersection between climate change and banking law, and looking at what is the mandate of, of, of,

00:00:37 - And now their mandate is conducive to address climate change. What's their role? What are the limitations, what they can do, what they should do with respect to, to climate change? As long as climate change has, has an impact on the value of the financial assets, as we, as we see when they are hit, for example, for per China tornado, this might have an impact on the balance sheet of the banks, and therefore it is, it is in the purview of the financial supervisor to take actions,

00:01:09 - soundness of the central bank, of the banks, the financial regulator has clear legal basis to react in connection with this particular topic. For example, it should consider what is the overall governance structure, the risk management, the business strategy, and how do they cater for, for, climate change. Furthermore, they can issue financial regulation in these regards.

Regulatory Approaches to Climate Risk in Banking

00:01:38 - binding, can be non-binding. It will be, possibly some guidance. And the scope might vary in several jurisdictions. For example, in some jurisdictions, they have gone through, through establishing stress testing disclosure requirements. The scenario analysis, what it is key from the legal point of view is to clearly establish what is the nature of this regulation, if it is binding, not binding. And we have seen several approaches among the, the, the different constituencies. For example, in some jurisdictions,

00:02:09 - This is a case of Brazil. In other jurisdictions, they have established simply guidance that is not binding regulation. So we can see a great of, of approaches. We believe that best practices on corporate governance as related to banks, are comprehensive enough to cater for, climate considerations. I think that this was even the case before revisions to Basel core principles and the OEC, the, corporate governance principles. But we see that there are now specific references introduced into these

00:02:44 - considerations within different time horizons. for instance, now, the OECD corporate governance principles now include a, a new chapter on sustainability and resilience, which lays out the actual fiduciary responsibilities of boards with regards to climate. And, it also makes recommendations on the complex relationship between, shareholders and stakeholders on such, central issues. The first key principle from our perspective is driving from

Integrating Climate Risk into Banking Governance

00:03:15 - that bank boards have the ultimate responsibility for the business strategy and financial sounders governance structure and the risk management of the institutions. Building on this at the conclusion is bank port are also responsible to integrate climate risk considerations into these, these, these areas. What we are facing is a unique challenge, because while the idea is straightforward, climate change also raises different complexities, right? Because it has some intertemporal nature.

00:03:47 - depositors creditors, investors, public in, in general environment climate. So basically you have different constituencies. So actually, I think that one of the key questions that we discussed in the paper is, how the fiduciary duties of, banks board members, as we understand under corporate law, can actually support or, create implications for this, for this, for this role. I think in case of DT of care, the situation was easier

00:04:18 - and it's evolving, understanding on the basis of what is required in terms of diligence requirements. I think that with the growing expectations on, the, the, the, the, the, the, the growing understanding on the impact of climate risks and the, proliferation of regulatory instruments that require actually bank's management to take this into account, I think that there is a strong case to see that this, this is, this is natural, in respect of climate risks.

Exploring Board Duty: Balancing Opportunities and Loyalty in Banking

00:04:47 - that we discussed was, how opportunities can also be part of the duty of care that is expected from the, from the bank, board members. I think that we come to the same conclusion, but I think that possibly the accountability of board members with respect to, taking or extracting, exploiting opportunities could be different than their, their, their, their management of, of risks. due to have loyalty is a bit of a different topic.

00:05:18 - because there are different governance models around the world. And, as we said, like, the wider range of stakeholders and different layers of banking regulation, corporate laws, I think it, it creates, it creates a bit of a different environment to assess, duty of, loyalty. but again, I think that it was, easy for us to conclude that the safety and soundness of the banks is the shared interest for all stakeholders. So in case there is a foreseeable risks to the, to the, to the safety and soundness of the banks,

00:05:52 - on, on, on this, on this topic. the interesting question is to what extent do you expect from duty of loyalty to be a legal basis for actions for the board, the board to take decisions to reallocate, for instance, capital to low carbon, activities? of course there are different models as we discussed, but I think that the key point is, these different models actually are not necessarily an impediment for the boards, to, to reallocate capital.

Balancing Interests: Shareholders, Stakeholders, and Climate Change Governance

00:06:21 - that this is within the in line with, with their respective governance models, maybe it is a bit of a wrong step to start a discussion that there is always a conflict between shareholders' interests and the, the, the, the other stakeholders interests. Because we are seeing, actually, there are growing number of examples where shareholders through proxy voting or shareholder engagement are putting pressure on bank boards to do more on corporate, on, on climate change.

00:06:54 - at the same time focus on the complementarities instead of, without, of course overlooking the, the potential, trade-offs. But I think that there are also complementarities there. And I think that in, in, in one of the contribution that the, the paper, made is we, we discussed, various legal, I mean sta or contractual arrangements, that jurisdictions can use to, to further support these, duties of the board, to, to take into account climate considerations in

00:07:23 - By sticking to their core mandate that banking supervisory agencies can pursue climate change policies, not overstepping into other mandates. So if you think about natural disasters or hurricanes, providing financial aid is a fiscal role. It's not a role for banking supervisory agencies providing subsidies to green industries. It's not a, it's not a responsibility of banking supervisory agencies as a fiscal dimension. While it is by basically, you know, protecting financial stability

Incorporating Climate Risks into Banking Governance

00:07:53 - that banks incorporate climate risks into their gov, corporate governance into their processes, that's where the role of, of, banking supervisor agency comes into play. this is also an evolving area, and as you say, I think, you know, there are, there is need for further research. Our goal is here to really initiate a conversation with our member countries, with, with the public officials, with academics, with policy makers. And there needs to be a broader understanding about, you know, how climate at risks, can be incorporated,

00:08:35 - about corporate governance aspects, and banking. Supervisory agencies can play a role, particularly if they stick to their core mandate, which is safety and soundness of the financial system.

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