Climate-Related Financial Risk Management At Joint Stock Commercial Banks In Vietnam.pdf

UNIVERSITY GRADUATION THESIS

CLIMATE-RELATED FINANCIAL RISK MANAGEMENT AT JOINT STOCK COMMERCIAL BANKS IN VIETNAM

MAJOR: FINANCE - BANKING MAJOR CODE: 7340201

NGUYEN PHAM THUAN HANG

HO CHI MINH CITY, 2024

UNIVERSITY GRADUATION THESIS

CLIMATE-RELATED FINANCIAL RISK MANAGEMENT AT JOINT STOCK COMMERCIAL BANKS IN VIETNAM

MAJOR: FINANCE - BANKING MAJOR CODE: 7340201

STUDENT: NGUYEN PHAM THUAN HANG STUDENT ID: 050608200331

CLASS: HQ8 – GE05

SUPERVISOR

ASSOC PROF, PHD HA THI THIEU DAO

HO CHI MINH CITY, 2024

ABSTRACT

Climate change is occurring rapidly and poses significant risks to the global economy This simultaneously creates material and transitional risks, directly impacting creditworthiness and default potential at banks To ensure financial safety, international organizations have developed various guidelines and regulations for banks to manage climate financial risks This article utilizes content analysis, theoretical research, and qualitative methods to evaluate the framework and implementation level of climate financial risk management, as well as the disclosure level of this risk among 27 commercial banks in Vietnam following the guidance of the BCBS The results indicate an ongoing process of refining the management framework and disclosure of climate financial risks among commercial banks in Vietnam, but the regulations remain insufficiently specific and fail to meet international standards Additionally, the responsibilities of senior management remain unclear, lacking guidance, assessment procedures, and result monitoring Disparities in quantity and quality of disclosed information by banks pose challenges, along with uneven implementation and execution of climate financial risk management systems compared to recommendations Policies and guidelines from the SBV regarding climate financial risk management are still under development, further complicating implementation efforts for banks

Keyword: Climate change, Climate-related financial risk, Disclosure of

climate-related financial risk, Management of climate-climate-related financial risk, BCBS

DECLARATION

This dissertation represents the original research conducted by the author under the guidance of Supervisor, Professor, Ph.D Ha Thi Thieu Dao The findings presented are authentic and do not contain any previously published material or content authored by others, except where appropriately cited within the thesis I acknowledge full accountability for this declaration

The author

Nguyen Pham Thuan Hang

ACKNOWLEGDE

Firstly, I would like to express my sincere gratitude and deep appreciation to my supervisor, Professor, Ph.D Ha Thi Thieu Dao Throughout the completion of this thesis, she has always been by my side, ready to support and guide me She has consistently provided insightful guidance and feedback to help me perfect this work Secondly, I want to extend my heartfelt thanks to the esteemed faculty members in the Department of Finance, Department of Banking, the Executive Committee of the High Quality Program, and the university as a whole, for their enthusiastic support and teaching, which has helped me solidify my knowledge and skills during my university studies

Lastly, I sincerely thank my family, friends, and beloved colleagues for their encouragement and assistance throughout the process of completing this thesis to the best of my ability

Despite my best efforts, due to limited practical experience, there may be some shortcomings in the content of my thesis I eagerly look forward to receiving feedback from esteemed teachers and mentors to further enrich my experience I believe these experiences will contribute to my personal development in the future

I extend my sincere gratitude!

1.5 RESEARCH DATA AND METHODS 5

1.5.1 Data sampling, data collecting, data processing 5

1.5.2 Reseach methods 7

1.6 RESEARCH CONTENT 8

1.7 RESEACH CONTRIBUTIONS 8

1.8 RESEARCH STRUCTURE 9

CHAPTER 2: LITERATURE REVIEW 11

2.1 CLIMATE-RELATED FINANCIAL RISKS 11

2.1.1 Definition 11

2.1.2 Methods of measuring climate-related financial risks 11

3.1 LEGAL REGULATIONS FROM THE STATE BANK OF VIETNAM 30

3.2 CLIMATE FINANCE RISK MANAGEMENT IN VIETNAMESE COMMERCIAL BANKS 32

3.2.1 Principle 1 - Assessing and integrating financial risks associated with climate into their strategy and risk management framework 32

3.2.2 Principle 2 - Participation of the Board of Directors and Senior Management 37 3.2.3 Principle 3 – Policies, procedures and controls for the entire organization 39

3.2.4 Principle 4 – Integrating into the three lines of defense internal control framework 44

3.2.5 Principle 5 – Regularly assessing and integrating climate-related financial risks into internal evaluations of capital safety and liquidity 45

