The scent of ESG – climate change and environmental degradation in credit risk management

How do credit risk managers respond to regulatory demands to integrate environmental, social, and governance-related (ESG) factors – especially climate change and environmental degradation – into credit risk management? Drawing on interviews with credit risk managers, this study presents two different ‘styles’ of risk assessment: The ‘explicit calculation’ approach aims to identify potential financial risks associated with climate change and environmental degradation through quantitative calculation and model-based analysis; ‘tacit judgment’ refers to certain intuitive ways of judgment, based on tacit knowledge, enabling the risk manager to assess ESG factors, without the need for quantification and calculation. While ‘explicit calculation’ offers communicable outputs demanded by regulators, it often fails to capture the indeterminate nature of ESG risks; ‘tacit judgment,’ though epistemically valuable, struggles for legitimacy because its tacit competencies resist codification. The analysis highlights these organizational and epistemic challenges that arise when climate change and environmental degradation are assessed for financial risks and underscores the critical role of tacit knowledge in contemporary credit risk management.