Banca d’Italia’s Latest ESG Report Sheds Light on Challenges, Progress, & Future Directions for Banks

Key Takeaways

• Data Gaps in ESG Reporting: Italian banks have made progress in closing data gaps, particularly around real estate and energy consumption, but challenges remain in accessing reliable ESG data, especially on a global scale.
• Green Asset Ratio (GAR): The GAR for Italian and European banks remains low, with figures of 1.68% and 2.61% respectively, highlighting the need for improvements in the calculation and framework.
• Climate Risk Exposure: Both Italian and European banks are highly exposed to climate risks, especially in sectors like construction, agriculture, and real estate, and must continue to address these challenges to build financial resilience.
• Improvement of ESG Metrics: There’s an ongoing push to improve the GAR and introduce new metrics, such as the Banking Book Taxonomy Alignment Ratio (BTAR), to offer a clearer picture of banks' alignment with sustainability objectives.
• Regulatory Developments: The EU is working on expanding the Taxonomy framework and introducing better tools and guidance to help banks more effectively measure and report their ESG contributions.

Deep Dive

It’s no secret that banks are under increasing pressure to understand and manage their environmental, social, and governance (ESG) risks, and Banca d’Italia’s latest report on ESG disclosures shows just how challenging that can be. As the financial world moves toward a more sustainable future, Italian and European banks are slowly but surely stepping up to the plate, despite facing significant hurdles. Banca d’Italia’s Notes on Financial Stability and Supervision No. 45 delves into the current state of ESG risk assessment, tracking the progress these banks have made while highlighting the areas still in need of improvement.

It turns out that, when it comes to ESG data, banks are still fishing in murky waters. One of the biggest challenges? Accessing reliable data on things like energy consumption from the companies they finance. It’s not that banks aren’t trying, it’s just that these kinds of datasets aren’t always available or easy to navigate. Think about it like this, public databases that contain energy consumption data are often fragmented and incomplete, and privacy regulations sometimes make it hard to access the info that’s needed.

That said, there’s a silver lining. Italian banks, in particular, have made solid progress in closing the data gap. They’re not perfect yet, but compared to last year, they’re doing a better job of gathering and analyzing ESG data. Take real estate, for instance: Italian banks have managed to reduce the share of commercial and residential properties without energy consumption data from 25% to about 16%. It’s a sign that banks are catching up to their European peers when it comes to assessing transition risks tied to real estate—though there’s still work to be done.

Green Asset Ratio

Now, let’s talk about the Green Asset Ratio (GAR), a key metric that measures how much of a bank’s assets are aligned with the EU’s sustainability goals. When the numbers came in for 2024, they were... well, not great. The GAR for Italian banks stood at just 1.68%, and European banks didn’t fare much better with a 2.61%. These figures show that banks are struggling to align their portfolios with green activities in any meaningful way.

Why is the GAR so low? It’s not for lack of trying, it’s more about the current way the metric is calculated. The methodology needs fine-tuning, and the EU’s sustainability framework (called the Taxonomy) doesn’t yet cover all the sectors that should be included. Until these issues are addressed, the GAR isn’t really capturing the full scope of banks’ efforts to support green activities.

A Growing Concern for Banks

It’s not just about the green numbers. Banks are increasingly worried about how climate risks are affecting their portfolios. Both Italian and European banks have large exposures to sectors that are highly vulnerable to climate change, such as construction, agriculture, and real estate. These industries are particularly sensitive to climate risks, whether it’s transition risks (how they adapt to a low-carbon economy) or physical risks (like floods or extreme temperatures).

The findings show that about 83.6% of Italian banks’ exposures are tied to industries that contribute heavily to climate change, and the story is similar across Europe. While that’s a lot of risk, it also means that banks have a major role to play in financing the climate transition for these sectors. The problem is, these industries are facing some tough challenges, including rising inflation and high interest rates. And while some of these sectors are more exposed to risk, the exact impact on the banks' bottom lines hasn’t been easy to measure just yet.

A Call for Better Metrics

The big takeaway from Banca d’Italia’s report? There’s still a lot of work to be done on the data front. But there are also solutions in the works. One of the major areas of focus is the Green Asset Ratio itself. Right now, the metric doesn’t give a complete picture of how banks are supporting sustainability. There are discussions at the European level about improving the GAR, such as by adjusting the way it’s calculated to include more relevant data and better align it with sustainability objectives. Some even suggest a more refined version of the GAR (an “adjusted” GAR) could help banks more accurately show their contributions to the climate transition.

There’s also the Banking Book Taxonomy Alignment Ratio (BTAR), which is a voluntary metric that includes exposures to companies that don’t have to report ESG data. This could be an important addition, as it helps give a clearer picture of how banks are supporting sustainability, particularly for smaller companies like SMEs.

At the same time, the EU is working to expand the Taxonomy itself to cover more sectors and create clearer guidance for how companies can align with sustainability goals. Until that’s done, the current framework leaves too many gaps, and some activities that should be considered sustainable are being excluded from the conversation altogether.

Banca d’Italia’s 2024 ESG analysis paints a picture of a banking sector that’s making progress, but there’s still a long road ahead. Italian banks have made strides in gathering more reliable data, particularly around energy consumption and real estate. However, with the Green Asset Ratio and other metrics still in their infancy, there’s more work to be done to align portfolios with sustainability objectives.

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