3.2.6 Principle 6 – Comprehensive management of climate-related financial risks 46

3.2.7 Principle 7 - Integrating climate financial risk data and reporting 48

3.2.8 Principle 8 - Managing climate-related credit risks 48

3.2.9 Principle 9 - Managing climate-related financial market risks 51

3.2.10 Principle 10 - Managing climate-related liquidity risks 52

3.2.11 Principle 11 - Managing climate-related operation risks 53

3.2.12 Principle 12 - Scenario analysis 55

3.2.13 Marking climate-related financial risk management of commercial banks in Vietnam 57

CHAPTER 4: CONCLUSIONS AND RECOMMENDATIONS 62

4.1 CONCLUSIONS 62

4.2 RECOMMENDATIONS 63

4.3 LIMITATIONS AND FUTURE RESEARCH 67

REFERENCES i

LIST OF ABBREVIATIONS

International Finance Corporation IFC

LIST OF TABLES

Table 1.1: List of 27 commercial banks researched 5

Table 3.1: Commercial banks in Vietnam and Principle 1 32

Table 3.2: Commercial banks in Vietnam and Principle 2 38

Table 3.3: Commercial banks in Vietnam and Principle 3 40

Table 3.4: Commercial banks in Vietnam and Principle 4 44

Table 3.5: Commercial banks in Vietnam and Principle 5 45

Table 3.6: Commercial banks in Vietnam and Principle 6 46

Table 3.7: Commercial banks in Vietnam and Principle 7 48

Table 3.8: Commercial banks in Vietnam and Principle 8 49

Table 3.9: Commercial banks in Vietnam and Principle 9 52

Table 3.10: Commercial banks in Vietnam and Principle 10 52

Table 3.11: Commercial banks in Vietnam and Principle 11 53

Table 3.12: Commercial banks in Vietnam and Principle 12 55

Table 3.13: Commercial banks in Vietnam and 12 principles from BCBS…………57

LIST OF BOXES

Box 3.1: Instructions and regulations of the SBV 31

CHAPTER 1: INTRODUCTION

Chapter 1 - Introduction: The introductory chapter delves into the subject of sustainability reporting, emphasising the significance of BCSC's guidelines for addressing climate-related concerns Furthermore, it sheds light on the insufficient compliance with the framework and elucidates the thesis's objective

1.1 STUDY MOTIVATION

Globally, climate change is regarded as a central issue of the 21st century for all economies Earth's temperature has risen by over 2°C compared to pre-industrial times, and if current greenhouse gas emissions, especially carbon dioxide (CO2), continue to increase, the average temperature rise could exceed 2°C by 2030 and 4°C by 2100 (Bernal-Ramírez & Ocampo, 2020) At the 21st United Nations Conference on Climate Change in Paris, with representatives from 195 countries (including Vietnam), through the Paris Agreement, a new era of global development has been initiated, characterized by low-carbon emission development, environmentally friendly production and consumption models, reduced dependence on fossil fuels, and promotion of renewable energy development As of August 2023, there have been 26 COP meetings organized, within the framework of COP meetings, countries negotiate measures to minimize the impact of climate change and share responsibility in implementing these activities Previously, these solutions primarily applied to non-financial sectors However, in recent decades, this view has changed, and the financial sector, particularly banking, is increasingly affected by environmental issues (McKenzie & Wolfe, 2004) To mitigate these risks, banks worldwide are striving to enhance climate risk management The Bank of America has committed to achieving net-zero greenhouse gas emissions by 2050 and investing $1 trillion in sustainable finance by 2030 to combat climate change (Bank of America, 2021) Similarly, Citigroup has pledged to reduce net greenhouse gas emissions from its activities and

supply chain by 2050 and will fund $1 trillion for sustainable development projects by 2030 (Citigroup, 2021)

Vietnam, a country facing environmental issues and heavily affected by climate change, has actively participated in international commitments to reduce greenhouse gas emissions and mitigate the impact of climate change while striving for sustainability Vietnam is among the countries most severely affected by climate change (World Bank, 2021) The Vietnamese government actively participated in the United Nations Framework Convention on Climate Change in 1992, the Kyoto Protocol in 1997, the Paris Agreement on Climate Change in 2015, and signed many international bilateral agreements to cope with climate change Despite allocating significant financial resources to climate change priorities, efforts remain insufficient, failing to meet the needs for human resources, technology, infrastructure, and finance Globally, the banking industry and financial institutions have implemented guidelines for managing and controlling environmental risks in the financial sector, such as the Basel Committee on Banking Supervision (BCBS), the Financial Stability Board (FSB), and the Network for Greening the Financial System (NGFS), establishing a financial supervision framework related to climate change to address the threat of climate change to financial stability, but the banking sector's response to this situation remains slow (Nie et al., 2023) In 2022, the BCBS issued guidelines for the effective management and supervision of climate-related financial risks Fulfilling commitments, Vietnam has been and is implementing solutions to reduce the impact of climate change on both the non-financial and financial sectors Faced with pressure regarding environmental responsibility and sustainable development in the financial sector in general and banking in particular, the Ministry of Finance and the State Bank of Vietnam (SBV) has issued Circular No 17/2022/TT-NHNN guiding on environmental risk management in credit activities for credit institutions and foreign bank branches on December 23, 2022

The significant shortage of tools to detect and warn of significant financial risks has made financial management subjective and underestimated the value of underlying risks in the financial system (Engle, 2018) Therefore, developing tools, ratings, and monitoring financial system risks for commercial banks, as well as the entire banking system, is crucial This is particularly important for countries with economies relying on bank credit capital, such as Vietnam, where the financial market structure based on bank credit capital is vulnerable to systemic risks compared to market-based financial market structures When crises occur, the impact on these countries becomes more severe, causing significant consequences for the economy (Bats & Houben, 2020)

With the desire to provide an overview of the implementation and management of climate change risks related to risk management activities of commercial banks in Vietnam, this analysis will focus on evaluating the current status of climate change risk management implementation at commercial banks based on recommendations from international organizations and practices applied in some countries worldwide From there, recommendations will be proposed to enhance effective policies and guidelines for monitoring financial risks related to climate change in Vietnam Therefore, the author has chosen the topic "Climate-related financial risk management at Joint stock commercial banks in Vietnam" for their thesis.

1.2 RESEARCH OBJECTIVES

1.2.1 General objective

This study aims to assess the current practices of commercial banks in implementing measures and procedures guided by the Bank of International Settlements (BIS) and international financial organizations to address financial risks arising from environmental factors such as climate change and other environmental impacts Subsequently, the author proposes recommendations and policies for joint-stock commercial banks in Vietnam regarding the management of financial risks related to climate change

(2) Secondly, review the risk management measures and banking policies implemented to address climate-related financial risks within the framework of financial risk management of banks

(3) Thirdly, propose improvements and optimizations to enhance the effectiveness of financial risk management related to climate change at commercial banks in Vietnam

(2) How have Vietnamese commercial banks implemented measures to control and manage climate-related financial risks within the banking sector?

(3) Which recommendations are suitable to propose for commercial banks in Vietnam to enhance the disclosure of financial risk management related to climate change?

