The Fed recognises climate change as financial stability risk

November 9, 2020|Written by Hilal Atici|Federal Reserve

The US Federal Reserve has released its biannual Financial Stability Report (FSR), for the first time recognising climate change as a “significant financial stability risk”.

“It is vitally important to move from the recognition that climate change poses significant financial stability risks to the stage where the quantitative implications of those risks are appropriately assessed and addressed,” said governor Lael Brainard in a statement accompanying the release.

The FSR identifies acute climatic hazards (such as floods and fires), chronic climate hazards (such as slow sea level rise), and “rapid shifts in public perceptions of risk” as potential causes of collapsing asset values or “abrupt repricing events”. Using coastal real estate as an example, it warns of a possible fire sale of exposed assets, amplified by “financial and nonfinancial leverage” to threaten financial stability. The FSR also emphasises that staff members “throughout the Federal Reserve System” were continuing to research and learn about climate risks, particularly the “transmission channels” through which climate risks might become financial and economic risks.

This is the first time the Fed has included climate in its list of threats to financial stability, and it has been slow to respond to the accelerating climate emergency. As scientists warn that the potential for a cascade of climatic tipping points is an existential threat to civilisation, the Fed’s absence from the Network of Central Banks and Supervisors for Greening the Financial System is particularly noticeable and contrasts starkly with the People’s Bank of China’s position as a founding member.

Essentially, the Fed has said that they are aware of climate risk and that they are studying it, but not much more than that. As other central banks move ahead, and in the context of the US withdrawal from the Paris Agreement, the Fed has been largely silent and absent on climate. Just days after the election of Joe Biden to the US presidency, this inclusion of climate change into the FSR seems little more than an acknowledgement of the existence of climate change.

If the Fed were to do more than acknowledge the existence of climate change, the assets on the banks US$7 trillion balance sheet offer plenty of opportunity. By favouring assets aligned with the targets of the Paris Agreement and by eliminating high emitting and unsustainable assets from its portfolio, the Federal Reserve could have a significant effect on emissions. As the US seeks to rebuild its reputation for global leadership and as the need for a dramatic reduction in global emissions becomes more urgent, the Fed has an opportunity to set an example and show that it can lead as well as follow.

This page was last updated May 11, 2021

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