Apr 4 -- The Federal Deposit Insurance Corporation (FDIC) is requesting comment on draft principles that would provide a high-level framework for the safe and sound management of exposures to climate-related financial risks. Although all financial institutions, regardless of size, may have material exposures to climate-related financial risks, these draft principles are targeted at the largest financial institutions, those with over $100 billion in total consolidated assets. The draft principles are intended to support efforts by large financial institutions to focus on key aspects of climate-related financial risk management. Comments must be received no later than June 3, 2022.
The effects of climate change and the transition to a low carbon economy present emerging economic and financial risks that threaten the safety and soundness of financial institutions and the stability of the financial system. Financial institutions are likely to be affected by both the physical risks and transition risks associated with climate change (referred to in these draft principles as climate-related financial risks). Physical risks generally refer to the harm to people and property arising from acute, climate-related events, such as hurricanes, wildfires, floods, and heatwaves, and chronic shifts in climate, including higher average temperatures, changes in precipitation patterns, sea level rise, and ocean acidification. Transition risks generally refer to stresses to certain financial institutions or sectors arising from the shifts in policy, consumer and business sentiment, or technologies associated with the changes necessary to limit climate change.
The economic and financial risks associated with physical risks reflect damages to property, infrastructure, and business disruptions, all of which have real effects to the value of property securing financial institutions' exposures and borrowers' ability to perform on their obligations. Regarding transition risks, certain companies or sectors may become less competitive over time as policies implemented to reduce carbon emissions or carbon-equivalents to mitigate the risks of climate change (e.g., carbon pricing), technological advances, and changes in investor and public preferences may all contribute to and accelerate a transition to a low-carbon economy, in each case potentially resulting in reduced profitably and ability to repay obligations for financial institutions' counterparties, as well as reductions in the value for certain assets that are less productive in a low-carbon environment.
Transition risks may also increase litigation, liability, legal and regulatory compliance risks associated with climate-sensitive investments and businesses, or pose other risks to institutions based on shifts in market or consumer preferences. Additionally, the value of financial assets may be adversely affected as market participants reflect the future impacts of both physical and transition risks on financial performance.
From a financial stability perspective, climate-related financial risks have the potential to impact financial institutions and the economy through both macroeconomic and microeconomic factors, such as reductions in economic growth and labor productivity, increased borrowing costs, and higher commodities prices, as well as directly to financial institutions themselves or through their counterparties.These factors contribute to the way in which climate-related financial risks can transmit to a significant number of financial institutions and raise financial stability concerns.
Climate-related financial risks pose a clear and significant risk to the U.S. financial system and, if unmitigated, may pose a near-term threat to safe and sound banking and financial stability. Weaknesses in how institutions identify, measure, monitor, and control the physical and transition risks associated with a changing climate could adversely affect a financial institution's safety and soundness, as well as the overall financial system. Adverse effects could include potentially disproportionate impact on the financially vulnerable, including low- to moderate-income (LMI) and other disadvantaged households and communities. With this, the manner in which financial institutions manage climate-related financial risks to address safety and soundness concerns should also seek to reduce or mitigate the impact that management of these risks may have on broader aspects of the economy, including the disproportionate impact of risk on LMI and other disadvantaged communities.
The FDIC recognizes the need for comprehensive risk management guidelines that can be implemented consistently. These draft principles provide a high-level framework for the safe and sound management of exposures to climate-related financial risks, consistent with the risk management framework described in existing FDIC rules and guidance, and are intended to support efforts by financial institutions to focus on the key aspects of climate risk management. The draft principles will help financial institution management make progress toward answering key questions on climate exposures and incorporating climate-related financial risks into financial institutions' risk management frameworks. Additionally, the draft principles are intended to support the use of scenario analysis as an emerging and important approach for identifying, measuring, and managing climate-related risks, as well as risk assessment processes related to credit, liquidity, operational, legal and compliance, and other financial and nonfinancial risks. Some financial institutions, including many large financial institutions, are considering climate-related risks and would benefit from additional guidance as they develop capabilities, deploy resources, and make necessary investments to address climate-related financial risks.
Although all financial institutions, regardless of size, may have material exposures to climate-related financial risks, these draft principles are targeted at the largest financial institutions, those with over $100 billion in total consolidated assets. The draft principles are an initial step to promote a consistent understanding of the effective management of climate-related financial risks. The FDIC plans to elaborate on these draft principles in subsequent guidance that would distinguish roles and responsibilities of boards of directors (boards) and management, incorporate the feedback received on the draft principles, and consider lessons learned and best practices from the industry and other jurisdictions. In keeping with the FDIC's risk-based approach to supervision, the FDIC intends to appropriately tailor any resulting supervisory expectations to reflect differences in institutions' circumstances such as complexity of operations and business models. Through this and any subsequent climate-related financial risk guidance, the FDIC will continue to encourage institutions to prudently meet the financial services needs of their communities.
FRN:
https://www.federalregister.gov/d/2022-07065