1.4 RESEARCH SCOPE

The research focuses on assessing the implementation status of commercial banks regarding climate-related financial risks in Vietnam The scope of the study

includes 27 joint-stock commercial banks in Vietnam during the period from 2020 to 2023

1.5 RESEARCH DATA AND METHODS

1.5.1 Data sampling, data collecting, data processing

The research sample comprises 27 joint-stock commercial banks out of the total number of such banks in Vietnam during the period from 2020 to 2023, excluding banks involved in buying and selling, mergers, 100% state-owned commercial banks, banks with 100% foreign capital, and foreign bank branches in Vietnam due to insufficient data (Table 1.1)

The research timeframe spans from 2020 to 2023, during which guidelines and regulatory frameworks pertaining to the management of financial risks associated with the environment have become progressively clearer, considering the current time, which also accounts for the collection of the latest information disclosures and annual reports from commercial banks (the 2023 annual reports are expected to be published around March to April 2024) In May 2020, the NGFS organization officially released the "Guide for Supervisors Integrating Climate-related and Environmental Risks into Prudential Supervision," and in June 2022, the BSCS organization announced the "Principles for the Effective Management and Supervision of Climate-related Financial Risks" During the period from 2020 to 2023, a time when joint stock commercial banks in Vietnam commenced active engagement with climate change, reports related to the environment gained increased emphasis, and policies for managing the system of environmental and social risk management in banks gradually saw improvement

Table 1.1: List of 27 commercial banks researched

Asia Commercial Joint Stock Bank ACB

Joint Stock Commercial Bank for Investment and Development of Vietnam BID

Source: Synthesized by the author

1.5.2 Reseach methods

This study primarily aimed to evaluate the level of financial risk management practice, specifically climate-related financial risk management, in commercial banks in Vietnam Additionally, an effort was made to assess the progress in developing internal assessment frameworks and the level of compliance with environmental risk management among commercial banks in Vietnam As the concept of climate-related financial risk management is relatively novel in emerging scenarios, the study employed the following research methods:

The study utilizes content analysis methods referenced in Bowman (1984) and

Stemler (2015) for the first two questions The authors extract textual data annually from annual reports, sustainable development reports, and financial reports published on the official websites of banks from 2020 to 2023 The study employed Vietnamese textual data, searching for keywords such as “phat trien ben vung”, “tai chinh lien quan den khi hau”, “rui ro tai chinh chinh lien quan den bien doi khi hau”, “tin dung xanh”, “tai chinh xanh, “ngan hang xanh"" Furthermore, the study focuses on searching within annual reports, sustainable development reports, and financial reports for relevant information and keywords in sections such as "Corporate Governance," "Risk Management," "Environmental and Social Impact Reports," and "Sustainability Content," which may be substituted with similar keywords depending on the bank's report Additionally, for information published on the official websites of banks and searching tool on Google, the study applies similar keyword searches in both Vietnamese and English languages using the "exact phrase" option in the "all" category, covering the period from January 1, 2020, to December 31, 2023

Furthermore, to gather supplementary information, the study utilizes secondary data sourced from bank websites, mainstream media sources on Google, and Google Scholar to assess the operational status of commercial banks in Vietnam

Subsequently, content analysis methods are employed to collect data from sources

such as information posted in relevant newspapers and magazines The collected information and data will be compared and cross-referenced with BCBS advisory

documents under BIS to evaluate the implementation level and statistical status at

commercial banks in Vietnam Following this, the study will employ quantitative

analysis methods to measure the implementation level and effectiveness of financial

risk management measures at commercial banks in Vietnam

Based on the results obtained during the research process, the authors will provide recommendations to enhance banks' compliance with regulations regarding environmental financial risks Furthermore, the study suggests potential avenues for further research to address the limitations encountered in this investigation

1.6 RESEARCH CONTENT

This research seeks to identify the regulations governing the management of financial risks related to the environment within commercial banks Subsequently, it aims to assess the compliance level of commercial banks in Vietnam regarding adhering to financial risks associated with the environment The study will employ both theoretical frameworks and empirical research conducted by scholars domestically and internationally concerning financial risks related to the environment Through a comprehensive analysis, the research will provide insights into these issues, specifically focusing on 27 Vietnamese joint-stock commercial banks during the period from 2020 to 2023

Drawing from the findings obtained during the research process, the authors will present recommendations to enhance banks' compliance with regulations pertaining to environmental financial risks Furthermore, the study proposes future research directions to address limitations encountered in this investigation

1.7 RESEACH CONTRIBUTIONS

The research project on "Climate-related financial risk at Joint stock commercial banks in Vietnam" holds particular scientific significance in the current context, where climate change poses significant challenges to the global economy

and financial systems The significance of this study includes:

Firstly, the research contributes to a deeper understanding of the impacts of climate change on the commercial banking sector and the global financial system By exploring the effects of climate change, the study sheds light on its implications for commercial banks, thereby enhancing our understanding of this critical issue Additionally, the study highlights key points from the BIS guidelines

In academic term, while researches on climate-related financial risk

management in commercial banks globally has been well-established for some time, with over a million research results available on Google Scholar, such research remains relatively new in Vietnam Previous studies in Vietnam have mainly focused on theoretical aspects or have centered on policies from the SBV The specific examination of compliance with and management of climate-related financial risk in Vietnamese commercial banks is lacking, making this study a pioneering endeavor in the field

In practical terms, the research evaluates and presents practical insights into how Vietnamese commercial banks develop, establish, and implement measures to address financial risks stemming from climate-related factors It offers an objective view of the strategies and measures employed by banks to manage and mitigate the impact of these risks Furthermore, the study identifies and highlights existing gaps and deficiencies, providing valuable insights for Vietnamese commercial banks to improve their risk management practices Additionally, the research proposes practical measures for banks to enhance their effectiveness in addressing persistent challenges and recommends that the SBV review and supplement legal frameworks

to provide guidance and oversight for commercial banks in Vietnam

1.8 RESEARCH STRUCTURE

In addition to the appendices, table of contents, and references, the research is presented in the form of four chapters

