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Big banks complete climate analysis for Fed as Powell tries to avoid becoming a climate policymaker
The Federal Reserve released the results of an assessment of the extent to which large U.S. banks would be affected by climate change, an exercise that created new political tensions for the central bank.
JPMorgan Chase (JPM), Bank of America (TAS), Citigroup (W)Wells Fargo (Wordfast), Goldman Sachs (GS) and Morgan Stanley (IN) found that 20% to 50% of its commercial and residential real estate loans in the Northeast would be impacted by the most severe climate shock – defined as not having insurance coverage for a once-in-200-year event including hurricanes, floods and forest fires.
The impact would be a change in the estimated probability of default on these loans.
Banks were tasked with determining how heat waves, wildfires, higher average temperatures, a hurricane in the Northeast and another hazard of their choosing would affect their residential and commercial real estate loan portfolios.
Pedestrians approach the headquarters of JPMorgan Chase in New York. (AP Photo/Peter Morgan, File) (ASSOCIATED PRESS)
But they struggled to model climate risks to assess the impact on loan portfolios, noting significant challenges in collecting data and measuring climate-related risks.
The goal was for the Fed to better understand banks’ risk management approaches to this issue so that it could manage the risks that the climate poses to the broader financial system.
The climate analysis was exploratory and did not entail any sanctions on banks, unlike a separate annual stress test conducted by the Fed designed to determine whether banks can withstand severe economic shocks.
However, the test itself created new political complications for the central bank and Chairman Jay Powell, who has taken pains in public speeches to make clear that the Fed would avoid making climate policy.
“Policies to address climate change are the responsibility of elected officials and the agencies they have charged with this responsibility,” he said during a speech last month at Stanford University. “The Fed has received no such charge.”
Federal Reserve Bank President Jerome Powell speaks at Stanford University last month. (Justin Sullivan/Getty Images) (Justin Sullivan via Getty Images)
“We are not, nor do we intend to be, climate policy makers,” he said during his speech, promising to avoid “mission drift.”
That hasn’t stopped lawmakers and other policymakers from criticizing Powell on this issue.
His climate comments came about two weeks after Senators Elizabeth Warren and Sheldon Whitehouse sent a letter to Powell arguing that the Fed’s high interest rates were holding back clean energy development.
Senator Whitehouse told Yahoo Finance last month that other central banks around the world are closely considering climate change because “if left unchecked, climate change will pose ‘systemic risks’ to our financial system and the broader economy.” .
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And Republicans have also repeatedly criticized Powell for considering rules that would test banks’ ability to withstand climate-related scenarios, arguing that is outside the scope of the Fed’s authority.
Not everyone at the Fed agrees with the approach.
Last May, Fed Governor Chris Waller said he did not believe climate change poses a serious risk to the US financial system, even as the central bank tested banks’ resilience under different climate scenarios.
Fed Governor Christopher Waller. (Sarah Silbiger/Getty Images) (Sarah Silbiger via Getty Images)
“Climate change is real, but I do not believe it poses a serious risk to the safety and soundness of big banks or to the financial stability of the United States,” Waller said in a speech in Madrid, Spain.
“I see no need for special treatment of climate-related risks in our monitoring and financial stability policies,” he added.
But Powell maintains that the central bank has a limited role when it comes to supervising banks.
“The public expects the institutions we regulate and supervise to understand and be able to manage the material risks they face, which, over time, are likely to include climate-related financial risks,” Powell said on April 3.
“We will remain alert to the risk that there will be pressure to expand this role over time.”
Banks used different approaches to develop the physical and transition risk scenarios required by the Fed and to translate these scenarios into climate-adjusted credit risk parameters.
They also noted the need to monitor changes across the insurance sector, including changes in insurance costs over time and the impacts of these changes on consumers and businesses in specific markets and segments.
Banks’ estimates of climate-adjusted credit risk parameters, such as the probability of default, showed significant differences in impact across sectors, regions and counterparties.
The exercise was exploratory in nature and has no capital consequences.
Based on lessons learned from the exercise, the Fed said it will continue to collaborate with participating banks regarding their ability to measure and manage climate-related financial risks.
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