The Federal Reserve Board (FRB) Climate Scenario Analysis Pilot is a significant step in quantifying climate risk including physical and transition risks. While many institutions already have strong econometric models and operating models for credit loss modeling (CECL and CCAR), the additional element of climate scenarios and climate risks will require institutions to rethink their operating model to facilitate the successful assessment, measurement, and response to risks and opportunities. The pilot program should also be seen as a bellwether for future regulatory expectations for financial service providers regardless of asset size.
The Federal Reserve Board (FRB) announced a pilot climate scenario analysis exercise for the largest banks that is designed to enhance both supervisors’ and firms’ capabilities for measuring and managing climate-related financial risks. Six financial institutions will participate in the exercise.
The FRB will:
NOTE: FRB defines climate scenario analysis as a tool to assess climate-related financial risks, in which the resilience of financial institutions is assessed under different hypothetical climate scenarios.
In announcing the pilot, FRB clarified that there will be no capital or supervisory implications from the pilot, and that climate scenario analysis is distinct and separate from bank stress tests.
In addition to the pilot exercise, FRB has indicated its intention to work with the OCC and FDIC in the near-term to provide guidance to large banks on expectations around identification, measurement, monitoring, and management of the financial risks of climate change.
Similarly, FDIC recently spoke about the financial risks of climate change, outlining FDIC’s efforts on a cross-disciplinary, interagency approach with international and banking industry engagement, as well as its proposed Principles for Climate-Related Financial Risk Management, including climate scenario analysis. Consistent with the FRB announcement, FDIC stated, “Climate-related scenario analyses should be designed and used by institutions for building knowledge and capabilities associated with climate-related financial risk management, as well as for better understanding gaps in methodologies and data.”
Please refer to: