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55 (150) 2022

Finance

To what extent – and how quickly – has the financial service sector embraced ESG?

By Tomasz Barańczyk, partner, leader of ESG initiatives, PwC Polska
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Wherever one looks, it seems that uncertainty is constantly on the rise. Terrifying climate forecasts, labour unrest, the pandemic, the Russian invasion of Ukraine, geopolitical and economic instability. For the average person, burdened by uncertainty, making even the most trivial day-to-day decisions is becoming increasingly difficult. The business reality is no different, especially as many everyday issues have a bearing on the running of enterprises.

Let's look at climate issues. When you think of the financial industry, the chances that sustainability is the first thing that comes to mind are rather low. But this is changing.

Financial institutions started to shift priorities from shareholder to stakeholder as early as 2017, mainly in changing their governance models to include socially responsible behaviour. As the vast majority of customers increasingly want to live according to their conscience, ESG has entered the agendas of CEOs and CFOs in full force.

Pressure to adopt ESG rules, including diversity & inclusion policies, is reinforced by social media and instant public access to relevant industry information. Customer demands for institutions to behave in a way that is consistent with what they consider to be socially responsible are more apparent than ever before. The financial services industry is also involved in ESG, from the impact of climate change on the insurance industry through achieving climate neutrality, to the impact of fossil fuels and alternative energy sources on capital markets and the banking sector. The continued impact of years of inaction in these areas will have an increasingly negative impact on financial services worldwide.

It is clearly in the best interest of the industry to address ESG from the perspective of risk.

Implementing ESG practices is a complex undertaking. To be successful, non-financial reporting must be supported by technology and a variety of skills. These include a new type of risk management, strong data collection and analysis capabilities, and automation wherever possible so as to avoid creating excessive operational complexity. If the industry can start to answer these questions and use technology that’s ESG-compliant, market opportunities are available and essentially at hand.

PwC's research shows that almost 80% of the banks surveyed have already introduced sustainable finance elements into their business strategies and product offerings, but there are still many institutions that have not yet introduced sustainable finance elements in areas such as product pricing (86% of institutions have not introduced any ESG elements) and risk identification and assessment, stress-testing and the internal capital adequacy assessment process (ICAAP) process, where 71% of institutions have not introduced any ESG elements. Of the 14 institutions surveyed, only two do not currently include climate and environmental risks in their lending processes, but plan to introduce such a process in the near future. Most often, climate and environmental risks are taken into account in the lending process for selected industries or sectors. Interviews with banks indicate that these include the energy sector, mining, heavy industry and chemicals.

Meanwhile, the banking sector's ESG activity overlaps with the market's growing commitment to reducing its carbon footprint. Research conducted by PwC Polska shows that 60% of the companies surveyed still do not have a Net Zero strategy in line with SBTI (science-based targets initiative) requirements and over 20% want to be climate neutral. At the same time, 50% of companies are carrying out educational activities for employees to lead to lower emissions, and a further 20% are planning to do so. Somewhat worryingly, 50% of the companies surveyed do not require contractors to demonstrate a reduction in their own carbon footprint, although almost 40% plan to take this into account while signing contracts in the near future.

At the same time, the lack of or limited access to counterparty ESG data, low awareness of ESG factors and the lack of definitive and transparent regulation are among the key risks identified by banks regarding the requirement to incorporate ESG factors. The challenge facing the banking sector, assuming effective implementation of ESG initiatives, is to develop consistent interpretations of regulatory requirements across the industry. Harmonising energy performance certificate (EPC) requirements across the EU or making EPCs mandatory for every property, with a publicly available database is another step towards strengthening the role of ESG in companies.

The introduction of detailed ESG guidelines for companies listed on the Warsaw Stock Exchange, an industry database on ESG risks of bank clients, a certified assessment system and educational campaigns targeting banking clients are not the viewpoint of ESG theorists but clear indications of the way the industry is moving.

 

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If you think the economy is more important than the environment, try holding your breath while counting your money.” (Prof. Guy R. McPherson)

For years, we were taught that it is acceptable to sacrifice the environment for the greater good – the economy. That thinking has changed, however. We now know that the environment and the economy are two sides of the same coin. Humans are taking serious action, setting targets and making a number of ambitious commitments. According to the EU Strategy for Financing the Transition to a Sustainable Economy, Europe will need €350 billion in additional investment per year over this decade to meet its 2030 emissions-reduction target in energy systems alone, along with the €130 billion it will need for other environmental goals. The appetite for financing is huge and public funds are insufficient. Creating a green economy requires the alignment of all sources of finance, both public and private. In this regard, bonds and loans are the most renowned tools for transferring capital.