The Carbon Content of Italian Loans

This post is the latest in our special issue: “Climate Change and Financial Markets – Risk, Regulation, and Innovation.” To learn more about the special issue and the work of the Global Financial Markets Center around climate change and financial markets, please read the special issue’s introduction here. And to review all The FinReg Blog posts that touch on climate change, go here. 


Climate-related financial risks top the financial supervisors’ agenda

Climate modifications, extreme climate events, and climate policies all affect the financial system through multiple channels (Carney, 2015Batten et 2018; Breeden 2020) . More frequent and intense extreme weather events harm fixed capital assets, reducing the ability of borrowers located in the affected areas to repay their debt (physical risk). Energy and climate policies designed to achieve a transition to a carbon-free economy may reduce the value of carbon-intensive assets, especially if these measures are implemented abruptly (transition risk).

These risks are on top of the agenda of central bankers and supervisors around the world (Campiglio et al 2018ECB, 2020;  Bolton et al, 2020; Faiella and Malvolti, 2020). Some central banks (BoE, 2015; DNB, 2016 and 2018; ECB, 2019), have already started to analyses these risks or are planning to run comprehensive exercises in the coming years (BoE, 2019). Initiatives such as the Network for Greening the Financial System (NGFS), a voluntary group of central banks and supervisors, are trying to coordinate and harmonize the approaches (NGFS, 2019). But, the quantification of these risks is still limited due to a severe lack of data, the need for a forward-looking approach in evaluating risks (Bolton et al., 2020) and, for some analysts, a ‘precautionary’ policy approach (Chenet et al., 2019).

Assessing the exposure of the Italian financial system to transition risks

To better understand how transition risks might influence the Italian financial system, our recent paper presents some evidence on the carbon content of Italian firms’ loans. We propose a simple and transparent method to define an industry-level indicator for the exposure of firms’ credit portfolios to transition risk, with the objective to answer a very simple question: how many grams of greenhouse gases (GHGs) are emitted by a sector-average firm for every borrowed euro?  Our method is dynamic and takes into account the development and intensity of emissions as well as the evolution of lending at a sector level.

Our focus on loans should provide a fair proxy for the exposure of the entire Italian financial system. The exposure of banks through their portfolios (equity and bonds issued by climate-exposed sectors) is not particularly significant in Italy and so it is not included. In the end, we disregard around a tenth of total assets, given the predominance of loans and sovereign bonds on bank balance sheets (68 and 11 per cent of their assets, respectively, at the end of 2018). Indeed, according to ECB evaluations, banks’ portfolio exposure to CPRS (equity and bonds only) for the euro area as a whole is around 1 per cent of total holdings (ECB, 2019). In particular, loans to firms totalled slightly less than one-third of all banks’ total assets at the end of 2018 in Italy. We also ignore interbank lending, which represents a small share of banks’ balance sheets (less than 3 percent of total assets).

Three methods to estimate the carbon content of loans

We employ three methods to measure the carbon content of Italian loans, identifying the most exposed sectors: the already mentioned climate-policy-relevant sectors (CPRS); those with a loan carbon intensity (LCI) greater than the median; and the carbon-critical sectors (CCrS).

The CPRS approach, first proposed in Battiston et al, 2017, has been adopted in several studies, though it does not consider some sectors that contribute significantly to total emissions (e.g. agriculture). It collapses each carbon-intensive sector into one of five climate-policy-relevant groups: energy-intensive, fossil-fuel, housing, utilities and transport. The other two methods combines firms’ loans by sector (from the Bank of Italy’ Central Credit Register – CR) with total GHGs emissions (from Eurostat’ National accounting matrix including environmental accounts – NAMEA).

The loan carbon intensity (LCI) is the ratio between emissions and loans for each sector, and it provides industry-level data on the emissions embedded in each euro borrowed. It can be used to compare sectoral emissions within and between countries (the latest using the ECB’ Consolidated Banking data).

To overcome some of the drawbacks of the LCI method, we propose to define a set of carbon-critical sectors (CCrS). This method summarizes the relative pertinence of each sector in terms of loans and emissions, identifying the most relevant sectors.

We are aware of the limits of sectoral data, in particular, how it fails to consider the actual exposure towards a specific borrower/investment neglects the heterogeneity that underlies the sector-level data. Nevertheless, we think that industry-level information can be a valuable starting point given the present lack of high-quality and comparable firm-level data – the information on direct or indirect emissions of small and medium firms, which represents almost 99 percent of all firms in Europe and half the value added, is missing.

LCI and CCrS have the advantage of using a standard method of classification (the NACE codes) available at the EU level. Moreover, they take into account all sources of GHGs. Finally, they are dynamic in that they directly consider the evolution of emissions and emission intensity. There is only a partial overlap between the sectors considered – CCrS and those with an above-the-median LCI.

The carbon content of loans in Italy

 According to our estimates, the exposure of the Italian financial system in 2018 ranged between 37 (LCI) and 53 (CCrS) percent of total loans, representing 9.9, 12.9 and 14.4 percent of banks’ total assets (for LCI, CPRS and CCrS respectively; Table 1).

Table 1: Exposure of the Italian financial system at the end of 2018
(billions of euros and percentage points)

Source: Faiella and Lavecchia, 2020

The most exposed sectors are, according to the CPRS method, the energy-intensive and housing sectors. Using the Loan carbon intensity (LCI), Electricity and gas, sewage, and air transport are the most exposed sectors. And with the CCrS classification, electricity and gas, agriculture, wholesale and retail trade, and construction are the most exposed sectors.

Compared with other EU-peers

Using the ECB  Consolidated  Banking  data,  it  is  possible  to  compute  and  compare  the loan carbon intensity (LCI)  across  countries  and  sectors,  merging  the  NACE  level-1 information  on  loans  with  NAMEA. Between 2010 and 2018, the Italian LCI was, on average, 330 grams of CO2 equivalent per euro loaned, one of the lowest in the Euro system and largely below Germany’s (see figure below).

LCI of manufacturing and agriculture in selected European countries
(gCO2e per €)

Sources: Faiella and Lavecchia, 2020

As the LCI shows, in Italy, the carbon content of loans is rather small compared to the LCI of other EU-peers There are additional reasons to be optimistic about the resilience of the Italian economy in adapting to these new challenges. Italy has already reached all of its 2020 climate and energy targets (PNEC, 2019); in 2017, emissions were down by almost 21 percent with respect to 1990. Moreover, the carbon footprint of Italy’s energy system is quite small compared with other EU countries, thanks in part to the fact it has one of the smallest energy intensities in the OECD countries (IEA, 2016) which is expected to keep getting smaller. Moreover, Italy has planned to shutdown its coal-powered power stations by 2025 and Italian cars are among the most efficient in Europe with a significant penetration of natural gas in the transport sector (including the plan to use biogas and to extend gas use in tracks and shipping). However, there remains a big potential for improving energy efficiency and renewable deployment in the building sector. Other countries may consider borrowing some strategies from Italy to achieve their own carbon reduction goals.


Ivan Faiella is a senior economist at the Bank of Italy, Directorate General for Economics, Statistics and Research and OIPE-Levi Cases.

Luciano Lavecchia is an economist at the Bank of Italy, Directorate General for Economics, Statistics and Research and OIPE-Levi Cases.

Views expressed are those of the authors and do not necessarily reflect official positions of the Bank of Italy. This post is adapted from their paper, “The carbon footprint of Italian loans,” available here.

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