Chapter 1: Introduction

The author will provide an overview of the dissertation topic, the urgency of the research, the research subjects, objectives, and scope A brief overview of the research methods to be used in the article will be outlined

Chapter 2: Literature review

This study systematizes a range of evaluations and literature reviews on the BCBS and the environment related to financial risks Introduction of relevant theories and guidelines from the BCBS

Chapter 3: Current status on climate-related financial risks management in Vietnam

The dissertation employs content analysis and qualitative research analysis methods It outlines the current practices of commercial banks in Vietnam with regard to principles and guidelines related to environmental financial risks issued by the BIS

Chapter 4: Conclusions and Recommendations

This section proposes recommendations such as policy implications for the development of the financial risk related climate for commercial banks in Vietnam

CHAPTER 2: LITERATURE REVIEW

In chapter 2, the thesis will briefly present the Principles for the Effective Management and Supervision of Climate-related Financial Risks from BCBS of BIS and related theories Besides, the thesis will lead previous studies related to the topic, which is also the basis for forming research models and methods

2.1 CLIMATE-RELATED FINANCIAL RISKS

2.1.1 Definition

Climate-related financial risks refer to the set of potential risks that may result from climate change and that could potentially impact the safety and soundness of individual financial institutions and have broader financial stability implications for the banking system (BCBS, 2022)

Climate-related risks are divided into two primary categories: Transition risks and Physical risks (TCFD, 2017)

Transition risk refers to the risks resulting from changes to policies, technology

and people’s preferences that are brought about by climate change For example, policies on the pricing of emissions will affect the return from emissions-intensive assets, and people’s preferences for green energy can have separate yet similar effects

Physical risk emerging from climate change are divided into two categories:

acute or chronic Acute physical risks are those that are triggered by a specific event, such as an increase in the severity of extreme weather phenomena like hurricanes, floods, or cyclones Chronic physical risks, on the other hand, are caused by long-term changes in climate patterns, such as continuous high temperatures that could lead to sea level rise or recurrent heat waves

2.1.2 Methods of measuring climate-related financial risks

Among the various risk measurement processes currently being applied by banks and supervisory agencies, prominent methods for monitoring climate-related

financial risks include: (i) Climate risk scores or ratings; (ii) Scenario analysis; (iii) Stress testing; (iv) Sensitivity analysis (Basel Committee on Banking Supervision, 2021)

Climate risk scores or ratings: Climate risk scores assess the level of climate

risk associated with assets, enterprise investment portfolios, or nations This method combines risk classification with a scoring criterion to assign quality scores to categorized risks The scoring criteria used in these methods may be based on qualitative or quantitative factors Climate risk scores can help banks and supervisory agencies evaluate the relative climate risk level of current and future credit intermediary activities The methods and criteria for ranking climate risks between banks and other entities include approaches developed with high-detail data, particularly by location, supply chain, and specific subject information However, this method may have biases in cases of smaller partner data and short data histories

Scenario analysis: Climate scenario analysis forecasts future risk outcomes and

is typically conducted in four steps: (i) identifying physical and transitional risk scenarios; (ii) linking the impact of scenarios to financial risks; (iii) assessing counterparties and/or industries sensitivity levels to those risks; (iv) extrapolating the impact of these sensitivity levels to calculate aggregated exposure and potential losses Scenario analysis can be performed at various detailed levels to identify impacts on individual risks or investment portfolios By testing the impact of a range of plausible scenarios, scenario analysis can also aid in quantifying risks and clarifying uncertainties inherent in climate-related risks

Stress testing: Stress testing is a specific subset of scenario analysis, often used

to assess the short-term recovery capacity of a financial organization against economic shocks, typically through capital adequacy targets Generally, when considering payment capability, there are two types of stress tests: System-wide stress testing, measuring the impact of financial shocks on the financial system, which can cause systemic risks; and micro-level stress testing, assessing the payment capability of a financial organization, individual, with investment portfolio risks Recently,

stress testing has been expanded by some banks and supervisory agencies to include climate-related financial risks Climate stress testing evaluates the impact of severe but plausible climate scenarios on the recovery capabilities of organizations or financial systems

Sensitivity analysis: Sensitivity analysis is also a subset of scenario analysis

used to assess the impact of a specific variable on economic outcomes In these analyses, a parameter is altered multiple times through scenario runs to observe the range of output results from the scenario In certain cases, some parameters may be altered to observe interactions between parameters Sensitivity analysis is often used in assessing transition risks to analyze the underlying effects of a specific policy related to climate, particularly in industries related to carbon theory

2.2 THEORETICAL BACKGROUND

Based on the theory and factors influencing the disclosure of financial risk management information related to climate change by businesses mentioned above, disclosing information about environmental risks and the bank's policies on climate risk management can reflect the bank's level of legal compliance, thereby gaining societal support and contributing to the development of the business Therefore, if the legal framework is not strong enough, it may weaken the disclosure activities of the business (Roberts et al., 2005) Hence, this study focuses on evaluating the legal framework of the State Bank of Vietnam regarding the disclosure of climate risk management information by the banking system in Vietnam

2.2.1 Legitimacy theory

The theory of legitimacy is a system-oriented theory, meaning that an organization both influences and is influenced by the society in which it operates (Deegan, 2002) According to the theory of legitimacy, companies always strive to ensure that they comply with the norms and standards of the society in which they exist These norms and standards are not fixed; rather, they evolve over time, requiring organizations to adapt (Brown & Deegan, 1998)

Legitimacy is believed to be associated with the concept of "social contract" or "license to operate." The social contract is drafted between the organization and society and is shaped by prevailing standards Society can revoke this contract if the organization acts improperly (Brown & Deegan, 1998; Deegan, 2002) The continuity of a company depends on the ability to act in congruence with the society's expectations, it is expected that it will strive to have its activities accepted and perceived as legitimate (Dias Filho, 2012) For this reason, corporations tend to strive to be perceived as socially responsible organizations (Suchman, 1995) Whenever the expectations of the "relevant public" regarding the organization's activities clash with the actual activities of the organization, the legitimacy of that organization is endangered This phenomenon is referred to as "legitimacy gap" (Brown & Deegan, 1998) If the legitimacy gap arises due to the organization's misalignment, the organization's viability will be significantly reduced (Oliver, 1991)

By disclosing financial risk information related to climate change, businesses demonstrate their compliance with social standards to the public, making it an important corporate communication tool for companies to achieve their strategic objectives Therefore, the theory of legitimacy is a significant driver for companies to disclose more risk management information to align with legal regulations, thereby achieving sustainable growth through societal consensus (Eccles & Viviers, 2011) Legitimacy theory emphasizes maintaining legitimacy and societal acceptance By disclosing information on climate-related financial risk management, companies enhance their chances of gaining recognition and acceptance from the community, fostering a stable and sustainable business environment

2.2.2 Institutional theory

Institutional theory, which examines the factors influencing the overall productivity of businesses (Kostova & Marano, 2019), is a topic frequently explored in academic literature, given the crucial role of information disclosure in shaping a firm's reputation for integrity (Campbell, 2007) Firms operating in similar institutional environments tend to adopt comparable courses of action, reflecting how

the theory can shed light on the impact of social and environmental initiatives on business performance (Bilyay-Erdogan, 2022) theory highlights the influence of organizational environments and societal factors on organizational behavior Companies often act in line with established patterns within their organizational and societal environments Disclosure of information on climate-related financial risk management reflects the organization's adaptability to meet the requirements and expectations of its organizational and societal environment

2.2.3 Signaling theory

Signaling theory, rooted in the concept of asymmetric information, posits that in situations where there's a disparity in information, the party possessing the information must send signals to the party lacking it to achieve specific objectives (Connelly et al., 2011) Consequently, increasing channels of communication enhances information availability between companies and stakeholders, thereby mitigating information asymmetry (Peng & Isa, 2020) The disclosure of climate-related financial risks serves as a voluntary tool for providing information, aiding investors in forecasting economic returns Signaling theory focuses on transmitting messages and creating signals for stakeholders Disclosure of information on climate-related financial risk management can be used as a signal to demonstrate a company's commitment to risk management and environmental protection, thereby building trust and enhancing the company's reputation Hence, companies utilize it to signal sustainable outcomes, thereby bolstering corporate reputation

2.2.4 Voluntary disclosure theory

In recent years, society's concern for environmental issues has motivated companies to voluntarily disclose information about social and environmental issues, in order to demonstrate their responsibility towards environmental issue environment and community Research by Brown and Deegan (1998), Deegan and Rankin (1996), Deegan and Gordon (1996), Gray, Walters, Bebbington, and Thompson (1995), and Patten (1992) confirms this Disclosure of this information can be understood as a

way to enhance a company's image or reduce social pressure from stakeholders (Deegan & Gordon, 1996; Deegan, Rankin, & Tobin, 2002) Increased environmental disclosure is not only driven by public or regulatory pressure, but also by the need to improve image and reputation with customers, regulators, investors and the community at large (Adams, 2002)

According to Peter S Rose (2004), a commercial bank is a business corporation organized for the purpose of maximizing shareholder value with an acceptable level of risk This requires banks to constantly seek new opportunities for growth, improve operational efficiency, planning and control efficiency From this perspective, a commercial bank can also be considered a business corporation, operating with the goal of maximizing profits with an allowed level of risk

Voluntary disclosure of environmental information aims to convey information to shareholders (Li et al., 1997; Bewley & Li, 2000) Companies use environmental information as a way to communicate their environmental strategies to shareholders (Clarkson et al., 2008) Voluntary theory suggests that companies voluntarily disclose information on social and environmental issues to improve their image and reputation Disclosure of information on climate-related financial risk management can be seen as a way for companies to demonstrate their commitment to environmental protection and social responsibility, creating long-term benefits for them in building relationships with stakeholders

2.2.5 Stakeholder theory

Stakeholder theory suggests that organizations have a responsibility to manage conflicting interests among various parties by striving for an optimal balance (Pesqueux & Damak-Ayadi, 2005) By effectively managing relationships with stakeholders, businesses can attain long-term sustainable success (Freeman et al., 2010) From this perspective, banks prioritize the satisfaction of stakeholders, particularly depositors, and provide robust support to safeguard their funds and uphold stakeholder interests in banking products and services (Birindelli et al., 2018) This theory advocates for the utilization of internal management tools focusing on

strategies aimed at achieving primary non-financial objectives, thereby enhancing

social welfare and environmental conditions (Peng & Isa, 2020) Stakeholder theory

emphasizes managing relationships with stakeholders and balancing conflicting interests Disclosure of information on climate-related financial risk management can be viewed as a way for companies to manage relationships with stakeholders, meet

their expectations, and enhance satisfaction and trust from stakeholders

2.3 FRAMEWORK FOR MANAGEMENT CLIMATE-RELATED FINANCIAL RISKS OF BCBS

The Basel Committee serves as the primary global authority for establishing standards governing the prudent regulation of banks and serves as a platform for collaboration on matters related to banking supervision Its objective is to reinforce the regulation, supervision, and operational standards of banks worldwide in order to bolster financial stability

Access to consistent, comparable, reliable, and understandable risk information has become increasingly crucial for creditors and investors To address this growing demand, several standards for climate-related disclosure have been established However, these standards primarily focus on disclosing information related to climate impacts, such as greenhouse gas emissions Users of such disclosures often highlight the absence of information regarding the financial implications of an organization's climate-related activities as a significant gap

