Serafin Martìnez Jaramillo, Senior Economist at the Central Bank of Mexico, on ESG risk management in Mexico

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BRUSSELS, 26 April 2023

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In this interview, Serafin Martìnez Jaramillo provides some insight on ESG, and in particular environmental, risk and its supervision in Mexico, including the main challenges faced by the supervisor and banks, initiatives at national level to overcome such obstacles, and trends characterizing Mexican banks. Serafin leads the Environmental and Social Risks Analysis and Policy unit at Banco de México and has also conducted research on an array of topics including environmental risk analysis, biodiversity loss, climate change, scenario analysis, financial networks, financial stability artificial intelligence and machine learning.

1. The European Central Bank (ECB) formulated clear expectations for banks on the incorporation of ESG into their risk management. In addition, EU banks must also disclose climate related risk under Pillar III. What are the current expectations and requirements for banks in your country?

Banco de México has been participating at the Mexican Banks' Association "Risk Management Annual Meeting" for the last three years where we have stressed the importance of considering climate (and biodiversity loss) related risks. We are also engaging with the Banking and Securities Commission (CNBV), the supervisor, on a pilot for climate scenario analysis, which is going to be conducted by the Mexican TCFD consortium. In such a pilot some important banks will be asked to perform climate scenario analysis with the outputs from two Integrated Assessment Models (GCAM and Climrisk) provided by Banco de México.

1. What are the main challenges related to the supervision of climate risk? What do you see as the main obstacles banks in your region are facing?

The main challenge for the supervision of climate related risks is the need for additional technical capacities to be developed by the financial authorities and financial institutions alike. Banks face similar circumstances to the authorities as there is an important technical gap that needs to be filled. Nevertheless, Banco de México and the CNBV participate in groups at the NGFS and the BIS in which important discussions about the subject are taking place. From the supervisor point of view, there is also the need for better and detailed information on GHGs emissions (scopes 1, 2 and 3) by individual companies and for information on the precise geographic location where the loans/investments are applied.

1. Are there any initiatives at national level (e.g., data sharing platforms, etc.) that have been envisioned to overcome this obstacle and are you working with banks to develop common solutions or methodologies at national level, or do you believe that solutions need to be developed globally?

The financial system wide climate scenario analysis will help the development of such capacities as well as the internalization of environmental risks by financial institutions. The system wide climate scenarios exercise follows four of the NGFS defined scenarios, which are part of a global initiative and one scenario specifically designed for México. The different outputs produced by the scenarios resulting from the Integrated Assessment Models will be shared with financial and non-financial institutions. The outputs, which can be used for their own analysis of climate related risks, will include:

• emission by each sector and subsectors included in the model,
• carbon prices,
• value added trajectories for each of the sectors included in the model,
• water use,
• land use changes,
• energy production by technology and fuel,
• energy demand by end-user sectors,
• socioeconomic variables,
• GDP impact (from physical risk) at the national, state and lower geographical granularity level.

This information will be provided for each of the five scenarios for every five years from 2020 up to 2100.

Also, climate related risks and other sustainability topics are discussed with other federal financial authorities and the heads of the main financial associations at the Sustainable Finance Committee. Among the many important initiatives there, there is one which is focused on capacity building, not only for financial authorities but also for financial institutions and the general public. This initiative is known as the Sustainable Finance Capacity Building Hub.

1. What are some of the most common trends characterizing banks in your country? What do you observe in terms of best practices of banks in addressing climate risk?

Many banks are conscious of the importance of climate related risks. Some of them, in particular, development banks and some large credit banks, have Systems for Environmental and Social Risk Management already in place (Equator Principles). There is the acknowledgement of the importance of the subject and many of them have created sustainability units. Moreover, many banks abide to the Principles for Responsible Banking.

Starting in January 2023, pension funds will be required to establish ESG training for their officers and Mexican pension funds have increasingly adhered to ESG initiatives such as Principles for Responsible Investment, Climate Action, among others. In addition, a majority of pension funds have developed engagement policies with issuers with the goal of integrating ESG criteria.

In general, there is an increase in the awareness of banks of the TCFD recommendations. With the publication of the IFRS S1 and IFRS S2 next June, we expect banks to speed up in terms of awareness. While IFRS S1 and IFRS S2 are not immediately applicable to banks, México's Financial Standard Setter (CINIF) is expected to promptly issue the standards applicable to banks. However, scenario analysis is still not part of their common risk management processes.

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For more information:

Alexia Femia, Financing Sustainable Growth Adviser, [email protected]

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