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The Federal Reserve publishes climate risk management proposals for major banks

Updated: Dec 21, 2022

The Federal Reserve Board of the United States has proposed a number of principles for large banks with assets over $100 billion to manage and monitor climate-related risk.

The suggestions aim to encourage banks' efforts to include climate-related financial risks into their broader risk management frameworks and to provide a framework for managing exposure to these risks in accordance with the Fed's existing rules and guidance.

In the introduction to the proposals, the Board states that "the financial impacts that result from the economic effects of climate change and the transition to a lower carbon economy pose an emerging threat to the safety and soundness of financial institutions and the financial stability of the United States."

The proposal includes the following:

"Weaknesses in how financial institutions identify, measure, monitor, and regulate potential climate-related financial risks might negatively impact the safety and soundness of financial institutions and the overall stability of the financial system."

The Fed's proposed guidance highlights two key sources of climate change-related risks for financial institutions, namely physical risks, such as damage to people or property from climate-related events ranging from hurricanes and floods to rising sea levels and heatwaves, and transition risks related to policy shifts, sentiment changes, or technologies associated with efforts to address and limit climate change.

In order to promote consistency in supervision, the Fed drafted the principles in consultation with the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC), with the resulting guidance resembling recently released principle proposals from each organization.

The ideas encompass six areas for the identification, monitoring, and administration of climate-related risk. These include Governance, requiring bank boards to understand the effects of climate-related financial risks on the institution, and guiding boards to allocate resources to support climate-related risk management and to assign accountability, and for management to implement policies and report to the board; Policies, Procedures, and Limits, guiding management on the incorporation of climate-related financial risks into the bank's policies, procedures, and limits; Strain Management, guiding management on the incorporation of climate-related financial risks into the bank's risk management strategies and

The recommendations include credit risk, liquidity risk, other financial risks, operational risk, legal & compliance risk, and other non—financial risk categories for banks.

The Fed stated that it is currently soliciting public feedback on the suggestions, with a 60-day comment period.

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