Federal Reserve Board Governor Lael Brainard described challenges and solutions for incorporating climate-related risk assessments into supervisory frameworks.
At the "2021 IIF U.S. Climate Finance Summit: Financing a Pro Growth Pro Markets Transition to a Sustainable, Low-Carbon Economy," Ms. Brainard warned that "financial institutions that do not put in place frameworks to measure, monitor, and manage climate-related risks could face outsized losses on climate-sensitive assets caused by environmental shifts, by a disorderly transition to a low-carbon economy, or by a combination of both." She differentiated between (i) "physical risks," such as damage caused by extreme climate shifts, and (ii) "transition risks," including sudden or anticipated changes in policy, technology or consumer behavior.
Ms. Brainard described climate scenario analysis as a tool in the assessment of climate risks. She clarified that "scenario analysis is distinct from our traditional regulatory stress tests at banks," as scenario analysis assesses business model resiliency in long-run scenarios versus a traditional stress test, which assesses capital adequacy over the short run. Ms. Brainard expressed caution in taking a "prescriptive approach" to scenario analysis, instead suggesting "leverag[ing] a range of complementary approaches . . . in both the private and public sectors."
Ms. Brainard noted progress on incorporating climate related risk into a supervisory framework: