Sustainable Finance Comparative analysis on the integration of sustainable finance in the Dutch and French banking system

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Master Thesis

Universiteit van Amsterdam

LLM Law & Finance

Sustainable Finance

Comparative analysis on the integration of sustainable finance in the Dutch and

French banking system

22/07/2019

Oostveen, van, J

10809384

J.van.oostveen@outlook.com

Smits, dhr. prof. mr. dr. R.

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Abstract

This research aims to investigate the role of central banks and prudential supervisors in France and the Netherlands with respect to sustainable finance. In order to do so it is first investigated what sustainable finance is and how this concept is already being implemented in Europe.

After thus having defined the playing field of sustainable finance, it is investigated what room there is for central banks like BDF and DNB to play a role in sustainable finance given their mandate and other constraints.

Finally, having defined the playing field for central banks and prudential supervisors with respect to sustainable finance, it is investigated what activities BDF and DNB are actually undertaking in this area and which similarities and differences there are between these two central banks in this respect.

As a result of this the following picture emerges.

1. The concept of sustainability is real as is the transition to a more sustainable society. 2. Sustainability is much broader than climate change alone, and although many actions

and institutions do focus on environmental or climate-related issues, financial sustainability as a concept can and should be analyzed in terms of a broad

interpretation of sustainability as laid down in the 17 sustainable development goals of the UN.

3. The concept of financial sustainability is as real as that of sustainability itself, and it gathers momentum as legislators around the world are already making the transition to a more sustainable society.

4. The mandates of the ECB and the national banks offer opportunities to play an important role in the transition to a more sustainable society, especially with respect to climate-related and environmental issues.

5. The role that national central banks and prudential supervisors can play in this transition is, however, seriously restrained because almost all of the European financial system is harmonized on a European level.

6. Nevertheless, BDF and DNB can and should take responsibility for a more

sustainable financial system and practice, both on a national level as well as through their membership of the ECB and various international organizations and initiatives 7. Notwithstanding minor differences in the scope of their approach, both BDF and

DNB have the ambition to live up to this responsibility and even are frontrunners in the activities they are actually undertaking.

8. However, it is up to European and national legislators to set the stage for more direct action if this is deemed necessary.

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List of Abbreviations

ABSPP – Asset-Backed Securities Purchase Programme

ACPR – Authorité de Contrôle Prudentiel et de Résolution AMA – Advanced Measurements Approach

BDF – Banque de France CRA – Climate Risk Assesment CMF – Code Monetaire et Financier

CBPP3 – Third Covered Bond Purchase Programme

CSPP – Corporate Sector Purchase Programme DNB – De Nederlandsche Bank

EBA – European Banking Authority EC – European Commission ECB – European Central Bank

EIOPA – European Insurance and Occupational Pensions Authority ESA – European Supervisory Authority

ESG – Environmental, Social and Governance ESMA – European System of Financial Supervision ESMA – European Securities and Market Authority

EU – European Union

FSB – Financial Stability Board

GTRO – Green-Targeted Refinancing Operations

ICAAP – Internal Capital Adequacy Assessment Procedure IDD – Insurance Distributions Directive

JST – Joint Supervisory Team

LTRO – Longer-term refinancing operations NDC – Nationally Determined Contributions NGFS – Network for Greening the Financial System MIFID – Markets in Financial Instruments Directive MRO – Main Refinancing Operations

PSPP – Public Sector Purchase Programme

TCFD – Task Force on Climate-Related Financial Disclosures TEG – Technical Expert Group

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TLTRO – Targeted Longer-term refinancing operations SDGs – Sustainable Development Goals

SREP – Supervisory Review and Evaluation Process

UN – United Nations

UNEP – United Nations Environment Programme

UNEP FI – United Nations Environment Programme Finance Initiative UNPRI – United Nations Principles for Responsible Investment WFT – Wet op het Financieel Toezicht

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1. Introduction

‘‘The green transition will not happen without the financial sector. It is about making sure that our money works for our planet. There is no greater return on investment.’’ The words of the president of the European Commission; Jean Claude Juncker.1

As a society, we have become increasingly aware of the necessity of sustainability. International projects are set up to incorporate sustainability more and more. In 2015, for example, the United Nations (UN) have set concrete goals reflecting the effort needed to address climate change. Agreements have been signed to ensure the right tools are available for a smooth transition to a greener economy. The UN has introduced the 2030 agenda for sustainable development. Embodying 17 sustainable development goals that need action over the period of 2015- 2030. Each of these goals is of critical importance for humanity and the planet.2_{Furthermore, the G20 has created the Sustainable Finance Study Group, and its}

Financial Stability Board (FSB) have created the Task Force on Climate-Related Financial Disclosures (TCFD). In 2016 the European Commission appointed a High-Level Expert Group on Sustainable Finance (HLEG), which resulted in the Commission publicizing a 10 step action plan for financing sustainable growth. In 2017 ‘The Network for Greening the Financial System' (NGFS) was established at the Paris "One Planet Summit." It brings

together no less than twenty-three central banks and policy institutions from across the globe. Its purpose is to help strengthen the global response required to meet the Paris climate goals.3

These are just some of the international projects concerning sustainability. Some of these developments will be further discussed in the next chapters.4

The shift to a more sustainable economy is inevitable and of utmost priority. Banks are not solely faced with a moral request to support this financially. Legislators around the world are already making the transition. This poses potential risks for banks. Banks need to become aware of the fact that regulations on the disclosure of sustainability factors are getting

tightened. In France, for example, reporting obligations are set on how banks should integrate sustainability factors in their risk management. The DNB presses the Dutch legislators to support climate laws in the Netherlands. Laws that are intended to set a clear pathway to a low-carbon economy. These kinds of regulations pose substantial risksfor banks, and they must not be overlooked.5_{Central banks and prudential supervisors want to asses these risks}

and make sure that financial institutions live up to them.

So, whether or not banks and central banks will finance the green transition as Mr. Juncker demands, we, as a society, have already chosen to move towards more sustainability. The

1_{High-level conference: A global approach to sustainable finance, March 2019.} 2_{Paris agreement, 2015.}

3_{Frank Elderson, ‘Sustainable finance: the new paradigm’, speech at the International conference on} sustainable investment for central bankers, September 2018.

4_{F.J. Beekhoven van den Boezem, C. Jansen, B Schuijling, Sustainability and Financial Markets, Business &} Law research center, Wolters Kluwer, 2018.

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risks of this transition are real, both in terms of compliance with new regulation as to the impact of the transition on our economy. It is the responsibility of central banks and

prudential supervisors to asses these risks. Thus, the question is to what extent their mandate allows them to do so and what they are actually doing in this respect.

Whether the threats posed by non-sustainability are also real and constitute risks for the financial system that should be assessed by prudential supervisors is an entirely different question, one that is not easily answered. However, as we shall see, some of these threats and risks are already investigated by BDF and DNB.

1.1. Research aims and objectives

This research aims to investigate the role of central banks and prudential supervisors in France and the Netherlands with respect to sustainable finance. In order to do so it is first investigated what sustainable finance is and how this concept is already being implemented in Europe e.g., by the European Commission. Once the playing field of sustainable finance has been defined, we will investigate what room there is for central banks such as the BDF and DNB to play a role in sustainable finance given their mandate and other constraints. Finally, after having defined the playing field for central banks with respect to sustainable finance, we will investigate what activities BDF and DNB are undertaking in this area and which similarities and differences there are between these two central banks in this respect. This thesis will explore the mandate of prudential supervision and monetary policy and how sustainability may fit within that mandate. With regards to prudential supervision, the research is confined to the supervision of banks and therefore leave out the supervision of insurers and pension funds.

1.2. Research Tools

To conduct this analysis, use is made of several handbooks on Sustainable Finance.

Furthermore, the legal background concerning, for example, the mandate of central banks and prudential supervisors, has been investigated. Both legal texts as well as academic-based papers, have been consulted. Finally, a questionnaire has been drawn up on the basis of which an interview has been conducted with representatives from both DNB and BDF, which is included in the annex. The questionnaire has primarily severed as background information to this research. Calls conducted with representatives of DNB and BDF have confirmed much of what is said in this research.

1.3. Structure of the thesis

After this introduction, the second chapter deals with the explanation of basic concepts concerning Sustainable Finance. Questions such as: “What is sustainable?” and “What is the role of sustainability within finance?”, are being answered. To do so, The Paris Agreement,

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the UN Sustainable Development Goals, and the Environmental, Social, and Governance (ESG) Criteria are discussed.

The third chapter looks at several important international and regional initiatives on

Sustainable Finance, all of them, directly or indirectly influencing both the DNB and BDF: The Commission's Action plan for Financing Sustainable Growth and The Network for Greening the Financial System.

The fourth chapter deals with the mandate of a central bank and a prudential supervisor. DNB and BDF are both a central bank, as well as a prudential supervisor. This means that besides monetary policy, which is the core function of central banks, DNB and BDF also have a supervisory role as to the resilience of the banks they regulate. This chapter aims to grasp what lies within the mandate of a central bank and a prudential supervisor, and how sustainability may or may not fit into this mandate.

Finally, in the fifth chapter, we will take a look at the actions that BDF and DNB have actually taken or are planning to take. These activities are not only compared to the mandate that they have, but also to the ambitions that Europe has and to each other: what are the differences and similarities between BDF and DNB with respect to sustainable finance. In doing so, we will see that sustainability (and thus sustainable finance) entails much more than climate change alone and that this is reflected in the goals set by the United Nations. On the other hand, we will discover that the mandate given to the European Banking System and within that system to national central banks like BDF and DNB poses serious restrictions as to what their role can be with respect to sustainable finance. Nevertheless, we will also see that a relevant playing field for central banks and prudential supervisors remains and that BDF and DNB are indeed taking serious actions to uphold their responsibilities towards sustainable finance.

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2. Defining Concepts

2.1. Introduction

To grasp what sustainable finance means, one needs to have a basic understanding of sustainability and of financial decision making. In this chapter, some essential concepts are explained in more detail, with the overall aim to better understand sustainability and how this may be integrated into the financial banking system.

2.2. What is Sustainability?

Sustainable means, ‘durable in the long run'.

The European Commission envisions sustainability as part of the corporate social

responsibility of enterprises, i.e., the responsibility of enterprises for their impact on society

in general. Corporations, as well as financial institutions (such as banks), have a significant influence on society. This goes beyond their impact on the economy. A corporation has societal influence in three different fields: environmental, social, and governance (ESG). Environmental influence meaning, the effect a company has on the environment, the climate, or the consumption of natural resources. Social influence meaning, for example, ensuring diversity and equal treatment between men and women. Governance meaning, the

commercial practice of a business or its management in a broad sense. Think of fair-trade business strategies or sound internal control systems. Failure to be aware of ESG factors can lead to reputational damage and operational risks (the risks of losses arising from inadequate or failed internal processes, people, systems, or from external processes). Legislators make more and more ESG factors enforceable by law and thus pose legal obligations on to

corporations and financial institutions.For example, on the 17th_{of October Dutch legislators}

amended the Dutch Buildings Decree 2012 (bouwbesluit 2012). Before 2023 energy labels of the office buildings in the Netherlands will have to be at least in category C.6_{As we will see}

below, ESG factors only touch the surface of what sustainability entails. Nevertheless, they are a more mainstream and generally accepted method of incorporating ‘sustainable’ risk factors into the conduct of business.7

In 2015, the Paris Agreement8_{was adopted under the United Nations Framework Convention}

on Climate Change. The main goal of this agreement is to combat climate change. Countries have agreed to strengthen the global response to the threat of climate change. They aim to

6_{Besluit van 17 oktober 2018, houdende wijziging van het Bouwbesluit 2012 betreffende de labelverplichting} voor kantoorgebouwen, Stb. 2018, 380.

7_{European Commission, A renewed EU strategy 2011-2014 for Corporate Social Responsibility, 2011, p.6.} 8_{Council Decision (EU) 2016/1841 of 5 October 2016 on the conclusion, on behalf of the European Union, of}

the Paris Agreement adopted under the United Nations Framework Convention on Climate Change, OJ L

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keep the global average temperature rise well below 2°C above preindustrial levels and try to limit the temperature increase to 1.5°C above preindustrial levels.9

The Paris Agreement requires the participating countries to ‘‘prepare, communicate and maintain successive Nationally Determined Contributions (NDCs) that it intends to achieve. Parties shall pursue domestic mitigation measures, to achieve the objectives of such

contributions.'' after 2020. NDCs are the core of the Paris Agreement and its long-term goals. NDCs contain the efforts envisioned by each country to reduce emissions and adjust to the effects of climate change. 10_{The United Nations Environment Programme (UNEP) evaluated}

the NDCs and concluded that under current emission trajectories and current NDCs, global warming will exceed 1.5°C above preindustrial levels.11

Climate-Related issues make of only a small part of what sustainability entails. As part of the Paris Agreement, the UN presented the 2030 Agenda for sustainable development. As part of the agenda, the UN has developed 17 Sustainable Development Goals (SDGs) and therein are 169 targets. To quote the UN: ‘The Sustainable Development Goals are the blueprint for

achieving a better and more sustainable future for all. They address the global challenges the world is facing, including those related to poverty, inequality, climate, environmental

degradation, prosperity, and peace and justice. The Goals interconnect, and in order to leave no one behind, it is important that each Goal and target is achieved by 2030.’12

Rockström and Pavan Sukhdev present an interesting way of viewing the SDGs. The SDGs are classified as follows: Environmental goals, societal goals, economic goals, and one overarching goal. 13

The environmental goals consist of; Goal 6. Ensure the availability and sustainable management of water and sanitation for all. Goal 13. Take urgent action to combat climate change and its impact. Goal 14. Conserve and sustainably use the oceans, seas, and marine resources for sustainable development. Goal 15. Protect, restore, and promote sustainable use of terrestrial ecosystems, sustainably manage forests, combat desertification, halt and reverse land degradation and halt biodiversity loss.

The societal goals consist of; Goal 1. End poverty and all its forms everywhere. Goal 2. End hunger, achieve food security, and improved nutrition and promote sustainable agriculture. Goal 3. Ensure healthy lives and promote well-being for all at all ages. Goal 4. Ensure inclusive and equitable education and promote lifelong learning opportunities for all. Goal 5. Ensure gender equality. Goal 7. Ensure affordable and clean energy for all. Goal 11. Create sustainable cities and communities. Goal 16. Ensure peace, justice and strong institutions.

9_{Article 2, Paris Agreement, OJ L 282/4, 19.10.2016.} 10_{Article 4(2), Paris Agreement, OJ L 282/4, 19.10.2016.}

11_{UNFCCC, Nationally Determined Contributions (NDCs), 2015.}

12_{UN (United Nations), ‘UN Sustainable Development Goals (UN SDGs)- transforming our world: the 2030}

Agenda for Sustainable Development’, A/RES/70/1, New York, 2016.

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The economic goals consist of; Goal 8. Promote sustained, inclusive, and sustainable economic growth, full and productive employment, and decent work for all. Goal 9. Build resilient infrastructure, promote inclusive, and sustainable industrialization and foster innovation. Goal 10. Reduce inequality within and among countries. Goal 12. Ensure sustainable consumption and production patterns.

The overarching goal consists of; Goal 17. Strengthen the means of implementation and revitalize the Global partnership for sustainable development. 14

For the purpose of this research, sustainability is considered to incorporate all of the SDGs laid down by the UN.

2.3. Sustainable Finance

In the previous paragraph, the concept of sustainability was discussed. It has become clear that sustainability entails much more than only fighting climate change. This paragraph discusses which role sustainability plays in finance.

The United Nations Environment Programme Finance Initiative (UNEP FI) is a global alliance between the UNEP and the Financial sector. It consists of an alliance of more than 200 financial institutions across banking, investment, and insurance. The UNEP FI has a dual focus on sustainable finance. Firstly, Financial institutions must ‘change finance’.

(integrating environmental & social risks and opportunities into the mainstream financial system). Secondly, they must ‘Finance the change’ (Mobilizing finance for a sustainable economy).15_{Thus, one can observe risk mitigation on the one hand and the financing part, on}

the other hand.

When looking at sustainable finance from a climate point of view, one can observe these two forms in which sustainability is incorporated. On the one hand, there is ‘direct green finance’. ‘Financing of activities that directly provide environmental benefits in the broader context of environmentally sustainable development.’16_{Activities such as the issuance of green bonds,}

or the financing of renewable energy parks can be considered direct green finance. On the other hand, there is ‘risk mitigation’. Banks must incorporate risks that are arising from, for example, climate change. This is also called, ‘Environmental and Climate Change (ECC) Screening’: financing activities while taking into account the potential exposure to environmental and climate change risk factors such as’

i). Physical risks: Potential losses arising from more extreme climate events.

ii). Liability risks: Potential financial difficulties stemming from non-compliance with environmental and climate change (ECC) rules. With regards to liability risk, a breakthrough

14_{Rockström, J. and P. Sukhdev, ‘How food connects all SDGs’, Stockholm Resilience Centre, 2016.} 15_{UNEP Finance Initiative, Green Finance for SDGs, 2016, accessed website in June:}

https://www.unepfi.org/website.

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is the Urgenda Case, where the Hague District Court ordered the Netherlands to cut its greenhouse gas emissions. The legal ground was the breach of its duty of care.17

iii). Transition risks; Risks resulting from a transition to a low-carbon economy. iv) Reputational risk; Damage to brand or image.

v). Other risks; such as an increase in the price of water due to scarcity.

Although the above only focuses on climate-related sustainability, it does capture a good description of the different forms of Sustainable Financing. If we broaden these two forms of green financing to include the full scope of the UN 2030 Agenda, we can rewrite the

definition of direct financing to; Financing of activities that directly provide sustainable

benefits in the context of the UN Sustainable Development Goals.

We can also rewrite the definition of risk mitigation to a definition which captures

sustainability to full extent. Sustainability Screening: Financing of activities while taking into

account the potential exposure to sustainability risk factors such as:

i). Physical risks: Potential losses arising directly from non-sustainability.

ii). Liability risks: Potential financial difficulties stemming from non-compliance with sustainability rules.

iii). Transition risks; Risks resulting from a transition to a sustainable economy. iv) Reputational risks; Damage to brand or image.

v). Others. 2.4. Conclusion

This chapter has covered the essential concepts with regards to sustainability and its role within the financial sector. Sustainable means durable in the long run. It entails much more than climate-related issues. The UN has laid down 17 goals which provide for a thorough definition of what sustainability entails. With respect to all these goals, the financial sector has a double role to play. In the first place, it has a role to play in the mitigation of the risks involved in the transition to a more sustainable society. The so-called sustainability

screening. Secondly, it has a role in the financing of the transition.

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3. International and Regional Initiatives on Sustainable Finance

In order to gain a better understanding of how Sustainable Finance fits into the mandate of a central bank and prudential supervisor, this chapter looks at two important international and regional initiatives on Sustainable Finance which touch DNB and BDF. The Commission’s Action plan for Financing Sustainable Growth and The Network for Greening the Financial System.

3.2. Commission’s Action plan for Financing Sustainable Growth

Sustainable Finance is increasingly taking a role in EU sustainability policies. Sustainable Finance is now considered one of the four pillars of EU sustainability policies. Together with Climate & Energy policy, Broader Environmental policy and Investment and Growth

policy.18_{One of the most significant steps towards the integration of Sustainable Finance}

within the European Union is the European Commission’s Action Plan for Financing Sustainable Growth. The action plan for financing sustainable growth is a significant initiative lead by the European Commission.

In 2016 the European Commission created the High Level Expert Group on Sustainable Finance (HLEG). The HLEG was given the task of developing recommendations to deliver a comprehensive EU strategy on sustainable finance, by integrating sustainability into EU financial policy. In January 2018, the HLEG published its final report. This was a

collaborative effort with investors and the European Commission, to understand which areas of reform were required to put the European financial services industry on a more sustainable footing. It is estimated that an additional 1.5 trillion dollars are needed annually to finance the required investments for the 2030 climate and environmental goals. All of SDGs combined, an estimated 5-7 trillion dollars are needed annually until 2030.19_{Hence Juncker's statement.}

In the European economy, banks, insurance companies, and pension funds are the most significant source of external finance and a channel of savings into investments. So, it is the financial sector that could help ensure the investments needed for the transition into a more sustainable economy.20

In March of 2018, the European Commissions published the action plan on sustainable Finance. In May of 2018, the publication of the legislative proposals found place, and at the end of 2018, the Commission established the Technical Expert Group (TEG). A body which examines all technical aspects of the Action Plan on Sustainable Finance. In January 2019, publications of draft amendments to Markets in Financial Instruments Directive II (MIFID II)

18_{A. Heath, Why sustainability is the big winner of the EU election, The PRI, 5 June 2019.}

19_{F. Elderson. ‘From 1 to 17?’, speech at the UNEP Finance Initiative Positive Impact Finance, November} 2017.

20_{D. Busch, G. Ferrarini, A. van de Hurk, The European Commission’s Sustainable Finance Action plan,} Wolters Kluwer Deventer 2019.

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and Insurance Distributions Directive (IDD) on ESG considerations and preferences. In April 2019 political agreements have been reached on a few key legislative proposals. The

benchmark file and the disclosure file, which covers investor disclosure on sustainability issues. Furthermore, the European Parliament provided a report on the Taxonomy file. The European Commission's Action Plan for Financing Sustainable Growth has ten

recommendations.

i) The first point of the action plan is the Establishment of a European Sustainable taxonomy. This was the top recommendation of the HLEG. The taxonomy provides a shared understanding of what environmentally sustainable economic activities look like. The European parliament has adopted its report on the taxonomy, which means that they adopted a formal negotiating position. 21_{The Council, however, are}

still working through their formal position on the taxonomy. Thus, it is unlikely that a formal agreement on the regulation is going to be achieved any time this year. On the other hand, the technical front is progressing quickly, and a full report from the TEG on the technical aspects of the taxonomy is expected any time soon. 22

ii) The second point is the creation of Standards and Labels. It concerns the creation of EU standards and labels for sustainable financial products. This has two dimensions; the first is the green bond standard. An interim report has been issued on principles behind an EU green bond standard. The second dimension is the EU Eco-Label. The Joint Research Center (JRC) has released a report on the EU Eco-Label for Financial Products in March 2019. 23

iii) The third point concerns fostering investments in sustainable projects. The

Commission believes that channeling private capital to sustainable projects is a must in order to ensure a smooth transition into more sustainable financial models. The main activity in this area is the mapping of investment gaps and the exchange of best practices for sustainable financing. 24

iv) Point number four is incorporating sustainability when providing investment advice. When giving advice investment firms and insurance distributors can have an impact on the redistribution of (financial) capital towards sustainability. The European Commission has put forward the final version the amended MIFID II25_{and IDD}26_in

21_{Legislative Observatory, European Parliament, Framework to facilitate Sustainable Investment,} 2018/0178(COD).

22_{UNPRI, Explaining the EU Action plan for financing Sustainable Growth, March 2019. Found on:}

https://www.unpri.org/sustainable-financial-system/explaining-the-eu-action-plan-for-financing-sustainable-growth/3000.article.

23_UNPRI,2019. 24_UNPRI,2019.

25_{Directive 2014/65/EU of the European Parliament and of the Council, of 15 May 2014 on markets in financial} instruments and amending Directive 2002/92/EC and Directive 2011/61/EU (recast), OJ L 173 12.6.2014. 26_{Directive (EU) 2016/97 of the European Parliament and of the Council of 20 January 2016 on insurance}

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January 2019, to ensure that advisors will take into account the preference of clients. Formal Adoption of these revised directives can be expected soon.27

v) The fifth point is about developing Sustainability Benchmarks. A Benchmark is an index which plays an integral part in the forming of the prices of, for example, financial instruments. Benchmarks are beneficial for investors because they provide a way to track and measure performances of financial instruments and allocate assets accordingly.28_{The co-legislators (the Council, the European Commission, and the}

European Parliament) have agreed upon a new generation of low-carbon

benchmarks. The TEG shared its recommendations for minimum standards for low-carbon benchmarks and minimum disclosure requirements for ESG benchmarks with the Commission on 18 June 2019.29

vi) The sixth recommendation of the action plan is to integrate ESG in ratings and market research. The European Securities and Market Authority (ESMA) launched a formal consultation on the integration of sustainability factors within disclosure requirements for credit rating agencies.30

vii) Point number seven is the clarifications of institutional investors and asset managers duties. The Commission asked ESMA and EIOPA for technical advice on how sustainability risks could be better integrated into the directives and their risk management framework. ESMA submitted its technical advice on 3 May 2019.31

viii) Recommendation number eight of the action plan is about the incorporation of sustainability into prudential requirements. The Commission requested EIOPA to analyze the impact of the solvency II directive on sustainable investments in September 2018, and EIOPA will deliver its opinion to the commission end of 2019.32_{In line with this action plan, under the banking package, firstly, all banks}

will be required to provide some mandatory disclosure of ESG risks. Secondly, the EU has agreed to do a report on the potential to include brown or green supporting factors into prudential requirements in the future. Finally, the European Banking Authority will do a report on the potential inclusion of ESG risks in their monitoring of national financial regulators.33

27_{European Commission, amending Delegated Regulation (EU) 2017/565 as regards the integration of} Environmental, Social and Governance (ESG) considerations and preferences into the investment advice and portfolio management, 04.01.2019.

28_{European Commission, Action Plan: Financing Sustainable Growth, 8 March 2018. COM(2018) 97 final,} 8.03.2018, p.7.

29_{EU Technical Expert Group on Sustainable Finance, Teg Interim Report on Climate Benchmarks and}

Benchmarks’ ESG Disclosures, June 2019.

30_{ESMA, ESMA Publishes Responses to its Consultations on Sustainable Finance, 25 February 2019. Found} on: https://www.esma.europa.eu/press-news/esma-news/esma-publishes-responses-its-consultations-sustainable-finance.

31_{ESMA, ESMA submits technical advice on Sustainable Finance to the European Commission, 03.05.2019.} Found on: https://www.esma.europa.eu/press-news/esma-news/esma-submits-technical-advice-sustainable-finance-european-commission

32_{European Commission, Request to EIOPA for an opinion on sustainability within Solvency II, Ref.} Ares(2018)4990467 - 28/09/2018.

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ix) Point number nine is the strengthening of sustainability disclosure. The Commission is working on updating the non-binding guidelines on non-financial reporting.34

x) Finally, point 10 concerns the fostering of sustainable corporate governance. The Commission has asked the European Supervisory Authorities (ESAs) to collect and share evidence on short-term market pressure arising from capital markets.35

These actions can be ordered into the following five broad strategies; public incentives (3), standardization (1, 2), disclosure (9, 5), corporate governance (10) and financial regulation (4, 6, 7, 8). 36_{The strategy of financial regulation has a direct impact on banks. The first}

strategy contains at least three types of regulatory reforms, which can have a direct impact on the way banks do practice and thus must be considered by central banks and prudential supervisors:

i) The amendment of the MIFID and the IDD in such a way that investment firms such as banks and insurance distributors should incorporate sustainability strategies and act in their client’s long-term interest.

ii) Second, the fiduciary duty institutional investors should include ESG factors into their investment processes.

iii) Thirdly, central banks and supervisors should incorporate ESG factors into the prudential requirements for financial institutions. This would help channel

investments towards a more sustainable economy, and at the same time disinvesting in unsustainable developments and thus reducing its risks.37

Furthermore, the strategy of standardization has an indirect impact on banks and could be of importance to central banks and prudential supervisors. By creating an EU taxonomy on sustainable activities, banks could (suddenly) find themselves exposed to certain risks. Suppose a bank has substantial investments in what it believes to be a sustainable activity, but it falls out of the scope of the EU taxonomy. This may affect the value of its investment and thus pose some serious risks. Hence, we see that the Action Plan has an impact on the role and the responsibility of Central Banks and prudential supervisors. If they do not prepare for this in time, they may find themselves in serious troubles.

3.3. Network for Greening the Financial System

At the Paris “One Planet Summit”, eight central banks and supervisors formed the Network of Central Banks and Supervisors for Greening the Financial System (NGFS). The NGFS has grown to 40 Members and 6 Observers from all around the world. The NGFS’s purpose is to help strengthen the global response required to meet the Paris climate goals. It does so by

34_UNPRI,2019. 35_{UNPRI, 2019.}

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enhancing the role of the financial system to manage risks and to mobilize capital for green and low-carbon investments. This network aims to strengthen the function of the financial system to manage risks and to mobilize capital in the transition to an environmentally more sustainable world.

The NGFS engages in various activities. In terms of micro-prudential supervision, The NGFS studies and identifies the best practices of central banks and supervisors in analyzing climate-related risks affecting individual institutions. The mapping of current supervisory practices for the integration of ESG risks into micro-prudential supervision. This forces institutions to consider the impacts on their balance sheet. The NGFS also reviews current practices on environmental and climate information disclosure by financial institutions so it can identify best practices. Secondly, at a macroeconomic level, the NGFS tries to measure the physical and transition risk. Examples of good practices by NGFS members are identified (e.g., scenario analyses and macro stress tests). The third and last area the NGFS focusses on is the role of central banks in scaling up green finance. Mainly discussing the current practices on the incorporation of ESG factors in all areas of central bank core activities. The NGFS will host a seminar on this topic called; ‘Sustainable & Responsible Investment for central banks.’ In which best practices and principles for integrating sustainability considerations into the management of official reserves are shared. 38

Both the DNB and BDF, as well as the ECB, are part of the NGFS. As a matter of fact, in January 2018, the NGFS held its inaugural meeting and appointed Frank Elderson (one of the directors of the DNB), as a member of the Governing Board of DNB as Chair of the

Network. Furthermore, BDF serves as the Secretariat of the Network. So, both the central banks are intertwined with the network.

The NGFS came with its first comprehensive report in April 2019 called, ‘A call for action Climate as a source of financial risk.' NGFS Members had already acknowledged that ‘climate-related risks are a source of financial risk, and it is therefore within the mandates of central banks and supervisors to ensure the financial system is resilient to these risks.' Although the legal mandate of central banks varies throughout the NGFS membership, they have some coherence. Nearly all mandates include responsibility for financial stability, price stability, and the safety and soundness of financial institutions. The central banks and

supervisors need to play their part in addressing climate-related risks within the scope of their mandates. Structural changes affect the economy and the financial system, and central banks must be able to understand that in order to fulfill their responsibilities.39

The NGFS has provided six, non-binding, recommendations for central banks, supervisors, policymakers and financial institutions. The main goal of the recommendations is to enhance their role in the greening of the financial system, and the management of climate-related risks

38_{NGFS, A call for action Climate change as a source of financial risk, First Comprehensive Report, April} 2019.

39_{NGFS, A call for action Climate change as a source of financial risk, First Comprehensive Report, April} 2019.

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and the environment. The recommendations consist of best practices in order to help the financial sector play its role in achieving the objectives of the Paris Agreement. For the purpose of this research, only the recommendations number one to four shall be discussed, as they consist of best practices for central banks and supervisors to fit within their mandate. Recommendations number five and six discuss actions that can be taken by policymakers, but this extends the reach of this research.

- Recommendation number one; The integration of climate-related risks into

micro-supervision and financial stability monitoring. This has two factors. i) The assessment of climate-related financial risks in the financial system by mapping physical and

transitional risks and how these risks can be included in macroeconomic forecasting and financial stability monitoring. ii) the integration of climate-related risks into prudential supervision by engaging in dialogue with financial firms to ensure that they understand the scope of climate-related risks.

- Recommendation number two; The integration of sustainability factors into the central bank’s and supervisor’s own-portfolio management. Acknowledging the different institutional arrangements in each jurisdiction, the NGFS encourages central banks to lead by example in their own operations.

- Recommendation number three; Bridging data gaps. The NGFS recommends that public authorities share data that is relevant to Climate Risk Assessment (CRA) and, whenever possible, make this publicly available in a data repository. In that respect, the NGFS sees merit in setting up a joint working group with interested parties to bridge existing data gaps.

- Recommendation number four; Building awareness and intellectual capacity and

encouraging technical assistance and knowledge sharing. The NGFS encourages central banks, supervisors, and financial institutions to build in-house capacity and to collaborate to improve their understanding of how climate-related factors translate into financial risks and opportunities.40

Finally, the NGFS stresses that and early and orderly transition needs to be made in order to mitigate the significant financial risks that arise from climate change. The NGFS also notes that there is still a significant amount of work to be done to give central banks and

supervisors the tools they need to identify and mitigate climate-related risks in the financial system. In order to fully translate and implement the recommendations, the NGFS is planning to develop (i) a handbook on climate and environment-related risk management for

supervisory authorities and financial institutions; (ii) voluntary guidelines on scenario-based risk analysis; (iii) best practices for incorporating sustainability criteria into central banks’ portfolio management. 41

40_{NGFS, A call for action Climate change as a source of financial risk, First Comprehensive Report, April} 2019, p 5.

41_{NGFS, A call for action Climate change as a source of financial risk, First Comprehensive Report, April} 2019, p 6.

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The NGFS is a significant step towards the integration of (for now only) climate-related risks within the tasks of central banks and prudential supervisors. The Network discusses climate-related risks on an international platform and therefore creates awareness and change on that level. Take, for example, the fact that the ECB is a member of the NGFS. It is, however, unfortunate that the NGFS only focusses on climate-related risks. As mentioned in paragraph 5.2., the DNB already identifies at least four other SDG-related risks that pose financial risks for banks. The NGFS might need to consider exploring these other SDG-related risks and how they affect the financial system.

3.4. Conclusion

In this chapter, two significant initiatives in Sustainable Finance have been discussed. The first being the European Commission's Action plan for Financing Sustainable Growth, the second being the Network for Greening the Financial System. The Action plan proposes ten actions, which the commission deems necessary in order to reach the climate and

environment goals set in the Paris Agreement. A few of those actions affect banks either directly or indirectly. This calls for action of central banks and prudential supervisors to asses if this poses any (transition) risks for the banks they supervise. A lot of the action plans already are in a far stadium, and it is expected that consensus is being reached on most, if not all, of the action plans by the end of 2019. The second initiative discussed is the NGFS. This has an entirely different character than the Action plan of the commission, as it is an initiative between central banks and supervisors, which is non-binding by nature. It is a very

interesting initiative in light of this thesis. BDF, DNB and the ECB take part in this network, and thus one can expect them to live up to the recommendations being made. The main recommendations that are of importance to this research are the following. i) The integration of climate-related risks into micro-supervision and financial stability monitoring. ii) The integration of sustainability factors into the central bank’s and supervisor’s own-portfolio management. iii) Bridging data gaps. iv) Building awareness and intellectual capacity and encouraging technical assistance and knowledge sharing. The NGFS has been an important ‘think hub' for central banks and prudential supervisors with regards to climate-related risks. However, they might need to consider exploring other SDG-related risks in the future.

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4. The objectives and tools of prudential supervisors and central

banks

This chapter will discuss the mandate of a central bank and prudential supervisor. DNB and BDF are both a central bank, as well as a prudential supervisor. This means that besides monetary policy, which is the core function of central banks, DNB and BDF also have a supervisory role as to the resilience of the banks they regulate. This chapter aims to

investigate what actions lie within the mandate of a central bank and a prudential supervisor, and how sustainability may or may not fit into this mandate. Prudential requirements

applicable to banks in a Member State of the EU, are fully EU based. Thus, in the first paragraph, the European Central Bank (ECB) and its legal basis shall be discussed. Then, the next paragraph shall elaborate on the framework of Prudential Supervision in Europe and how sustainable finance may be incorporated within this framework. Finally, in the last paragraph, the structure of Monetary Policy will be discussed, and again, how Sustainable Finance may fit within Monetary Policy.

4.1.1. The European Central Bank

The European Central Bank (ECB) is the central institution of the Economic and Monetary Union. The ECB is responsible for conducting monetary policy for the euro area and has been doing that since 1 January 1999. Together with the national central banks of all EU Member States, they constitute the European System of Central Banks (ESCB). The primary objective of the ESCB is to maintain price stability. The legal basis lies in Articles 3 and 13 of the Treaty on European Union (TEU). The main provisions are contained in Articles in the Treaty on the Functioning of the European Union (TFEU). Since November 2014 the ECB has also been given the responsibility for tasks concerning the prudential supervision of credit institutions. The legal basis of the ECB as Prudential supervisor is laid down in Council Regulation (EU) No 1024/2013 of 15 October 2013 conferring specific tasks on the European Central Bank concerning policies relating to the prudential supervision of credit institutions (Single Supervisory Mechanism (SSM) Regulation). Furthermore, as a banking supervisor, the ECB also has an advisory role in assessing the resolution plans of credit institutions.42

The single resolution mechanism will not be discussed in this research. 4.1.2. De Nederlandsche Bank

The DNB is the central bank and prudential supervisor of the Netherlands. DNB is committed to a stable financial system; this means a financial system that is resilient and contributes to sustainable economic growth. DNB looks out for risks that may harm the financial system as

42_{European Parliament, The European Central Bank (ECB), Fact sheets on the European Union, found on:}

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a whole. DNB may also improve the financial system's resilience by demanding that financial institutions reinforce their buffers. DNB does not conduct monetary policy in the EU itself but implements the Eurosystem’s monetary policy, which is decided by the ECB’s Governing Council. The specific instruments and objectives the Eurosystem have when conducting monetary policy are discussed in paragraph 4.3. Furthermore, the DNB is the prudential supervisor of various types of financial organizations in the Netherlands, including banks, pension funds, and insurers. All financial institutions in the Netherlands fall under DNB's supervision and are listed in their public register. The DNB monitors the compliance of financial institutions with rules and regulations. Sound supervision reduces the risk of banks, pension funds, or insurance companies getting into trouble. Although this supervision cannot guarantee that a financial institution will never fail, it does reduce this risk. Together with DNB and the other national supervisory authorities, the ECB conducts supervision of significant banks in Europe. In the Netherlands, ABN AMRO, SNS Bank, Rabobank, ING Bank, BNG Bank and NWB Bank are subject to the ECB's direct supervision.43

4.1.3. Banque de France et l’Authorité de Contrôle Prudentiel et de Résolution

The BDF is, like DNB, both the central bank and the prudential regulator in France. The BDF has three main missions. The monetary strategy, financial stability, and the provision of economic services to the community (The third pillar falls outside of the scope of this research and therefore will not be discussed). The prudential regulation of the financial institutions is done by its subsidiary the Autorité de Contrôle Prudentiel et de Résolution (ACPR). This ACPR is a part of the BDF. The BDF implements the monetary policy in France and contributes to the monetary policy in the eurozone. With regard to financial stability, the Banque de France plays a dual role. That of protection and that of supervision: It is responsible for strengthening regulations and monitoring risks, and for protecting the deposits of savers. The ACPR is responsible for the supervision of the French financial sector. It makes an assessment of the risks and weaknesses of the financial system as a whole and ensures the smooth operation of payment systems and market infrastructures.44

4.2. Prudential Supervision

The primary objective of prudential regulation is to ensure the solidity of financial institutions.45_{CRD IV}46_{also contains such a definition ‘Supervision of institutions on a}

consolidated basis aims to protect the interests of depositors and investors of institutions and

43_{DNB, DNB: Supervisory Authority, Eurosystem, website accessed on June 2019;}

https://www.dnb.nl/en/consumers/dnb371111.jsp

44_{The Banque de France, About the Banque de France, website accessed on June 2019;} https://www.banque-france.fr/en/banque-de-france/about-banque-de-france/missions

45_{Council Regulation (EU) No 1024/2013 of 15 October 2013 conferring specific tasks on the European Central} Bank concerning policies relating to the prudential supervision of credit institutions, OJ L 287/63, 15.10. 2013, Art. 1.

46_{Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 on access to the} activity of credit institutions and the prudential supervision of credit institutions and investment firms, amending Directive 2002/87/EC and repealing Directives 2006/48/EC and 2006/49/EC, OJ L 176/338, 26.06.2013.

