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European Commission's new Regulatory Package: strengthening banks' resilience and better preparing for the future


1. Introduction

On 27 October 2021, the European Commission presented a Regulatory Package ("Package") aimed at adopting new rules on banking in the European Union. The Package will review the Capital Requirements for Banks Regulation I ("CRR"), the Capital Requirements for Banks Directive ("CRD IV") and contains additionally a separate legislative proposal amending the Capital Requirements Regulation in the area of resolution.

The Package consists of three parts with the following purposes:

 i. Implementing Basel III – strengthening resilience to economic shocks;

ii. Sustainability – contributing to the green transition;

iii. Stronger enforcement tools – ensuring sound management of EU banks and better protecting financial stability.

According to the European Commission, the proposed measures will not only make the banking sector more resilient but will also ensure that banking institutions take into account sustainability considerations, aiming at the ecological transition.

2. Context and content of the proposal

With specific regard to the rules contained in the Package on sustainability in banking, the Proposal aims at strengthening the resilience of the banking sector to environmental, social and corporate governance (ESG) risks, in line with the European Commission's Sustainable Financing Strategy of 6 July 2020.

In general, the Proposal introduces prudential regulation on how banking institutions assess and manage ESG risks, with the aim of ensuring that the markets can monitor the activity of banking institutions.

According to the Proposal to review the CRD IV, banking institutions should assess the alignment of their portfolios with the ambition of the European Union to become climate neutral by 2050, as well as avoid environmental degradation and biodiversity loss. In this regard, collective knowledge and awareness of ESG factors by the management body and the internal allocation of capital within banking institutions to address ESG risks will be key to driving change within each and every institution. It is noted, in this particular aspect, the introduction of the definition of ESG risks, in line with the European Banking Authority ("EBA") Report on ESG risk definition (see Article 4, points 52d to 52i, of the Draft CRR Revision).

In this regard, banking institutions must establish specific plans to address the risks arising, in the short, medium and long term, from the misalignment of their business model and strategy with relevant policy objectives of the European Union, included in the Paris Agreement, and the European Union's Objective 55 package.

Obligations are also introduced that aim to oblige banking institutions to be able to systematically identify, disclose and manage ESG risks within the scope of risk management, with a view to maintain their adequate resilience to the negative impacts of ESG factors.

The scope of these obligations includes periodic climate stress testing, thus prioritising environment-related risks, including risks arising from environmental degradation and biodiversity loss, and climate-related risks, considering their urgency and the particular relevance of the scenario analysis and stress testing for their assessment, both by supervisory authorities and banking institutions. Additionally, EBA will be empowered to develop a minimum benchmark set for the assessment of the impact of ESG risks on the financial stability of institutions, giving priority to the impact of environmental factors.

In addition, banks should be required to have robust governance models and internal processes for the integration of ESG risks and implement strategies approved by their governing bodies that consider not only the current but also the prospective impact of ESG factors on their business.

As regards rules on supervision, supervisory authorities will have to assess ESG risks as part of their periodic supervision of banking institutions. In addition, all banking institutions will also have to disclose their degree of exposure to ESG risks.

Nevertheless, in order to avoid undue administrative burden for smaller institutions, the disclosure rules, subject to a principle of proportionality, could be applied with less intensity to such smaller institutions.

3. Entry in force of the Package

It is proposed that, on the one hand, the text of the CRD IV Revision Proposal (see Article 3 of the CRD IV Revision Proposal) will be transposed by EU Member States and, on the other hand, as regards CRR, it will apply (see Article 2 of the CRR Revision Proposal) on 1 January 2025.

Paulo Câmara |

José Eduardo Oliveira |