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Fed to weave 'inescapable' climate change risk into bank oversight

SAN FRANCISCO (Reuters) - The U.S. Federal Reserve is beginning to incorporate the impacts of global warming into its regulatory writ, following in the footsteps of its global peers, according to a paper published Monday by the San Francisco Fed.

FILE PHOTO: The Bond Fire wildfire burns next to electrical power lines near Modjeska Canyon, California, U.S., December 3, 2020. REUTERS/Mike Blake

In a pair of reports issued late last year, the U.S. central bank signaled its intent to measure, analyze, and respond to climate-related risks as part of its oversight of individual banks as well as of the broader financial system.

The paper published Monday laid out the thinking behind the inclusion of climate-related risks in the two reports, one on supervision and regulation, and the other on financial stability.

That included a sharper understanding of the potential effect of climate hazards on bank-held assets, as well as the vulnerability of the overall financial system to abrupt shifts in asset prices if risk perceptions change suddenly.

“The effects of climate change are inescapable and include far-reaching economic and financial consequences for many households and businesses,” San Francisco Fed economist Glenn Rudebusch wrote in the regional Fed bank’s latest Economic Letter.

In response, he wrote, the Fed is moving to incorporate climate risk into both its microprudential and macroprudential oversight of banks, using tools that could include climate scenario analysis and climate stress tests to measure the banking system’s vulnerability to climate-related losses.

The Fed last year joined the Network of Central Banks and Supervisors for Greening the Financial System, after for many years staying on the sidelines as other central banks pushed to use their regulatory and research clout to deal with the effects of global warming.

Some U.S. lawmakers, largely Republicans, have been critical of any moves by the Fed to impose climate-oriented regulations on banks, saying they could make it difficult for oil and gas companies to access capital, and warning that jobs and economic growth could suffer as a result. Meanwhile President Joe Biden has made efforts to fight climate change a pillar of his new administration.

Rudebusch’s paper Monday made the case that the economic and financial fallout from climate change is already in train, in the form for instance of destructive storms and sea level rise eroding the value of coastal real estate, and of threats to the profitability of the energy sector as governments and businesses move to reduce carbon dioxide emissions.

“The bottom line is that every future scenario includes climate-related financial risk, though the level and form of the underlying uncertainty vary,” he wrote, adding that central banks, including the Fed, have made progress on identifying and managing those financial risks.

Reporting by Ann Saphir; Editing by Andrea Ricci

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