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to ensure the stability of the financial system.’47_{Prudential legislation and regulation is not}

intended to stimulate sustainable financing.48_{The ECB exercises prudential supervision on}

the banks of Member States. The ECB supervises all banks with a seat within the EU. However, the ECB only directly supervises significant banks. The criteria for determining whether banks are considered significant, and therefore under the ECB's direct supervision, are set out in the SSM Regulation and the SSM Framework Regulation.49_{This is confirmed}

in the L-bank decision of European General Courts. Furthermore, the court defines the relationship between the authority of the ECB and the NCAs more in detail. The ECB is primarily the prudential supervisor of all banks in the Euro Area. The prudential supervision of less significant banks is not the exercise of national powers. The allocation of competences to NCAs within the SSM concerns a delegation from Union to State level.50_Everyday

supervision of significant banks is done by the Joint Supervisory Team (JST), which is under the management of the ECB. The JST consists of members of the ECB and members of the NCA. The direct supervision of less significant banks is delegated to the NCA (DNB in the Netherlands, BDF in France). Although the ECB still conducts overall oversight by providing methodology frameworks, or it can decide to directly supervise a less significant bank to make sure that high supervisory standards are applied consistently.51

The ECB exercises its prudential supervision within the SSM framework. The SSM refers to the system of banking supervision in Europe. It is formed by the ECB and the NCAs of the Member states in the EU. Its main goals are to ensure the safety and soundness of the

European banking system, to increase financial integration and stability and to ensure consistent supervision. The legal framework of the SSM is laid down in the directly

applicable SSM regulation and the SSM framework regulation.52_{In order to ensure that}

supervision across Europe is all the same, a Single Rulebook is applied within the SSM. The Single Rulebook consists of a single set of harmonized prudential rules which are applicable throughout the whole EU Banking Union. The Single Rulebook mainly lays down capital requirements for bank, it ensures better protection for depositors and it regulates the

prevention and management of bank failures The Single rulebook consists of the following legal acts that are most relevant for the banking union: The capital requirements directive IV (CRD IV) and capital requirements regulation (CRR). The amended directive on deposit guarantee schemes (DGS) and the bank recovery and resolution directive (BRRD). Furthermore, it contains guidelines and Q&A's from the European Banking Authority

(EBA).53_{So, this is the framework in which the ECB, together with the NCAs, can operate.}

47_{Preamble (47) CRD IV.}

48_{DNB Supervisory Strategy, 2018-2022, p. 27.} 49_{Art. 6(4) SSM regulation, OJ L 287/63, 15.10. 2013.}

5050_{Case T-122/15, Landeskreditbank Baden-Württemberg – Förderbank v ECB, Judgment of 16 May} 2017; ECLI:EU:T:2017:337, par. 22, 53,54, 63.

51_{Bart Bierman, Sustainable Capital: Prudential Supervision on Climate Risk for Banks, Wolters Kluwer 2019,} p. 7.

52_{ECB, Single Supervisory Mechanism, Banking Supervision, website accessed in June:} https://www.bankingsupervision.europa.eu/about/thessm/html/index.en.html.

53_{EBA, The Singel Rulebook, website accessed in June;}

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What exactly are the Supervisory tasks under the SSM Regulation? The ECB can only apply prudential supervision to banks within the framework of the SSM Regulation.54_This

consists of i) The supervision of a bank's compliance with the CRD IV rules on sound and controlled business practices, risk management processes, internal control mechanisms and effective ‘Internal Capital Adequacy Assessment Procedure' (ICAAP), ii) supervision of a bank's compliance with the CRR capital requirements and iii) the conducting of the overall ‘Supervisory Review and Evaluation Process' (SREP). In these areas, the ECB is exclusively competent and when a bank does not (or is likely that it will not) comply the ECB has far-reaching powers. The ECB and the NCAs must apply the same regulatory framework when it comes to prudential supervision. In the first place, it will apply directly applicable EU law, such as the Single Rulebook.55_{With regards to non-directly applicable EU law, like}

directives (CRD IV), it is necessary to apply national legislation in which the directives are embedded. In France, this is the Code Monetaire et Financier (CMF), and in the Netherlands, this is the Wet op Financieel Toezicht (Wft.). The ECB is however still reliant on

interpretations from the Single Rulebook if it needs further guidance on the CRD IV rules.56

4.2.1. CRD IV/ CRR Capital requirements

This paragraph will not discuss the capital requirements in-depth, but it will only lay down the basic structure of the requirements described in CRD IV. The rules regarding capital requirements can be found in the Single Rulebook, which is composed of the CRR57_{, the}

CRD IV, and technical standards and guidelines. Bank's capital requirements are divided into three pillars. Pillar one; consists of standard capital buffers, Pillar two; consists of bank-specific buffers and Pillar three; disclosure and transparency requirements.58

Pillar I, requires banks to hold a set of minimum amounts of ‘eligible’ capital requirements. This must be 8% of the total risk-weighted assets.59_{Furthermore, it consists of a set of}

buffers that a supervisor may impose on top of the minimum amount if it deems necessary. The amount of risk exposure a bank has on its assets is calculated through credit risk and operational risk.60_{Banks must calculate the credit risks for all business operations. For}

example, when granting loans, which is the core business of a bank, a bank's credit risk depends on its counterparties ability to repay the loan (creditworthiness), and the damage occurred if the counterparty defaults on repayment of the loan (exposure). The higher the risk the higher the amount of capital required by a bank to cover that risk and the more expensive the loan will be. Operational risks are the risks of losses arising from a bank's inadequate or

54_{Art. 4 (1) SSM Regulation, OJ L 287/63, 15.10. 2013.} 55_{Art. 4 (3) SSM Regulation, OJ L 287/63, 15.10. 2013.} 56_{Bart Bierman, 2019, p. 9.}

57_{Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential} requirements for credit institutions and investment firms and amending Regulation (EU) No 648/2012, OJ L 176/1, 26.06.2013.

58_{Following the Basel III requirements that are incorporated in CRD IV.} 59_{Art. 92 CRR, OJ L 176/1, 26.06.2013.}

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failed internal processes, people, systems, or from external processes.61_{Banks are typically}

responsible for their own internal models because they are more competent to develop adequate and more advanced risk models. This is also called the internal ratings-based approach.62_{If banks do not use this method, they are obliged to use the Standard Approach}

developed under the CRR, but it is more generic and it cannot work perfectly for all banks.63

Pillar II capital requirements oblige banks to hold additional capital buffers for specific risks that are not sufficiently covered by Pillar I. Pillar II buffers are calculated on the basis of a bank's own Internal Capital Adequacy Assessment Procedure (ICAAP). The ICAAP is meant to cover risks that a bank is or might be exposed to.64_{The CRD IV mentions the following}

risks that could fall hereunder. Concentration risks65_{and Liquidity risks}66_{(which includes}

reputational risks). The ECB for significant banks and the NCAs for less significant banks will regularly asses these risks. This is called the Supervisory Review and Evaluation Process (SREP).67_{The SREP allows the competent authority to impose banks to take into account}

specific risks and it can require banks to hold Pillar II capital buffers if it concludes that a bank inadequately measured its credit risks or operational risks.68

4.2.2. Sustainability within prudential supervision

Now that there is a clearer view of the framework of prudential supervision in Europe, the question arises on how sustainability can fit within this framework. Within Pillar I, there is not much room for a prudential regulator to fit sustainability. Within Pillar II, however, the competent authority has a great amount of discretionary power, in which it can oblige banks to take certain risks into account. The main question, of course, being if risks arising from sustainability fit herein? For climate-related risk, one could argue there is a potential match. Although the CRR/CRD IV framework does not explicitly mention climate risk as an

