Fed to form committee focused on climate risks to financial system

The Federal Reserve will create a committee dedicated to understanding the ways climate change could upend the global financial system, a top official announced Tuesday.

Fed Governor Lael Brainard said in a Tuesday speech that the central bank’s new Financial Stability Climate Committee (FSCC) will focus on the potential threats climate change can pose to the broader financial world. 

While the Fed had already created a Supervision Climate Committee (SCC) to study the climate risks facing specific firms and the banking industry generally, Brainard said the new panel will focus on how climate-related disruptions could ripple through credit markets and other industries within the financial sector, causing a broader crisis.

“Our macroprudential work program is focused on assessing not only potential climate shocks, but also whether climate change might make the financial system more vulnerable in ways that could amplify these shocks and cause broader knock-on effects that could harm households, businesses, and communities,” Brainard said in a speech at a conference held by the nonprofit sustainability organization, Ceres.

“These are not easy problems, and they will not have easy solutions. Despite the challenges, it will be critical to make progress, even if initially imperfect, in order to ensure that the financial system is resilient to climate-related risks and well positioned for the transition to a sustainable economy,” she continued.

The new FSCC would work with the SCC and other agencies throughout the federal government, Brainard said, including the Financial Stability Oversight Council (FSOC), an interagency panel of financial regulators. She also said that the Fed would be investing in new research and data tools to improve forecasts and modeling of climate-related financial risks.

“Quantifying the risks and implications of potentially catastrophic climate-related tipping points for the economy and financial system is extremely difficult,” Brainard said.

“There is substantial uncertainty about the nature and timing of the policy, behavioral, and technological changes that will occur during the transition to a sustainable economy,” she added. “This uncertainty could create significant challenges for financial stability.”

The Fed’s new committee will dramatically expand the scope of its efforts to monitor and prepare for climate-related financial risks. While Democrats have praised the Fed for stepping up its climate oversight, Republicans have criticized the bank and warned officials against taking actions that could impede the oil and gas industry.

Brainard said Tuesday that the Fed is focused on “building our capacity to understand and address the risks, complexities, and challenges related to climate change,” and made no threat of future regulatory actions feared by Republicans. Instead, Brainard said the Fed may use a scenario analysis process that “identifies climate-related physical and transition risk factors facing financial firms, formulates appropriate stresses of those risk factors under different scenarios, and measures their effects on financial intermediaries and the financial system.”

The Fed is among several U.S. financial regulators that have expanded their climate-related oversight after a lack of serious attention to the issue under previous presidential administrations. 

While the Fed has taken a measured approach to monitoring climate issues, the bank’s initial steps have stoked intense blowback and skepticism among Republicans and advocates for the oil and gas industry.

Brainard delivered her speech as both Fed Chairman Jerome Powell and Treasury Secretary Janet Yellen — who has pledged to play a central role fighting climate change — took heat from House Republicans over their involvement in climate matters.

“I certainly understand that changes to weather, weather patterns could pose risks to individual creditors or insurance policyholders, but linking hypothetical climate scenarios to risk to the entire financial system seems to me highly speculative,” said Rep. Andy Barr (R-Ky.), who frequently advocates against policies that could hinder coal production.

“I worry that injecting ill-defined climate scenarios into financial regulation and supervision creates the immediate and very real risk of driving investment and credit allocation away from job producing industries like fossil energy.”