By any measure, R1-trillion is a substantial sum. Whether viewed through the lens of our national budget, economic sectors or individual wealth, it carries weight.
That’s roughly the size of loans systemically important national banks have extended to sectors vulnerable to the global energy transition, particularly in the energy and transport industries. To put it into perspective, it is more than a third of the banking industry’s R2.8-trillion corporate credit loan book.
It should not come as a surprise that a significant portion of the industry’s loan book is tied to fossil fuel sectors given SA’s historical reliance on coal in energy production. However, climate change is rapidly reshaping our world, yet our banks continue to navigate with outdated maps — specifically, the International Financial Reporting Standard 9 (or IFRS 9).
The rule, which became binding at the beginning of 2018, demands lenders to wear forward-looking glasses. No longer content with historical data, banks must, rightly so, look into the crystal ball of economic health.
Picture this: Eskom CEO Dan Marokane walks into a Standard Bank seeking a loan. Under IFRS 9, the bank doesn’t wait for Eskom to suffer payment hiccups. Instead, it sets money aside from day one to cover potential missed repayments. The IFRS 9’s magic rests on its crystal ball — an economic prognosis that considers future twists and turns.
The relatively new bookkeeping rule is the International Accounting Standards Board’s response to public criticism after the 2008 global financial crisis. The crisis exposed fatal flaws in the old regulations when undercapitalised banks had no reserves to cover bad loans, forcing taxpayers in Europe and the US to chip in with billions of dollars in bailouts.
This seismic shift from reactive risk management — as we saw with the collapse of African Bank largely because it failed to make appropriate provisions for expected losses from loans that might become unrecoverable — reverberated across boardrooms, requiring CFOs to recalibrate their assumptions, stress testing their loan portfolios against economic headwinds.
That said, IFRS 9, while progressive, lacks a critical dimension: climate risk. As temperatures rise, so do the odds of extreme weather events. Floods, droughts and wildfires disrupt economies, affecting banks’ clients: businesses and households alike. Similarly, tighter government restrictions on carbon emissions and accelerating technological advances will turn upside-down industries that are, for now, profiting handsomely at the fulcrum of the energy transition.
To be sure, this column is not calling for banks to stop funding Eskom, Sasol or sectors that are sensitive to energy transition, though that would help. It’s about pencilling in the profound impacts of climate change and the global energy transition in their expected credit loss assumptions, or ECL in finance parlance.
Yet, as the climate crisis intensifies, it’s clear that the financial sector is operating with a dangerous blind spot. Chronic and acute climate events — droughts, floods, cyclones — aren’t hypothetical events but present and unfolding realities that threaten financial and economic stability.
Take Nedbank for example. In its 2023 financial results, the lender set aside almost R10bn to ride out expected defaults from consumers and businesses choking under high interest rates, the elevated cost of living and load-shedding. There is no mention of climate change as a possible fourth scenario that should underpin its expected credit loss assumptions.
Such conservative estimates fail to capture the true scale of potential economic disruption. Climate change scenarios — both favourable and adverse — should be part of banks’ evaluation of economic changes. What if sea levels rise after than expected? What if extreme weather events become more frequent? These aren’t trivial questions. They go to at the heart of proactive risk management. Just as banks stress-test for economic downturns, they should stress-test for climate shocks. Crucially, they should communicate their climate risk assumptions, methodologies and the impact of these on expected credit losses.
Central banks have a role to play, as recommended by Pierre Monnin, a research fellow at the Council on Economic Policies, a global think-tank; and Ayanda Sikhosana and Kerschyl Singh, both macroprudential economists at the Reserve Bank. In the research, Transition and Systemic Risk in the SA Banking Sector, the authors said central banks should require lenders to hold more capital against financing that is exposed to climate risks.
As CEO of the Prudential Authority, Fundi Tshazibana wears the dual hat of vice-chair of the Network for Greening the Financial System, a grouping of more than 100 central banks working on climate change, can champion this cause.
The financial sector’s blind spot is no longer tenable. Climate change isn’t a distant threat — it’s knocking at our door. Financial institutions must lift the veil, acknowledge the risk and build capital buffers. Our financial stability may well depend on it.
Motsoeneng is Business Day deputy editor
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