The Committee has developed a separate set of consultation documents tailored specifically for the banking industry, distinct from the general industry guidelines provided by TCFD This specific guidance for the banking sector aims to enhance transparency regarding banks' risk exposure across various sectors and assists users in evaluating their banks' sensitivity to the transition towards a low-carbon economy While the disclosure recommendations are voluntary, they serve as guidance for investors, lenders, insurance underwriters, and other stakeholders BCBS is used by many central banks as well as the IMF and World Bank (Kandrács, 2019) Besides,

according to Adrian et al (2023), the importance of institutions for effective banking supervision has been widely recognized through the acceptance of the core principles of banking supervision of BCBS (2012) In Vietnam, Decision No 986/QD-TTg of the Prime Minister dated August 8, 2018 requires that by the end of 2025, banking inspection and supervision must comply with most effective banking supervision principles results according to Basel Therefore, this study uses the supervisory framework of BCBS (2022) as the objective to evaluate the climate change related financial risk supervisory framework of the banking system in Vietnam

In June 2022, BCBS issued 12 governance principles (1-12) that banks must implement and 06 supervision principles (13-18) in which supervisory agencies need to manage to minimize climate-related financial risks (BCBS, 2022) Important contents related to legal activities are presented as follows:

Principle 1: The critical importance for banks to develop and execute a robust process for comprehending and evaluating the potential impacts of climate-related risk factors on their business operations and the environments they operate within

According to guidance from BCBS, Principle 1 emphasizes (1) reviewing significant climate-related financial risks across various timeframes; (2) integrating them into comprehensive business strategies and risk management frameworks; (3) the pivotal role of the Board of Directors and senior management in this process; and (4) ensuring clear communication of this approach throughout the organization

Specifically, banks must consider both physical and transition risks when crafting their business strategies This involves assessing how these risks could affect the resilience of the bank's business model in the short, medium, and long terms, as well as their impact on achieving the bank's objectives Furthermore, banks should evaluate their sensitivity to structural changes in the economy, financial system, and competitive landscape due to climate-related risk factors The involvement of the Board of Directors and senior management is crucial at various stages of this process, and the approach established by the Board must be effectively conveyed to managers and employees throughout the organization Moreover, BCBS recommends that the

Board of Directors and senior management assess whether integrating significant climate-related financial risks into the bank's overall business strategy and risk management framework may require adjustments to compensation policies Finally, banks should ensure consistency between their risk management framework and stated goals This necessitates aligning internal strategies and risk acceptance statements with any climate-related strategies and commitments communicated publicly

Principle 2 - Supervision and Participation Responsibilities of the Board of Directors and Senior Management

According to the consultative document of BCBS, Principle 2 emphasizes the importance of the board of directors and senior management in assigning and supervising climate-related responsibilities within the organizational structure Banks need to ensure the enforcement of climate-related financial risk management responsibilities by clearly assigning them to board members and/or committees to ensure these risks are adequately considered in the bank's business strategy and risk management framework Moreover, the board of directors and senior management must possess sufficient understanding of climate-related financial risks, and the senior management must have the necessary skills and experience to manage these risks Banks should develop training programs and capacity-building initiatives, internally or through partnerships with expert organizations, as necessary BCBS recommends that the roles and responsibilities related to identifying and managing climate-related financial risks be clearly defined within the bank's organizational structure Relevant functions and business units should be equipped with adequate resources and expertise to effectively fulfill these responsibilities If dedicated climate units are established, their responsibilities and interactions with existing governance structures need to be clearly outlined

To adhere to Principle 2, banks should (1) clearly assign climate-related responsibilities, (2) ensure adequate understanding and skills within the board of directors and senior management, and (3) clearly delineate roles and responsibilities

throughout the organizational structure to effectively manage climate-related financial risks

Principle 3 - Consistent Implementation of Appropriate Policies, Procedures, and Controls Throughout the Organization

Banks should apply appropriate policies, procedures, and controls consistently across the entire organization to ensure effective management of climate-related financial risks Managing significant climate-related financial risks must be integrated into policies, procedures, and controls across all functional departments and relevant business units, including activities such as customer onboarding and transaction evaluation

Principle 4 - Integrating Climate-Related Financial Risks into Three Lines of Defense Framework

Banks should integrate climate-related financial risks into their internal control framework across three lines of defense to ensure the identification, measurement, and mitigation of these risks in a reasonable, comprehensive, and effective manner Specifically, the internal control framework must include clearly defined responsibilities related to climate-related risks as well as reporting lines across the three lines of defense BCBS has outlined key focuses and considerations within the three lines of defense model for banks:

First Line of Defense: During customer onboarding, credit application, credit review, as well as ongoing monitoring and engagement with customers, risks related to climate should be assessed Employees here need to have full awareness and understanding of potential climate-related financial risks

Second Line of Defense: The risk management function should independently assess and monitor climate-related risks separate from the first line of defense The compliance function must ensure adherence to current rules and regulations

Third Line of Defense: The internal audit function should provide independent assessment and ensure objectivity regarding the overall internal control framework,

all three lines of defense, and risk control framework amidst changes in methodologies, business operations, risk profiles, and the quality of underlying data

Principle 5 - Identifying and Quantifying Climate-Related Financial Risks and Integrating Them into Internal Assessment Processes

As per BCBS guidelines, banks are required to identify and quantify related financial risks and integrate significant risks into their internal assessment processes for liquidity and capital adequacy, including appropriate stress testing programs Specifically, banks should (1) establish procedures to assess the impact of climate-related financial risks on their capital planning, incorporating significant risks into their internal capital adequacy assessment process Banks should evaluate whether climate-related financial risks could lead to cash outflows or deplete liquidity buffers under both normal business conditions and stressful scenarios Importantly, banks (2) must integrate climate-related financial risks, along with physical and transitional risks related to their business models, risk profiles, and business strategies, into their internal assessment processes for capital adequacy and liquidity Additionally, they should (3) assess these risks in stress testing programs to evaluate the financial recovery capability of banks in severe potential situations BCBS acknowledges that climate-related financial risks may evolve and increase over time as analysis methods and data improve Therefore, banks should (4) start building risk analysis capabilities by identifying related risk factors, developing risk metrics to quantify exposure levels, and evaluating the relationship between climate-related financial risks and traditional financial risks such as credit and liquidity

climate-Principle 6 - Ensuring Comprehensive Management of Climate-related Financial Risks

