Thailand's banks and financial sector must act urgently to improve climate risk management in their operations as regulators start to conduct climate risk stress tests across the region, according to PwC.
Led by the central banks of Singapore and Malaysia, regulators in Southeast Asia are tightening the screws on the financial industry by developing regulations and issuing guidelines about environmental risk management. Still, the recent climate risk stress test (CST) conducted by the European Central Bank (ECB) found most banks have not adequately incorporated climate risks into their credit models.
There is growing pressure on organisations in all sectors to incorporate environmental, social and governance (ESG) practices into their business models, and this emphasises the importance of climate risk management, according to Su Areewronges, consulting partner with PwC Thailand.
"ESG reporting is the world's best opportunity for businesses and regulators to work together to tighten the regulatory requirements in the private sector and find the best solutions to the climate crisis," she said.
"By incorporating climate risks into their existing risk management frameworks, banks will be able to assess the risks more accurately."
In 2021, the Bank of Thailand announced an improvement to its regulations on the supervisory review process, which incorporates ESG into risk analysis of funds. The changes suggest the central bank is looking to incorporate ESG into risk management for banks in the near future.
"Regulators in our neighbouring countries are already applying CST to the banking sector," said Ms Su. "The tests include assessing the risk factors associated with greenhouse gas emissions and the impact of different global heating scenarios on our future.
"This means Thai banks have to take the management of climate risks more seriously, including deciding which industries and businesses they loan money to."
The ECB found European banks have a climate risk stress testing framework in place, but lack the relevant data needed to respond and adopt good practices.
The ECB's CST exercise in July this year identified several challenges, among them data scarcity, complex internal reporting, lack of common disclosure requirements and underdeveloped climate risk frameworks.
The Thai banking sector will have to adjust its business strategy to adapt to the new Bank of Thailand regulations, said Ms Su. This includes conducting ESG risk assessments of their clients, using the findings to adjust interest rates for clients with low ESG risks, and issuing green loans.
More banks are starting to release these types of products and engage with clients on ESG risk management methods to obtain data for more in-depth, accurate analyses, she said.
KEY RECOMMENDATIONS
The PwC publication "Risk and Regulatory Outlook 2022" is a comprehensive guide to help banks in Southeast Asia prepare for climate stress testing. Among its key recommendations:
1. Build data capabilities for climate and environment data: Other than collecting credit risk metrics, banks should start compiling climate data (such as temperature and water levels) and greenhouse gas emissions for projection and statistical analysis in the future. It's important to classify data by industry, business location and real estate collateral to streamline data use.
2. Collaborate with clients for high-quality ESG disclosures: Engage clients through questionnaires and study the data. Questions should focus on carbon footprint levels as well as adaptation plans. The collected data could be used to assess climate risk and resource allocation decisions.
3. Adopt a strategic stance on sustainable financing: Banks with a clear sustainability strategy and purpose can respond better to ESG regulatory changes, including CST requirements.
4. Integrate climate risk across existing risk management frameworks: Include climate risks in frameworks such as market, credit and liquidity to improve the analysis. This will enable businesses to manage their operations more effectively.
5. Upskill risk management teams on climate risk fundamentals: For a stronger response to the regulatory changes and climate risks, banks must encourage their teams to understand that the climate crisis is also a risk that affects other risk types.
6. Update existing governance structures to address the climate crisis as a new risk type: This involves updating existing risk models, analyses and stress testing frameworks to reflect climate risks and using the results to verify various assumptions that are used to assess the impact. This can better enhance the accuracy of the predictions.
7. Use CST to manage portfolios: When banks can identify which portfolios are prone to climate risk, they'll be able to make smarter business decisions in managing their portfolios, such as assessing risk versus return and improving capital control of funds for banks that bear the risk.
Ms Su said there is still insufficient collection of historical environmental data, which is a challenge for businesses in Thailand and Southeast Asia. This means there are gaps in estimated loss predictions that don't cover every environmental risk.
Consequently, she said, the private sector must consider which data to use for managing ESG risk in the future, while the public sector should support data collection to drive the development of ESG practices across all sectors.
