The Financial Stability Board submitted to the Group of 20 (G-20) a road map to address climate-related physical and transition risks in the global financial system. A key objective of this international financial stability standard setter is to coordinate the numerous central bank and financial regulatory initiatives to identify and mitigate the financial risks that can arise due to climate change. According to FSB Chair Randal Quarles, who is also Governor and Vice Chairman of the U.S. Federal Reserve, these
initiatives reflect “the increasing attention paid to the topic as well as the global and cross-sectoral nature of climate-related financial risks. The interconnected nature of climate-related financial risks and the growing body of work to address them reinforce the need for coordinated action. With its diverse membership, the FSB is well placed to coordinate internationally, and give visibility to, the work to address climate-related financial risks.” The FSB’s road map focuses on work currently being done and that which will be done in the future by standard setting bodies (SSBs) and other international organizations. Specifically, the road map outlines work in the important areas of disclosures, data, vulnerabilities analysis, and regulatory and supervisory approaches.
The FSB, in particular, has focused on the availability of climate-related data and the promotion of globally comparable, high quality climate-related disclosures. As part of the road map, the FSB published a report today on the availability of data on climate-related financial stability risks. The FSB’s analysis identified the limitations of existing data and encourages authorities to work together to develop a concrete plan to rectify the limitations, while taking into account the specific circumstances of each country. Addressing such data gaps will enhance the assessment and monitoring of climate-related risks to financial stability and enable market participants to incorporate climate-related financial risks more effectively in their decisions, including the pricing of credit and allocation of capital.” Importantly, climate-related physical and transition risks may be highly non-linear, and their effects on the financial system are subject to substantial uncertainty and tail-risk.
The FSB report recommends areas that need to be worked on, some of which are already in progress, such as addressing certain important data gaps to improve the monitoring and assessment of climate-related risks to financial stability. Highlights of the FSB’s recommendations are:
· Drivers of climate risk. The FSB supports the work of the Network for Greening of the Financial System (NGFS) and International Monetary Fund (IMF) to improve the availability and consistency of data on the underlying drivers of climate-related risks. Such work should include the data and metrics necessary to assess the current and projected future susceptibility of non-financial entities to physical risks. This includes steps by the official sector to improve the availability and comparability of granular geophysical data sets across jurisdictions, as well as the ease and robustness with which they can be aggregated.
· Corporate disclosures. The FSB welcomes the International Financial Reporting Standard’s (IFRS) program of work to develop a baseline global sustainability reporting standard under robust governance and public oversight, built from the Task Force on Climate-Related Financial Disclosures (TCFD) framework and the work of an alliance of sustainability standard setters, involving them and a wider range of stakeholders closely, including national and regional authorities.
· Financial institutions’ exposures. Financial authorities should consider how to improve the quality and consistency of data on financial institutions’ exposures to climate-related risks, including those that arise from their exposures to non-financial counterparties (including their supply chains). These should be sufficiently granular to assess concentrations of, and interlinkages between, climate-related risk exposures – both to certain financial institutions, and to certain non-financial sectors or individual counterparties – that might have implications for financial stability.
· Forward-looking financial stability metrics. Financial authorities should consider developing forward-looking metrics on climate-related risks both at the level of individual firms, and for the financial system as a whole. In order to maximize their usefulness in allowing an assessment of risks to financial stability, such metrics should go beyond providing information on the central expectations of the impact of climate change, and incorporate information on uncertainty and tail-risks (e.g. climate-value-at-risk).
· Risk transfer in the financial system. Financial authorities should work together to widen and harmonize data on the degree to which financial institutions’ exposures to climate-related risks are transferred between different financial sectors. One important data gap in this regard is the degree to which the individual financial firms’ exposures to climate-related risks are mitigated by the provision of insurance, including that provided implicitly by the official-sector in the form of measures to mitigate the impact of climate-related risks.
· Scenario analysis. Recent advances in the use of scenario analysis are assisting financial authorities in their assessment and monitoring of the degree to which the financial system is resilient to climate-related risks. The FSB should bring financial authorities together to compare their experiences of implementing scenario analysis in order to identify relevant data gaps.
· Effects of climate risks on the broader macroeconomy. Building on progress made in the areas listed above, financial authorities should also consider how to expand and improve data with which to assess how climate-related risks could impact the financial sector via their effects on the broader macroeconomy. This should include expanding the availability of data on the potential impact of climate-related risks beyond that on corporates and financial firms, to include sovereigns and households, and on how these sectors might interact.
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