Green initiative: Bank of England

In June 2020, the Bank of England published a report disclosing its climate-related financial risks across all its operations, including how it was managing them. It was the first time that any central bank had disclosed climate-related risks associated with its monetary policy portfolio. It is likely to prove significant for both the BoE’s central banking peers and for the wider financial sector. 

Many senior economic policy-makers now agree that understanding how specific economic activities relate to climate change is a necessity for greening the global economy. The information that comes from disclosures, they argue, gives governments, investors and consumers the ability to make choices that will influence carbon emissions. The UK central bank’s disclosure was an attempt to put those principles into practice. 

Sarah Breeden, the BoE executive director who leads its climate change-related activities, says the report was “a necessary step for transparency as a public body which has designated climate change as a priority”. By publishing the report, Breeden says, the central bank aimed to show it was “holding ourselves to the same high standards as we hold the firms we regulate”.

Three months earlier, the Banque de France had disclosed climate-related risks on its non-policy portfolio, work that BoE officials acknowledge helped them. But the BoE’s disclosure was more wide-ranging, using the framework created by the Task Force on Climate-related Financial Disclosures (TCFD) framework. Assessing the climate-related risks of all the BoE’s portfolios was a complex goal that took considerable co-ordination. 

“The main takeaway I have from our experience producing the report is the importance of getting buy-in from the top at the start,” Breeden tells Central Banking. “This came easily for us, and we had wide support from the bank’s governors and court, the BoE’s governing body.” Mark Carney, governor until March 2020, and his successor, Andrew Bailey, have both seen disclosure as an important task.

In autumn 2019, the climate hub team began a series of events with their fellow officials across the BoE by pooling their knowledge to build a picture of what needed doing. The central bank selected three external companies to collaborate with. The firms used their own proprietary models, which combined asset analysis with simulations of the effects of possible climate scenarios.

“To do this well, there was a lot of interaction between the Bank [of England] analysts and the data providers – to really think through the methodology and adjust it where needed,” says one official. “I don’t think it was a matter of taking anything off the shelf.” When different companies’ metrics differed widely, the BoE team went back to the external firms and tried to work out why this was the case. 

No excuse for inaction

“Going through this process has given us first-hand experience of the challenges wider industry faces in making climate disclosures, such as data gaps and identifying robust metrics,” says Breeden. 

“However, imperfection is not an excuse for inaction. So we went ahead and used the latest data and techniques available, while highlighting the challenges associated with them in the report.”

The BoE encourages the firms it regulates to think about what metrics they want to look at to understand the risks on their balance sheet, says one official from the central bank. The BoE adopted the same approach to analysing its own risks. “We put out the metrics that we thought best capture the risk on our balance sheet as we can capture it for the time being.”

“This is the kind of area where you really need to be willing to push forward and broaden the range of analytical approaches,” says a BoE official who worked on the project the BoE climate hub. Examples of this, the official says, included publishing these forward-looking metrics and a breakdown of a portfolio’s sectoral emissions profile. Both central banks and private financial firms have good reasons to stick with existing methods, rather than experiment, this official notes: “But we were trying to lead by example and show that you can do this.” 

Taxonomies: a “tricky issue”

One key issue for central banks, regulators and financial institutions is creating environmental taxonomies for financial assets. Taxonomies aim to classify assets by how much they create positive ‘green’ or negative ‘brown’ environmental externalities.

“They’re not straightforward at all to set up – it’s a tricky issue,” says one official. “What we encourage the firms we regulate to do is to think about what is the metric you want to look at, to understand the risk on your balance sheet, for example.” This was the approach the BoE adopted, the official says.

The disclosure report was also an opportunity for ‘learning by doing’, which was a major benefit, BoE officials tell Central Banking. Putting together the first climate disclosure, one official says, has allowed the BoE to engage deeply with the firms it hires to assess data.

The report concentrates on where climate-related risk is located in the BoE’s balance sheet, but does not attempt to precisely quantify its financial impact. Officials say an important part of future disclosure reports will be developing methods to quantify and publish data on climate risk. 

Many actors within the financial sector are now publishing useful information on how they are tackling climate disclosures, BoE officials say. The International Financial Reporting Standards Foundation’s work on disclosure is particularly important, they say. Contacts with other central banks, and with the private sector through the UK’s Climate Financial Risk Forum, were also very useful. However, officials putting the framework into action found that, to some extent, they were exploring unknown territory. 

“At the moment, the TCFD framework is very high-level, rather than giving guidance on what should be in your disclosure,” says one official. “As we’re moving towards trying to make the data that comes out of disclosure more consistent, more comparable and more decision-useful, I think you have to move towards firmer guidance.”

The BoE is trying to disseminate the lessons it learned to other central banks through the Network for Greening the Financial Sector and bilateral contacts. “My hope is that others benefit from these lessons as they make their own disclosures – and, indeed, that those disclosures prompt different risk management decisions now,” says Breeden. 

The UK central bank has committed itself to publishing a disclosure of its climate-related risks every year. It also published the report’s disclosure metrics, aiming to be transparent about its methods, and to create an example of best practice. When the report was finished, the BoE asked its directors to sign off on each part of the report affecting their field of responsibility. It also asked them to take ownership of future work on climate-related risks in that field. The report set a new standard for central bank transparency on climate risk, and it also prompted considerable reflection within the BoE itself.

“Disclosure is about much more than just transparency,” says Breeden. It is also strongly affected by how central banks and private-sector firms manage their risks, and the different scenarios that might materialise, officials say. “The analysis in the report helped prompt discussions over our climate risk management across the organisation, including at senior levels,” adds Breeden.

Policy-makers have been calling for several years for financial institutions to disclose their climate-related risks. But this theoretical approval has not been matched by a lot of practical action. The BoE’s move represents the biggest step so far towards full disclosure of climate risks by any central bank. The Bank of England has not solved all the many problems involved in identifying and quantifying climate-related risks. But, by starting to tackle those problems, it has shown both financial firms and other central banks that climate-related risks can be disclosed. 

The Central Banking Awards were written by Christopher Jeffery, Daniel Hinge, Dan Hardie, Rachael King, Victor Mendez-Barreira, William Towning and Alice Shen