Banks are required to manage climate-related financial risks to ensure financial stability, including capital and liquidity This necessitates that their risk management framework considers all climate-related financial risks and establishes a reliable approach to identify, measure, monitor, and manage them

The BCBS emphasizes that banks must (1) identify, monitor, and manage all climate-related financial risks that could seriously damage financial stability, including capital and liquidity To achieve this, banks need to (2) ensure that their risk management framework and risk appetite carefully consider all significant climate-related financial risks and establish a reliable approach to identify, measure, monitor, and manage these risks Additionally, (3) the board of directors and senior management must ensure that climate-related financial risks are identified and addressed clearly within the bank's risk appetite framework Banks also need to (4) regularly conduct comprehensive assessments of climate-related financial risks and set clear definitions and thresholds for significant risks Furthermore, banks should (5) consider risk mitigation measures such as establishing internal limits for significant climate-related financial risks It is important to note that due to the increasing nature of climate-related risks, additional channels to transfer these risks to traditional financial risks may need to be considered, understanding and managing the impact of climate-related risk factors on other significant risks

Principle 7 - Integrating Climate Financial Risk Data and Reporting

Banks must ensure that their internal reporting systems are capable of monitoring key financial risks related to climate and providing timely information for effective decision-making by the board of directors and senior management

To achieve this, banks need to (1) integrate financial risks from climate into aggregated data to identify the level of risk, concentration, and new risks They also need to (2) invest in data systems and enhance existing infrastructure to collect, clean, and consolidate necessary data to assess these risks Additionally, banks should (3) consider engaging customers and partners to gather additional data on their transformation strategies and risk profiles When data is insufficient, they may (4) use reasonable assumptions as alternatives Internal reports should (5) be updated regularly to reflect the diversity and changes in climate-related financial risks Finally, (6) banks should develop metrics and indices to assess, monitor, and report these risks, while specifying limitations in data assessment if any

Principle 8 - Understanding and Managing Climate-related Credit Risks

Banks need to (1) establish clear credit policies and procedures to address significant credit risks related to climate This includes taking precautionary measures to identify, measure, evaluate, monitor, report, and control or mitigate the impact of critical risk factors related to climate on their credit risk level, including partner credit risk, in a timely manner Banks should (2) integrate consideration of significant climate-related financial risks throughout the entire credit life cycle, including customer assessment as part of the onboarding process and continuous monitoring of customer risk profiles Banks should also (3) identify, measure, evaluate, monitor, report, and manage the concentration level of climate-related financial risks within and across risk types For example, they may use data or heat maps to assess and monitor the concentration level of exposure to geographic areas and climate-related risk areas Banks should also (4) consider multiple risk mitigation options to control or reduce serious credit risks from climate, including adjusting credit collateral criteria, deploying customer engagement objectives, imposing lending limits or restrictions, and applying appropriate risk mitigation techniques for their risks

Principle 9 - Understanding and Managing Climate-related Financial Market Risks

To adhere to and implement Principle 9, banks need to (1) take measures to identify and understand how climate-related risk factors may affect the value of financial instruments in their investment portfolios Concurrently, assess potential loss and increased volatility risks in investment portfolios and establish effective procedures to control or mitigate related impacts Banks should (2) analyze sudden shock scenarios to understand and assess the relevance of financial risks from climate to their business portfolios This highlights liquidity differences among assets facing climate-related risks and assumes changes in speed that could reasonably end risks When assessing climate-related risks in market prices, banks need to (3) consider how price levels and availability of risk mitigation measures may change across various transition pathways and climate scenarios, even in cases of disorderly transitions

Principle 10 - Understanding and Managing Climate-related Liquidity Risks

Banks should understand the impact of climate-related risk factors on their liquidity risk profiles and ensure that risk management systems and procedures consider significant financial risks related to climate

Following BCBS guidelines, banks should (1) assess the impact of related financial risks on cash flow (e.g., increasing credit limits, withdrawing deposits quickly) or the value of assets comprising liquidity buffers When necessary and appropriate, banks should (2) incorporate these impacts into adjusting liquidity buffers and into their liquidity risk management framework

climate-Principle 11 - Understanding and Managing Climate-related Operational Risks

Banks need to understand the impact of climate-related risk factors on their operations and ensure that risk management systems and procedures consider significant risks related to climate Concurrently, they should be aware of the impact of climate-related risk factors on other types of risks and take appropriate measures to address these risks if they are significant This includes (1) assessing how climate-related risk factors can lead to compliance, reputation, and increasingly stringent regulatory risks, as well as the legal responsibility costs related to sensitive investment and business activities For their overall business operations, banks need to (2) assess the impact of climate-related risk factors and the ability to continue important activities They also need to (3) analyze how physical risk factors may affect the continuity of their business operations and consider significant risks related to climate when developing ongoing business plans Finally, they should evaluate the impact of climate-related risk factors on other types of risks such as strategic risk, reputation, regulatory compliance, and legal responsibility, and consider these risks, if necessary, in their risk management processes and strategy setting

Principle 12: Scenario Analysis

Banks should apply scenario analysis to assess the resilience of their business model and strategy to reasonable climate-related approaches and identify the impact of climate-related risk factors on their overall risk profile BCBS has noted that this

analysis should (1) focus on physical risks and transition risks, which are drivers of credit, market, operational, and liquidity risks over an appropriate timeframe The goal of climate scenario analysis should reflect the overall climate risk management objectives of the bank, set by the board of directors and senior management Banks need to (2) build capacity and expertise to conduct scenario analysis appropriate to their scale and complexity (3) Scenario analysis should use multiple timeframes to meet different risk management objectives, and the field of climate scenario analysis should be (4) reviewed and updated regularly by multiple experts and independent functional departments, particularly in the context of climate science advancement

