Tom Curry
Climate change is in the November headlines. On Nov. 4, the United States officially exited the Paris Climate Accord after the Trump administration questioned the economic impact of the global response. Within days, that policy outlook changed considerably when Joseph B. Biden was declared the winner of the presidential election on Nov. 7. President-elect Biden is expected to rejoin the Paris Climate Accord once he is sworn into office in January 2021.
The change in administration also will impact future financial regulation policy on climate risk. Although domestic and global central banks and bank supervisors agree that climate change poses a financial risk, their responses are not uniform. Policymakers now are increasingly voicing concern that climate change is a potential systemic risk and safety and soundness issue.
Until now, United States bank regulators have not been vocal about climate change as a financial risk. This may be changing. In recent remarks and reports, the Federal Reserve Board signaled that climate change is a financial stability and supervisory risk. Federal Reserve Chair Jerome Powell and Federal Reserve Governor Lael Brainard acknowledged that central banks have a responsibility to address the macroprudential and microprudential risks posed by climate change.
Kate Henry
Powell did so in a Nov. 5 press conference and Brainard did so in a Nov. 8 speech. Brainard recognized the potential monetary policy implications of climate risk and noted its impact on the Federal Reserve’s financial stability mission. Brainard also indicated that banking organizations need to incorporate climate risk into their risk management systems to appropriately identify, measure, control, and monitor all material climate-related risks, including interruptions in clearing and settlement activity, increased demand for cash, potential loan losses resulting from business interruptions and failures and reduced collateral values.
Regulators at Odds
The Federal Reserve’s Nov. 9 Financial Stability Report for the first time formalized the agency’s position. This report specifically identified climate change as a potential financial stability risk and discussed some of the potential transmission channels and difficulties in measuring and mitigating those risks.
Days earlier, the Federal Reserve highlighted climate change’s microprudential aspects in its Nov. 6 bank Supervision and Regulation Report. This report also cited the unique risk management challenges posed by climate-related risks. Those challenges include the difficulty in assessing the materiality of these risks, the need to fill gaps in data and the need to develop measurement methodologies that permit reliable analysis of transmission channels of climate change risk to the banking sector.
Armand J. Santaniello
In contrast to the Federal Reserve, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. have been relatively silent on issuing guidance or supervisory policy statements on climate change risks.
The OCC revealed its thinking on climate change in the context of certain national banks’ risk management decisions to disengage from artic oil drilling lending relationships. In an unusual July 24 response to a congressional inquiry, the OCC appeared skeptical of climate change and expressed its view that the risks do not outweigh economic and employment benefits.
The OCC further pledged to scrutinize the decisions of major banks “to deny the oil and gas sector, among other targeted industries, access to financial services.” The OCC also wrote that it might issue regulations defining “fair access” under the OCC’s general statutory mission statement that would require OCC-regulated banks to continue to lend to climate–related industries even where those banks independently determined that such relationships posed either unacceptable levels of reputational risk or other risk management concerns.
Could Biden Make Changes?
Starting in 2021, the Biden administration will be in a position to change the leadership of the federal banking agencies through 2023, and so climate change policy and posture may evolve. In any event, the federal banking agencies are likely to continue working closely with other international standard-setting bodies, including the Basel Committee on Banking Supervision’s Task Force on Climate-Related Financial Risks and the Financial Stability Board on formulating international climate risk management best practices.
Federal banking agencies may also look to the recommendations of Ceres, a Boston–based public policy think tank.
In June 2020, Ceres published a report, “Addressing Climate as a Systemic Risk: A Call to Action for U.S. Financial Regulators.” This report assessed the current policies of United States financial regulators and made 50 recommendations on how regulators can better address the systemic and prudential risks presented by climate change.
Perhaps the report’s most significant recommendation was for the Federal Reserve to require systemically important financial institutions to conduct climate stress tests in addition to requiring them to integrate climate change into their risk management framework. The Ceres report also recommended that the OCC and the FDIC better coordinate with each other and with other regulators to ensure that climate change is integrated into the financial supervision process to help banks prudently manage climate risk and to better train examiners on this subject. The FDIC also was urged to integrate climate risk into the risk-based premium system for its own deposit insurance fund.
The Paris Climate Accord may be dormant for the time being but regulatory attention to climate change financial risk management will continue to grow.
Thomas J. Curry is a partner in Nutter’s corporate and transactions department. Kate Henry and Armand J. Santaniello are associates in Nutter’s corporate and transactions department. Curry is former U.S. comptroller of the currency and all are members of the firm’s banking and financial services group.
