APRA releases results of inaugural Climate Vulnerability Assessment

The Australian Prudential Regulation Authority (APRA) has published the aggregated findings of its first Climate Vulnerability Assessment (CVA) of Australia’s five largest banks.

Conducted over the past two years, the CVA saw ANZ, Commonwealth Bank, Macquarie Bank, National Australia Bank and Westpac model the estimated future financial impact of climate change on their businesses, as well as how they might respond to the resulting physical and transition risks. The CVA Information Paper released today sets out the key findings from this initiative. 

APRA Deputy Chair Helen Rowell said the results show that climate change may pose future financial challenges for both banks and their borrowers.

“The findings of APRA’s inaugural CVA provide valuable insights into how climate change may test the resilience of the banking system over coming years and decades, and how banks might react to manage those impacts.

“The results suggest that banks’ losses from their lending portfolios could rise in the medium- to-long-term as climate change and the global response to it unfolds. Although those impacts are not expected to cause severe stress to the banking system, climate change could lead to the banking sector being more vulnerable to future economic downturns,” Mrs Rowell said.

APRA undertook the CVA on behalf of the Council of Financial Regulators (CFR) to assess the potential future financial impacts of climate change, and to help banks, insurers, and superannuation trustees better understand and manage these risks.

The CVA required participating banks to model climate risk impacts using two internationally recognised scenarios developed by the Network for Greening the Financial System¹: the first represented a future with a continued increase in global emissions to 2050 and beyond, while the second explored a future with a rapid reduction in global emissions from 2030.

The CVA results suggest that climate risk impacts are likely to be concentrated in specific regions and industries. For example, mortgage lending losses were higher in northern Australia, while bank losses were higher from lending to business sectors that are more exposed to transition risks, such as mining, manufacturing and transport.

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.

Mrs Rowell said the CVA had proved a valuable exercise for both APRA and the participating banks.

“Despite the high profile of climate change, climate risk management and modelling remain emerging areas of expertise, in part due to uncertainty about how the risks will play out decades into the future, and how these risks are incorporated into financial models.

"By undertaking this exercise, participating banks have needed to develop new tools, techniques and data sources related to climate risk analysis. Differences in the modelling approaches and assumptions used by the banks, which produced a wide variation in results, also point to areas where further exploration and development is needed.

“This, however, is a good start and we urge all APRA-regulated entities to examine the CVA findings to see how they can leverage the insights to enhance their own climate risk analysis and management,” she said.

APRA will now consider how the experience gained from the CVA can be applied to other APRA-regulated industries and climate-related challenges.

Copies of the today’s information paper are available on APRA’s website at: Climate Vulnerability Assessment - November 2022.