G20 Green Finance Study Group: Enhancing Environmental Risk Assessment in Financial Decision-making 2017

The effective identification, pricing and management of risk is an essential feature of efficient and resilient financial markets. Physical and transition factors (including environmental externalities, trends and events) are resulting in a range of financial risks, with implications for both financial institutions and financial authorities, and are likely to increase in significance in the future.

The G20 Green Finance Study Group (GFSG or “Study Group”) aims to develop options “to enhance the ability of the financial system to mobilize private capital for green investments”. As recognized by G20 delegates in the Study Group’s first year, Environmental Risk Analysis (ERA) is an important and relevant cross-cutting topic that supports the GFSG’s overall strategic objective. ERA describes a portfolio of tools and methodologies that enable financial decision-makers to integrate environmental data into the decision-making process from the risk management and asset allocation perspective.

In 2016, the GFSG undertook a stocktake of environmental risk analysis activities in banking, bond markets, among institutional investors and insurance firms as well as financial authorities.The stocktake identified a wide range of international ERA practices. Activity by financial institutions to assess environmental risks has been under way for several decades, but this has been sporadic in nature, confined to specific financial subsectors and far from a mainstream practice. A small percentage of financial institutions currently employ ERA in their investment decision-making processes, hence, strong governance is needed to drive education, identify and obtain relevant data and build capacity within the financial system.

The nascent nature of many approaches and the financial significance of factors such as climate change, pollution and resource degradation led the GFSG to conclude in its 2016 Synthesis Report that “the GFSG/G20 could encourage further dialogue on environmental and financial risk, to facilitate knowledge exchange on methodologies for environmental risk analysis and management within the financial sector.”

As a result, in 2017 the GFSG is deepening its approach to how ERA is advancing across five areas of work: i) Understanding practice via case studies; ii) Categorizing existing ERA practices; iii) A desk review evaluation of effectiveness through case analysis; iv) Identifying barriers to effective usage of ERA methodologies; and v) developing options to promote wider adoption of ERA practices. The key lessons and findings from market and policy experts are captured in the ERA Background Paper.

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