Fed acknowledges climate change threat to financial stability

In its biannual financial stability report, the US Federal Reserve Board recognised for the first time potential threats to financial stability from climate change, warning that it could trigger abrupt changes in asset values.

This brings the Fed in line with other central banks and global standard setting bodies such as the Financial Stability Board (FSB), which have been dedicating more resources towards studying the potential impact of climate change on the financial system.

Fed governor Lael Brainard, commenting on the report, cited hazards such as storms, floods and wildfires as having the potential to cause sudden swings in investor sentiment towards assets.

Echoing the aims of the Task Force on Climate-related Financial Disclosures (TCFD) launched by the FSB, Ms Brainard called for increased transparency through improved measurement and more standardised disclosures. The UK and New Zealand are to make TCFD reporting for financial firms and large corporates mandatory. Meanwhile, thousands of big firms across the world have voluntarily signed up to the TCFD recommendations.

Ms Brainard explained that it is crucial to move from the recognition that climate change is a financial stability risk to the stage where the quantitative implications of those risks are appropriately assessed and addressed.

Meanwhile, US president-elect Joe Biden has pledged to sign the US back up to the 2015 Paris climate accords — a global agreement to try and reverse temperature rises as a result of human activity. Donald Trump withdrew the US from the agreement and was indifferent towards climate risks, making it difficult for the agencies to highlight the issue.

It is very likely that climate-related considerations will permeate into supervision and impact exercises, such as stress tests and possibly even bank capital calibrations, under Mr Biden’s incoming administration.

This article first appeared in The Banker's sister publication Global Risk Regulator.