2.4 EMPIRICAL EVIDENCES ON CLIMATE CHANGE RELATED FINANCIAL RISK MANAGENT

To gain comprehensive understanding, the author referenced relevant prior research articles

According to a scientific journal titled "A New Framework for Assessing Climate Change Risks in Financial Markets" (Alvare et al., 2020), the authors meticulously identified and carefully examined various classifications of financial markets and climate-related risks They delved into operational risks, market structure, and market regulations within a new framework to describe the overall impact of climate change risks on financial markets and systemic risks These factors advocate for a modified framework to address climate-induced changes, contrasting with adhering to conventional financial, operational, and climate frameworks separately Another notable study titled "Precautionary Climate-Related Risks in the Banking Sector: Assessing Emerging Management and Supervisory Measures" (Feridun et al., 2020), scrutinized monitoring activities and the development of regulations related to the emergence of climate-induced safety risks in the banking sector The authors evaluated considerations regarding climate-related financial risks in the banking sector, conducted extensive reviews of relevant academic literature, and analyzed policy publications from various regulatory agencies This study also

highlights the significance for banks and banking regulatory agencies in different legal jurisdictions, guiding them to identify necessary actions to address climate change risks in the banking sector

Additionally, in Vietnam, there have been two scientific articles addressing this topic The first one, "Financial Risks Related to Climate Change - Recommendations for Vietnamese Commercial Banks" (Vo Thi Kieu Oanh, 2023), provides an overview of financial risks related to climate change, systemic impacts, and proposes additional recommendations for Vietnamese commercial banks The second scientific article, "Climate Risk Monitoring at the European Central Bank and Recommendations for Vietnam" (Ha Thi Thieu Dao & Nguyen Thi Quy, 2023), analyzes the transmission channels of climate-related risks, transitioning from physical risks to systemic risks in the financial system It also explores actions taken by central banks in European countries to cope with these risks Consequently, the article provides policy recommendations for Vietnam in financial monitoring against the impacts of climate change Overall, these two scientific articles offer a comprehensive overview of theories related to financial risks associated with climate change and propose policy-building solutions, directing operational guidelines for the SVB However, they do not delve into internal operational issues of commercial banks

Currently, the frameworks for monitoring financial risks related to climate change are commonly issued by BCBS, FSB, NGFS In addition, central banks and financial regulatory agencies in the world increasingly recognize that climate change has significant implications for the financial stability of the banking system Central banks worldwide have different responses to climate-related financial risks

The Bank of England (BoE) was the first central bank in the UK to pay attention to financial risks related to climate change, starting in 2014 The report of the Bank of England on the impact of climate change on the insurance sector of the UK was published on September 29, 2015 They confirms that managing climate-related risks is part of its statutory duty The Bank of England (BoE) has released “the Bank of

England Climate Disclosure 2023”, which includes scenario analysis for assessing financial risk across all three asset classes (BoE, 2024)

The central bank of Canada (BoC) and the Office of the Superintendent of Financial Institutions (OSFI) have issued guidance reports and the results of scenario analysis of climate-related risks for six financial institutions in Canada, emphasizes potential macroeconomic impacts, including changes in domestic and international policies affecting the Canadian economy, as well as the impact of global climate policy changes on capital exports and commodities Besides, BoC released “Bank of

Canada Disclosure of Climate-Related Risks 2022”, which establishes a foundation

on which to build a comprehensive long-term strategy (BoC, 2023)

The Bank of Japan (BoJ) has established an internal network, the Climate Coordination Center, to enhance industry-wide banking initiatives on climate change In the view of the BoJ, supporting private sector efforts on climate change from central banks will contribute to macroeconomic stability in the long run (BoJ, 2021) The European Central Bank (ECB) has conducted stress tests on the risk of climate change for 41 financial institutions in the European Union In the most difficult scenario, these organizations could face up to 70 billion euros in credit and market losses due to increased natural disasters and profound changes in economic sectors They have requested that banks intensify efforts to manage climate risks and adjust collateral asset policies to encourage less polluting activities (ECB, 2022)

To minimize the impact of climate-related risks on financial stability, financial regulatory agencies are increasingly requiring more climate risk assessments While financial losses and risks associated with climate change can harm many individuals and organizations, central banks and financial regulatory agencies are increasingly concerned about the impact on the financial sector If climate risks are not effectively managed, banks may suffer serious financial losses and reputational damage However, if banks take proactive steps to manage climate risks, they will not only reduce risks but also contribute to a sustainable future Exemplary studies show that many banks are taking specific steps to effectively manage climate risks, including

integrating climate risks into their overall risk management frameworks, developing climate risk management tools, and controlling influencing factors

2.5 RESEACH GAP

It is necessary to acknowledge certain inherent limitations in the aforementioned studies, primarily stemming from constraints in time and research scope Consequently, representativeness may be compromised Both studies propose new frameworks to address challenges posed by climate change The first article suggests a new framework for assessing the overall impact of climate change risks on financial markets and systemic risks The second article examines emerging management and supervisory practices, while also suggesting solutions for banks and banking regulatory authorities to address climate change risks in the banking sector Moreover, they emphasize the interrelationship among various factors, such as financial markets, climate risks, operational risks, and management norms They argue for an integrated approach that considers these factors comprehensively, rather than relying on separate traditional frameworks Importantly, the field of environmental financial risk management in Vietnam has not attracted significant attention, as evidenced by the lack of research articles on this topic in Vietnam Recent studies in Vietnam have focused on the general introduction and definition of climate financial risks, the monitoring practices of SBV, and general recommendations for commercial banks and SBV Therefore, corresponding to the current situation in Vietnam, the actions, implementation, and actual disclosures of commercial banks in Vietnam regarding climate financial risks are issues that require in-depth research attention

SUMMARY OF CHAPTER 2

Chapter 2 has undertaken a synthesis of relevant theoretical frameworks and background theories pertaining to compliance with climate-related financial risk management Additionally, this chapter has provided definitions of BCBS, climate financial risks, and management guidance frameworks from BCBS Chapter 2 also