‘additional' risk that banks should include in their ICAAP, climate-related risks can fit within the CRR/CRD IV framework i.e., within a bank’s analysis of credit risk and operational risk. Credit risk: Banks can have an obligation to integrate physical climate risk on a specific, sufficiently large, and material client pool. There is a drawback; risks are usually based on historical data and have a one-year horizon. When risks have not yet materialized, which is often still the case with climate-related risks, forward-looking may be necessary. However, prudential supervisors may still require banks, especially when it has large concentrations of exposure, to make forward-looking stress tests in which they incorporate climate-related risk

61_{Art. 4 (1) (52) CRR, OJ L 176/1, 26.06.2013.} 62_{Art. 77 CRD IV, OJ L 176/338, 26.06.2013.} 63_{Bart Bierman, 2019, p. 10, 11, 12.} 64_{Art. 73 CRD IV, OJ L 176/338, 26.06.2013.} 65_{Art. 81 CRD IV, OJ L 176/338, 26.06.2013.} 66_{Art. 86 CRD IV, OJ L 176/338, 26.06.2013.} 67_{Art. 97 CRD IV, OJ L 176/338, 26.06.2013.} 68_{Bart Bierman, 2019, p. 13, 14.}

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scenarios.69_{It is unlikely that other than physical or transitional climate-related risks, other}

sustainable factors can be integrated within Pillar II credit risks.

Operational risks: Under CRD IV/CRR, banks can also have an obligation to hold additional capital for physical climate risks. Article 85(1) of the CRD IV reads as follows: ‘‘Competent

authorities shall ensure that institutions implement policies and processes to evaluate and manage the exposure to operational risk, including model risk, and to cover low-frequency high-severity events. Institutions shall articulate what constitutes an operational risk for the purposes of those policies and procedures.'' Climate change is already causing massive

disasters around the world.70_{If there are foreseeable concerns, the competent authorities may}

require banks to hold additional capital. Climate change certainly can induce those types of concerns. As mentioned in the previous paragraphs, the competent authorities can also conduct an SREP. Within the SREP Guidelines, a bank can be obliged to take into account several sub-risks such as reputational risk and be required to hold additional Pillar II capital for these risks.71_’72_{Sustainability, especially with a huge amount of public support, can pose}

serious reputational risks for banks. If a bank pertains to be sustainable but is investing in unsustainable activities, it may result in, for example, client loss. Similar to banks investing in all types of unsustainable activities such as gun fare, tobacco, or oil (originating from countries such as Saudi Arabia, which in their turn disrespect gender equality). If these risks are sufficiently large and quantifiable, an impact can be made by the competent prudential supervisor.

4.2.3. The Banking Reform Package

In November 2016 the Commission proposed to revise the rules on capital requirements (CRDV and CRR2).73_{Which is also referred to as the banking reform package and consist of}

all sorts of risk-reduction measures. On 16 April 2019, the European Parliament adopted the banking reform package.74_{The EBA has been given the mandate to prepare two reports: The}

one on how to incorporate ESG-related risks into the supervisory process and the second one on the prudential treatment of assets associated with environmental or social objectives.75_The

EBA shall submit its report to the Commission, the European Parliament and to the Council by 28 June 2021. Furthermore, as of June 2022 large institutions will be required to publicly disclose information on ESG-related risks they are exposed to.76_{Although very limited, some}

sustainability efforts are being integrated within the framework of prudential supervision. We must now await the reports of the EBA to see how they give substance to this matter.

69_{Bart Bierman, 2019, p. 22, 23, 27.}

70_{For example, a mass flooding that damages the office building.}

71_{European Banking Authority, SREP Guidelines, EBA/GL/2014/13, n. 298.} 72_{Bart Bierman, 2019, p. 24, 25, 26, 27.}

73_{European Commission, EU Banking Reform: Strong banks to support growth and restore confidence, 23} November 2016, found on: http://europa.eu/rapid/press-release_IP-16-3731_en.htm

74_{European Commission, Adoption of the banking package: revised rules on capital requirements (CRR II/CRD}

V) and resolution (BRRD/SRM), 16 April 2019, found on: http://europa.eu/rapid/press-release_MEMO-19-2129_en.htm

75_{Directive (EU) 2019/878 of the European Parliament and of the Council, OJ L 150/253, 20.05.2019, Art. 98d.} 76_{Regulation (EU) 2019/876 of the European Parliament and of the Council, OJ L 150/1, 20.05.2019, Art. 449a.}

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4.3. Monetary policy

This paragraph will examine the mandate of central banks when conducting monetary policy. This research shall discuss the formal mandate of the European System of Central Banks (ESCB). Because DNB and BDF are part of the ESCB, the objectives and tasks are determined by the provisions laid down in the TEU and the TFEU. However, the mandate does differ for both central banks individually. Furthermore, towards the end of the chapter, the question of how sustainable finance can fit within the mandate of central banks will be answered.

4.3.1. The European System of Central Banks/ Eurosystem

Monetary policy within the Eurozone is conducted by the ESCB. The legal basis lies within the TFEU and in the Statutes of the ESCB and of the ECB. The ESCB consists of the ECB and the national central banks (NCBs) of all EU Member States regardless if they adopted the euro. Furthermore, there is the Eurosystem, which consists of ECB and the NCBs of

countries that are in the euro area (the Member States that have adopted the euro as their currency). As long as not all Member States have adopted the euro, the Eurosystem and the ESCB will co-exist. The ECB forms the core of the Eurosystem and the ESCB. 77_Article

127(1) TFEU describes the primary objective of the Eurosystem to be price stability, the ECB tries to maintain inflation rates of below, but close to, 2% over the medium term. The

secondary objective (also following article 127(1) TFEU) is to support the general economic policies in the Union while contributing to the achievement of the objectives laid down in article 3 of the TEU.78_{According to the Gauweiler judgment, a measure belongs to monetary}

policy if, it aims at achieving the objectives of the Eurosystem mandate set by 127(1) TFEU, and it uses monetary policy instruments.79_{The Eurosystem can make use of the following}

instruments when conducting monetary policy;

i) Open Market Operations; Main Refinancing Operations (MROs), (Targeted) Longer-Term Refinancing Operations ((T)LTROs), Fine-Tuning Operations and Structural Operations

ii) Standing Facilities; Marginal Lending Facility and Deposit Facility iii) Minimum Reserve Requirements for Credit Institutions

iv) Asset Purchase Programmes (APPs); Third Covered Bond Purchase Programme (CBPP3), Asset-Backed Securities Purchase Programme (ABSPP), Public Sector Purchase Programme (PSPP) and Corporate Sector Purchase Programme (CSPP)

The standard operational framework of the Eurosystem consists of the first three types of instruments. Since 2009, to complement the regular operations of the Eurosystem, the ECB

77_{European Central Bank, ECB, ESCB, and the Eurosystem, accessed website in June 2019,} https://www.ecb.europa.eu/ecb/orga/escb/html/index.en.html

78_{Article 127(1) TFEU}

79_{Case C-62/14, Peter Gauweiler and others v Deutscher Bundestag, ECJ 16 June 2015; ECLI:EU:C:2015:400,} par. 42.