Document that provides for the incorporation and management of socio-environmental risk by the financial sector was discussed in a workshop held by Escolhas

Experts discussed the proposed regulation, which is open to receiving inputs

By Eduardo Geraque

Against the backdrop of a new study by Instituto Escolhas on the management of socio-environmental risks in the financial sector, experts met in an online workshop this past Thursday (10/15) to discuss a proposal for regulation for the topic. Since June, Escolhas has been dedicated to the initiative because it acknowledges the importance of financial institutions having at their disposal tools to manage socio-environmental risks involved in their financing and investments. The regulation being proposed also addresses the Central Bank’s recently launched “CB #Sustainability” (“BC #Sustentabilidade”) agenda, which includes a review of Resolution 4327/2014.

Policymakers, specialists and members of civil society organizations attended the online event, including representatives of the National Bank for Economic and Social Development (BNDES), Febraban, Itaú Unibanco, Bradesco, Caixa Econômica Federal, Goldman Sachs, Safra, Bocom BBM, and Sicredi, among others.

According to Sergio Leitão, executive director of Instituto Escolhas, the debate–which is open to everyone–takes place at a unique moment in the country’s recent history. “From this pandemic, as former minister Joaquim Levy stated in an interview for the Instituto Escolhas newsletter, asset pricing will take place that will determine capital reallocation. Therefore, this whole discussion we are undertaking entails leaving the country’s financial system properly adjusted so as to account for this situation.” To Sergio, what is experienced today is, to some extent, paradoxical. “At the same time that we see backtracking in the Executive Branch’s attention and performance–in contrast to what happened in 2014 in relation to the environmental issue–we also see banks taking on an absolutely unprecedented role in this sector,” says the executive director of Escolhas.

According to Ana Luci Grizzi, partner at the Veirano law office and author of the proposal under discussion, the document has a very clear objective. “In general, we want to improve risk management by incorporating both an environmental and a social variable. All this, based on the analysis of the risks and opportunities of a project,” says the lawyer.  To her, it is clear that the focus of the debate has to change. “This theme is more than concrete. We are not talking about a tree-hugging theory, but rather about creating mechanisms designed to ensure a return on the investment that will be made, either through a credit line or through investment in participation. It is more than proven that the financial risk is proportional to the environmental risk.”

In practical terms, with respect to risk, the proposal under preparation considers issues such as the emission of greenhouse gases, water management, effluent treatment, solid waste, and impacts in protected areas. Each of these environmental problems can result in real financial impacts on projects and even negative impacts on companies’ reputation.

According to the proposal debated by the specialists, financial institutions will have to build socio-environmental risk matrices to evaluate and measure the possibility of making the scenarios into a concrete reality, and thereby measure their effects on credits and investments. Financial studies must consider all possible impacts of the project in question.

“We will have, in summary, three possible scenarios after all the analysis is done,” says Grizzi. If the incidence of risks and the generation of impacts are low, there is a positive result for that project. If the conclusion is that the risks and impacts can be somehow mitigated, the project can be continued, as long as brakes can be applied when anything goes awry. And, in a third scenario, if the risks and impacts are deeply harmful to the environment, the risk matrix must be sufficient for the bank to reject that business.

Another important item of the proposed regulation is banks’ obligation to annually publish a report showing the incorporation of the environmental variable into their businesses. The document must include, for example, both negative and positive financial impacts (business opportunities) linked to the environment. Whether in relation to business with customers or in the bank’s own activities. Nevertheless, banks that break the rules will be subject to penalties ranging from public notification, to fines and even being prohibited from providing certain services. “The question remains: if the banks fail to incorporate environmental risks, they will have a hell of credit risk,” says Grizzi.

According to consultant Roberto Dumas, one of the main challenges to the incorporation of socio-environmental issues by banks is the importance this theme has gained at large Brazilian financial institutions. “The banks place the weight of the socio-environmental variable in such a way that, at the very least, it will not have even the slightest impact. It begins with this mischaracterization. I have heard phrases such as: to me, the socio-environmental risk weighs 0.025, and that’s it,” says the consultant, who is the former head of socio-environmental risk at Itaú BBA bank.

To lawyer Juliana Maioral, in order for the new proposal to avoid the risk of being left behind and failing to make a real difference in practical terms, it must dialogue very well with what is already in place. “The relationship between the risk management that is carried out, the size of the due diligence, and the size of the risk being taken has to be relevant and proportional. It is important to observe this adequately,” says Juliana. According to her, without this principle, the new system being proposed will lose steam. “It tends to become bureaucratic,” she says.

International examples

Looking around at what is being done in other countries, including Latin American ones, can also be a viable way to improve the standards being proposed, says Maria Eugenia Taborda, the UNEP FI regional coordinator for Latin America and the Caribbean. “In recent years, other countries have achieved a lot and have even advanced further than Brazil, as in the cases of Mexico, Colombia, and Chile, which started more recently,” says the executive.

To Maria Eugenia, given the challenge that is on the table–that of incorporating the question of climate risk that is increasingly pressing–focus becomes fundamental. “We can be inspired by New Zealand and England. They are entering certain niches, for example. Are we going to address climate risk? Will it be agriculture? Or a certain region? ” For the UNEP FI manager, it is time for Brazil to hone in on key goals. “I fear that we will get lost in a very broad conversation and in endless discussions,” she adds.

In closing, Sergio Leitão stated that the debate made it clear that, if we do not make this paradigm shift, we will not move forward.