DEVLHON Consulting

Introduction

The European Banking Authority (EBA) recently unveiled definitive information regarding the ESG Pillar 3[1]  (Environment, Social, Governance). This publication, issued in January 2022, presents the new Implementing Technical Standards (ITS) detailing the information to be provided on environmental, social, and governance risks. These standards complement the initial ITS project published in March 2021 and incorporate adjustments requested by banks during previous consultations. In this article, we will take a closer look at the key elements of these standards, including required quantitative and qualitative information, as well as the planned implementation timeline.

Main Developments and Implications of the ESG Pillar 3 Implementing Technical Standards

The final version of the Implementing Technical Standards (ITS) of Pillar 3 for environmental, social, and governance (ESG) risks published by the European Banking Authority (EBA) in January 2022 marks a significant milestone in European financial regulation. This publication results from an intense consultative process involving stakeholders from the banking sector (such as banks themselves, governments and public authorities, rating agencies, etc.) and reflects a concerted effort to integrate ESG considerations into the risk management framework of financial institutions.

 

One of the major developments is the introduction of new ratios, including the Green Asset Ratio (GAR) and the Banking Book Taxonomy Alignment Ratio (BTAR). These indicators are designed to measure the proportion of a bank’s assets aligned with the European taxonomy, thereby establishing a direct link to the EU’s sustainability objectives[2]. The BTAR allows for the consideration of banks’ exposures to entities not subject to the NFRD/CSRD[3], thus providing a more comprehensive view of banks’ sustainability engagement.

 

The final version of the ESG Pillar 3 ITS also presents simplifications and clarifications compared to the initial draft. For example, the number of tables providing quantitative information on transition risk has been reduced, and adjustments have been made to streamline and clarify the EBA’s expectations towards banks. These adjustments aim to make the requirements more understandable and easier to implement for financial institutions.

 

However, despite these positive developments, challenges remain, particularly regarding data collection. The need to gather information on entities not subject to the NFRD/CSRD poses technical and operational challenges for banks, often requiring the use of proxies or external data providers. Furthermore, the practical implementation of these new implementing technical standards will require significant efforts on the part of financial institutions to ensure that they are fully compliant and capable of meeting the new transparency requirements.

 

In conclusion, the new implementing technical standards of ESG Pillar 3 represent a major advancement in European financial regulation by integrating ESG considerations into banks’ risk management framework. As banks prepare to implement these new requirements, it is crucial that they actively work to overcome data collection challenges and integrate sustainability practices into their daily operations.

 

Implementation Timeline and Conclusion: Preparation for New ESG Pillar 3 Requirements

Implementation Timeline of ESG Pillar 3

 

The publication of the Implementing Technical Standards (ITS) of Pillar 3 ESG by the European Banking Authority (EBA) in January 2022 has set a precise timeline for the implementation of these new requirements. Banks are required to comply with these guidelines according to a well-defined schedule, representing a significant operational challenge for the European banking industry.

 

According to the established timeline, the first publication of Pillar 3 ESG by banks was scheduled for the first quarter of 2023, based on data as of December 31, 2022. This marks a significant step in the transparency of financial institutions regarding their exposures to environmental, social, and governance risks.

 

Additionally, the timeline stipulates that the calculation of the Green Asset Ratio (GAR) and the Banking Book Taxonomy Alignment Ratio (BTAR) must be performed in accordance with the technical standards published by the EBA. Information on the BTAR will apply from June 2024, aligned with the publication dates of the European Commission’s delegated acts related to the taxonomy.

 

Evolving Regulatory Framework

 

The EBA has emphasized that the information required from banks will be expanded as the European Commission’s delegated acts related to other environmental objectives are published. This ongoing regulatory evolution reflects the EU’s commitment to sustainability and the need to incorporate ESG considerations into the risk management framework of financial institutions.

 

Conclusion

 

The implementation of the ESG Pillar 3 implementing technical standards represents a major challenge for European banks, but also an opportunity to strengthen their commitment to sustainability and transparency. As financial institutions prepare to publish their first reports in accordance with the new requirements, it is essential that they invest in the systems and processes necessary to collect, analyze, and present the required data accurately and reliably.

 

Furthermore, banks must remain vigilant to future regulatory developments and adapt quickly to new requirements to remain compliant and competitive in the European market. By fully integrating ESG considerations into their risk management framework, financial institutions can significantly contribute to the transition to a more sustainable and resilient economy, while enhancing investor and public confidence in the financial sector.

 

 

[1] The three ESG pillars are:

 

Environmental: It concerns practices and policies related to natural resource management, carbon emissions reduction, biodiversity conservation, etc.

 

Social: It encompasses aspects related to employee relations, diversity and inclusion, working conditions, human rights, relations with local communities, etc.

 

Governance: It relates to a company’s governance structures, transparency of business practices, business ethics, risk management, executive compensation, etc.

 

[2] EU sustainability goals: Combatting climate change, Transitioning to a circular economy, Protecting biodiversity, Promoting social sustainability, Improving air and water quality, Promoting sustainable innovation.

 

[3] The NFRD (Non-Financial Reporting Directive) of the EU requires large companies to disclose data on their sustainability performance, including environmental, social, and governance (ESG) aspects.

 

The CSRD (Corporate Sustainability Reporting Directive) of the EU proposes to broaden and strengthen non-financial reporting requirements to promote a sustainable economy, replacing the NFRD.