What Changed
- Frank Elderson delivered a keynote speech at the ECB-Bank of England Conference highlighting that seven of nine planetary boundaries have been transgressed.
- Data revealed that significant supervised banks have earned over 70% of interest income from carbon-intensive sectors consistently since 2022.
- Scenario analyses cover all material climate and nature risk drivers in ICAAPs in only around 15% of cases, prompting calls for adapted banking models.
# Managing Climate and Nature Risks in Banking: Regulatory Insights from the European Central Bank
## Background
On 14 October 2026, Frank Elderson, Member of the Executive Board and Vice-Chair of the Supervisory Board of the European Central Bank (ECB), delivered a keynote address at the joint ECB-Bank of England Conference held in Frankfurt am Main, Germany. The conference brought together multi-disciplinary experts representing 18 countries across three continents to address the evolving financial and stability challenges posed by environmental degradation.
The central theme of the address focused on managing climate and nature (C&N) risks within an increasingly non-linear world marked by radical uncertainty. Planetary degradation has reached critical thresholds, with indicators revealing that seven of the nine recognized planetary boundaries have already been transgressed. Furthermore, findings from the Intergovernmental Panel on Climate Change (IPCC) conclude with high confidence that continued global warming will cause further permafrost thaw, releasing additional carbon into the atmosphere. Under adverse projections, nature's own secondary emissions—resulting from thawing permafrost or widespread wildfires—could contribute as much as an additional 0.6°C of global warming. These physical realities create severe, systemic implications for financial institutions, banking supervision, and capital management frameworks across the European Union and internationally.
## Categorising Climate and Nature Risks: Known Knowns vs. Known Unknowns
To establish a structured approach for supervisory oversight and institutional risk management, the address categorises climate and nature risks into two distinct analytical frameworks:
1. **Known Knowns**: This category encompasses measurable, quantifiable historical data and current empirical impacts. These include observed physical asset destruction, documented extreme weather events, historical regulatory adjustments, and direct financial losses already recorded on balance sheets.
2. **Known Unknowns**: This domain represents complex, non-linear physical dynamics where fundamental drivers are recognized, but precise timing, magnitude, or mathematical probabilities cannot be predicted with certainty. Key examples include ecological tipping points—such as the potential dieback of the Amazon rainforest or the collapse of the Atlantic Meridional Overturning Circulation (AMOC)—as well as compound events and severe multi-system disruptions across transgressed planetary boundaries.
Because traditional financial modeling relies heavily on historical data, standard methodologies struggle to capture the non-linear, compounding nature of 'known unknowns.' Consequently, supervisory authorities stress that financial institutions must evolve their analytical frameworks beyond linear historical extrapolations.
## Current Banking Practices and Model Limitations
Despite growing regulatory attention, substantial operational gaps persist in how financial institutions incorporate climate and nature risks into their core risk management processes. Data presented at the conference indicates that since 2022, the average share of interest income earned from carbon-intensive sectors by significant banks supervised by the ECB has remained consistently above 70%. This high exposure underscores the ongoing structural vulnerability of major European credit institutions to transition and physical risk shocks.
Furthermore, current industry practices regarding capital planning and risk assessments remain narrowly focused. Climate stress tests and scenario analyses currently cover all risk drivers that supervised banks themselves deem material in their internal capital adequacy assessment process (ICAAP) in only around 15% of cases.
Supervisory observations highlight critical limitations in conventional climate scenario models, including those developed by the Network for Greening the Financial System (NGFS) and IPCC frameworks:
- **Exclusion of Non-Linearities**: Standard modeling tools frequently assume linear transitions and gradual macroeconomic adjustments, failing to reflect severe, abrupt tipping points.
- **Underestimation of Compound Risks**: Models often analyze individual risk factors in isolation, neglecting interconnected feedback loops across multiple transgressed planetary boundaries.
- **Model Tailoring Needs**: Supervised institutions must actively adapt off-the-shelf climate scenarios to account for model limitations, extreme stress conditions, and non-linear economic transmission channels rather than relying solely on unadjusted baseline outputs.
## Practical Implications for Supervised Institutions
For financial institutions, regulatory guidance and supervisory observations signal an imperative to modernize risk management and capital evaluation infrastructure. Supervised entities face supervisory expectations to:
- **Comprehensive ICAAP Integration**: Expand internal capital adequacy frameworks to systematically cover all material climate and nature risk drivers, raising current industry practice above the observed 15% threshold.
- **Refining Scenario Analysis**: Adjust climate stress-testing methodologies to incorporate extreme conditions, non-linearities, and secondary nature-based feedback loops.
- **Sectoral Exposure Strategy**: Actively monitor and manage balance sheet concentrations in high-carbon sectors, given that over 70% of interest income for significant banks remains tied to carbon-intensive industries.
## Frequently Asked Questions
**Q1: What proportion of interest income do significant supervised banks derive from carbon-intensive sectors?**
Since 2022, the average share of interest income earned from carbon-intensive sectors by significant banks supervised by the ECB has consistently remained above 70%.
**Q2: How many planetary boundaries have been transgressed according to the presentation?**
According to the information presented at the conference, seven of the nine planetary boundaries have already been transgressed.
**Q3: How frequently do banks' climate stress tests and scenario analyses cover all self-identified material risk drivers?**
Climate stress tests and scenario analyses cover all risk drivers that banks themselves identify as material within their internal capital adequacy assessment process (ICAAP) in approximately 15% of cases.
**Q4: What additional temperature increase could nature's own emissions add in an adverse scenario?**
According to IPCC conclusions and data cited in the address, nature's own emissions—such as those originating from thawing permafrost or wildfires—could add as much as 0.6°C of additional global warming under an adverse scenario.
**Q5: What are 'known unknowns' in the context of climate and nature risks?**
'Known unknowns' refer to risk factors such as ecological tipping points (e.g., dieback of the Amazon rainforest or collapse of the Atlantic Meridional Overturning Circulation), compound events, and complex planetary boundary interactions where underlying dynamics are acknowledged, but exact timing, magnitude, or probabilities remain uncertain.
Who May Be Affected
Significant supervised banks in the European Union, bank risk management officers, financial regulators, and institutions operating in carbon-intensive sectors.
Cross-Border Context
The speech was delivered at a joint conference organized by the European Central Bank and the Bank of England in Frankfurt am Main, involving experts from 18 countries across three continents.
What to check next
- Future ECB Supervisory Board updates on climate and nature risk guidance and ICAAP evaluation criteria.
- Full transcript publication to verify the incomplete final sentence cut off in the speech source text.
This article provides general information and does not constitute legal advice. Consult the official text and obtain advice appropriate to your circumstances where needed.