Banks warned that exposure to fossil fuels could trigger financial crisis

The world’s 60 largest banks have approximately $1.35trn (£1.2trn) exposed to fossil fuel assets, which will depreciate over time and could trigger the next global financial crash.

That is according to a new report from Finance Watch, which also reveals that the exposure to fossil fuels is almost equivalent to the exposure of the whole financial system to subprimes before the 2007-2008 global financial crisis.

While fossil fuel and subprime assets present obvious structural differences, the report warns that there are similarities between the situation then and now.

Furthermore, it explains how, in the event of a banking crash, the burden of bank bailouts could fall on the shoulders of taxpayers, rather than be absorbed by the market.

Benoît Lallemand, secretary general of Finance Watch, said that the abrupt materialisation of climate-related financial risks will eventually create a “Lehman moment”.

He continued: “We see a lack of responsibility throughout the system, with governments, policymakers, supervisors, rating agencies, businesses and financial institutions blaming the others for their inaction.

“Today, we are facing a severe cost-of-living crisis, and many people are struggling to make ends meet. While as interest rates increase, the profitability of banks is going up.

“In this context, it is incomprehensible that policymakers would not take a reasonable, precautionary step to protect taxpayers from climate-related financial risks.”

To help address this problem, Finance Watch is calling for international regulators to adjust banks’ capital requirements for fossil fuel exposures, which determine how much capacity banks have to absorb losses.

At the international level, these requirements are set by the Basel Committee on Banking Supervision. The report states that fossil fuel assets should be treated as “higher risk” assets and assigned a risk weight of 150% in line with the Basel framework.

This would require between $157bn and $210bn in extra capital for the 60 global banks, which is equivalent to only around three months retained profits in 2021, on average.

Julia Symon, head of research and advocacy at Finance Watch, said: “Our study shows that increasing capital requirements for fossil fuel financing – a fundamental step in tackling climate-related risk – is a feasible measure costing on average between three to five months of bank profits, and this is a conservative estimate based on publicly available data for 2021.

“There is also a precedent for the implementation of capital measures – the capital increases required to implement Basel reforms after the financial crisis were achieved by retaining profits, without a reduction in bank lending or asset volume.

“Delivering on international climate commitments, such as the Paris Agreement, means a significant number of fossil fuel assets will become stranded. Without concrete policy action reflecting this reality, the risks of disorderly transition and climate disruptions are going to be more than the financial system can handle.”