The Bank of England has recently strengthened its commitment to climate risk management by updating its collateral framework, particularly focusing on residential mortgage assets. These updates, aimed at reflecting climate risks, not only protect the Bank’s balance sheet but also encourage a green shift in commercial banks’ lending practices. Experts, however, argue that complementary government policies are essential to ensure fair outcomes, particularly for vulnerable groups.
The Bank of England’s collateral framework determines the assets commercial banks can use to borrow, setting terms to reflect asset risks. By adjusting the criteria to account for climate-related risks, the Bank has introduced measures with the potential to influence lending decisions and support the UK’s transition to a low-carbon economy. Three key changes include:
•Energy Efficiency for Buy-to-Let Mortgages: Buy-to-let mortgages now require an Energy Performance Certificate (EPC) rating of at least ‘E’ to qualify as collateral.
•Energy Price Shock Haircuts for Owner-Occupied Mortgages: The Bank now assigns larger haircuts for properties with low EPC ratings, reflecting their heightened exposure to energy price shocks.
•Flood Risk Haircuts for All Residential Mortgages: Properties in flood-prone areas are assigned larger haircuts, using climate projections based on the IPCC’s extreme climate scenario.
Driving Greener Lending
By aligning lending criteria with environmental standards, the Bank’s framework indirectly promotes a greener housing sector. The framework’s stricter requirements for energy efficiency and flood resilience could lead to a preference for energy-efficient homes, encouraging retrofitting and discouraging construction in flood-prone areas. This could also lead to improved lending terms for properties with higher EPC ratings, steering the market towards more sustainable practices.
The Need for Government Action
Experts, including Irene Claeys, Ram Suresh Kumar, and David Barmes, argue that while these measures help mitigate climate risks, they may also have unintended consequences for lower-income homeowners. They call for government support through grants and low-interest loans to help affected households make necessary upgrades. Furthermore, they emphasize the importance of policy coordination to sustain the Flood Re program beyond 2039 and to ensure a fair, green transition.
The Bank’s efforts mark an important step toward recognizing climate risks in its financial framework, but experts see this as just the beginning. Broader government policy coordination is vital to protect vulnerable groups and support an equitable shift to a low-carbon economy.
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Reference: https://www.preventionweb.net/news/assessing-bank-englands-climate-risk-collateral-reforms-their-greening-potential
