Jul 10, 2019

Environmental Finance Interview: Australia’s Regulator talks TCFD

Environmental Finance Interview: Australia’s Regulator talks TCFD

Geoff Summerhayes of the Australian Prudential Regulation Authority (APRA) tells Elena K. Johansson how it will deal with climate risk and integrate the Task Force on Climate-related Financial Disclosures (TCFD) guidelines.

EF: How do you support the adoption of the TCFD framework in Australia?

GS: The TCFD provides the best framework for disclosing these [climate-related] risks, and we encourage firms to do so.

The implementation of the TCFD has been rapid and very welcome. As it relates to strategy, governance, risk management, there has been very pleasing progress. The gap is on the analysis, scenario and stress testing dimension.

There was an imminent legal opinion by senior counsel Noel Hutley and barrister Sebastian Hartford-Davis which was on directors’ duties, as it relates to climate change under the Corporations Act.

They provided an opinion, which is not binding, but it indicates the direction, of course, that if director’s fail to assess climate risk — given that it is material, foreseeable and actionable — then they could be derelict in their duties, as it relates to their obligations under the Corporations Act and found to be legally liable for that.

A speech [from the Australian Securities and Investments Commission’s (ASIC) John Price] and a report [by ASIC on climate risk disclosure] made it very clear that there is an expectation from the disclosure regulator, which is ASIC, that firms should be disclosing climate risk and they should be adopting the TCFD framework for that.

We have stopped short of mandating it [TCFD], and we are not advocating mandating it. The reason we are not doing that at this point is because some of the tools, such as modelling that I spoke about earlier, are not yet fully developed as they could be.

But that is only one dimension of the TCFD. We absolutely expect firms to be having conversations around governance, strategy, risk management and analysis. And if they are not, we want to know why not.

But until we solve the disclosure and data issue, it is going to be difficult for us to make appropriately informed decisions because we are making it on less-than-adequate information. There is an urgency about addressing the climate data deficit.

EF: The Japanese regulator said it would align with a 2°C climate scenario if one should be agreed internationally. What about Australia?

GS: Investors and investor activism have been a huge driving force in getting firms to change their behaviour. Here in Australia, large banks and large insurers, particularly the publicly-listed ones, have advanced enormously on disclosure in the last couple of years.

In part, because of regulatory intervention, but also because of activist shareholder groups and investors who have demanded frankly from the firms to disclose these risks in greater detail than they have been doing.

Australia will absolutely comply with any global regulatory shift that occurs. Australia is an active member of the International Association of Insurance Supervisors. Australia’s [central bank the] Reserve Bank of Australia is an active member and participant in the Network for Greening the Financial System. We are active participants in the Basel Committee on Banking

EF: So, if a 2°C scenario was decided at an international level, you would align?

GS: That would be very helpful, and we would look at it very seriously. As it relates to APRA regulated firms, we have a risk management standard called CPS 220 (cross-industry prudential standard number 220) and that deals with the risk management framework of why firms are required to govern and manage risks. And that current prudential standard, we have said, on certain terms, captures climate-related financial risks.

We have said very strongly that climate risk needs to be managed and is covered by that prudential standard, which firms are already obliged to comply with. And we expect firms to govern, risk mitigate, scenario-test and plan in the context of that standard.

We have been clear that instead of developing new standards, climate risk is captured. So we expect firms to scenario test for credit scenarios, for insurance scenarios, for investment scenarios — and climate is influencing all of those scenarios. By default, it is expected that they test for climate.

EF: How has APRA implemented the assessment of climate risks into its ongoing supervisory activities?

GS: We have flagged to the market that, going forward, we are shifting from an awareness phase
to a supervisory action phase.

What does that mean? We are now in our supervisory engagements with firms, going to want to understand how the firm is governing this risk, how it is building that risk into its strategy, into its pricing of its products, and into the capital resilience of the organisation. We are doing this as part of our normal supervisory activities. So, we have completed a phase of raising awareness on this risk, and we are now actively monitoring this risk in our supervisory interactions with firms. That started this year.

Geoff Summerhayes is executive board member at Australian Prudential Regulation Authority, member of the executive committee of the International Association of Insurance Supervisors (IAIS) and chair of the Sustainable Insurance Forum, established under the UN Environment Programme.