My note today puzzles over the Fed’s sitting on the sidelines while other central bankers act together to mitigate a growing risk to national economies and the global financial system. As context for this discussion, please take a minute to read this report about the accelerated melting of ice in Antarctica: https://www.theguardian.com/environment/2019/may/16/thinning-of-antarctic-ice-sheets-spreading-inland-rapidly-study.
Now to the issue. Can you imagine a meeting of most of the world’s largest central banks plus BIS and the World Bank, without a nominal and publicly identified presence of the Federal Reserve? Well here it is.
In December 2017, responding to climate-related risks to the world financial system, the Banque de France, along with eight other central banks and banking supervisors, established the Network of Central Banks and Supervisors for Greening the Financial System (NGFS) at the Paris “One Planet Summit.” Since then, the NGFS has grown to 34 members and five observers from all over the globe. The list continues to grow.
On April 17, 2019, the Banque de France convened a one-day conference, with all NGFS members and observers in attendance, to present its first comprehensive report, titled “A call for action: Climate change as a source of financial risk.” The United States was not represented at that meeting.
Now we know the Fed is aware of the subject of climate change and has connections to many of the institutions and individuals who were in attendance at this gathering. We know that numerous studies are estimating the financial cost and credit risk exposure of the United States as the sea level rises. And we know that financial risk runs to our banking system and to many financial intermediaries connected to or of interest to the Federal Reserve.
So the real question is, why no Federal Reserve public profile when the conversation is about climate change-related financial risk? Is there some edict by the Trump administration that prevents the Fed from attending? We know of Trump’s withdrawal from the Paris Accord, and we know something about his political position.
“I’m not denying climate change,” Trump told interviewer Lesley Stahl in an interview on CBS’ 60 minutes (Oct 15, 2018).
At the same time, though, Trump suggested that climate change might not be caused by humans; that he did not want to take any action that would harm the American economy; and that the warming of the planet by industrial emissions would reverse of its own accord.
“I think something’s happening. Something’s changing and it’ll change back again,” said Trump. “I don’t think it’s a hoax. I think there’s probably a difference. But I don’t know that it’s manmade. I will say this: I don’t want to give trillions and trillions of dollars. I don’t want to lose millions and millions of jobs.”
Trillions of dollars? Shouldn’t this be of interest to the Fed. But we also know that financial risk is intensifying, and we know that the sea level is rising. So where is the Fed?
Readers are invited to look at the report and conclude viewpoints for themselves. The full report is available here: https://www.banque-france.fr/sites/default/files/media/2019/04/17/ngfs_first_comprehensive_report_-_17042019_0.pdf.
Some excerpts from the report follow:
“We collectively face the effects of climate change, as it reaches beyond economies, borders, cultures, and languages. In 2017, air pollution was a cause of almost 5 million deaths worldwide while 62 million people in 2018 were affected by natural hazards, with 2 million needing to move elsewhere due to climate events. A transition to a green and low-carbon economy is not a niche nor is it a "nice to have" for the happy few. It is crucial for our own survival. There is no alternative. Therefore, we need to come together and take action to create a bright, sustainable future….
“Climate-related risks are a source of financial risk and it therefore falls squarely within the mandates of central banks and supervisors to ensure the financial system is resilient to these risks.”
– From the foreword to the report, by Frank Elderson, board member, De Nederlandsche Bank, and chair of the NGFS
“The legal mandates of central banks and financial supervisors vary throughout the NGFS membership, but they typically include responsibility for price stability, financial stability, and the safety and soundness of financial institutions. Even though the prime responsibility for ensuring the success of the Paris Agreement [on climate change] rests with governments, it is up to central banks and supervisors to shape and deliver on their substantial role in addressing climate-related risks within the remit of their mandates. Understanding how structural changes affect the financial system and the economy is core to fulfilling these responsibilities.
“Climate change is one of many sources of structural change affecting the financial system. However, it has distinctive characteristics that mean it needs to be considered and managed differently. These include:
• Far-reaching impact in breadth and magnitude…
• Irreversibility…
• Dependency on short-term actions….
“While today’s macroeconomic models may not be able to accurately predict the economic and financial impact of climate change, climate science leaves little doubt: action to mitigate and adapt to climate change is needed now. The NGFS recognises that there is a strong risk that climate-related financial risks are not fully reflected in asset valuations. There is a need for collective leadership and globally coordinated action and, therefore, the role of international organisations and platforms is critical….
“The NGFS, as a coalition of the willing and a voluntary, consensus-based forum provides six recommendations for central banks, supervisors, policymakers and financial institutions to enhance their role in the greening of the financial system and the managing of environment and climate-related risks….
Recommendation 1: Integrating climate-related risks into financial stability monitoring and micro-supervision…
Recommendation 2: Integrating sustainability factors into own-portfolio management…
Recommendation 3: Bridging the data gaps…
Recommendation 4: Building awareness and intellectual capacity and encouraging technical assistance and knowledge sharing…
Recommendation 5: Achieving robust and internationally consistent climate and environment-related disclosure…
Recommendation 6: Supporting the development of a taxonomy of economic activities….
“There is still a significant amount of analytical work to be done in order to equip central banks and supervisors with appropriate tools and methodologies to identify, quantify and mitigate climate risks in the financial system. This calls for a close and specific dialogue with academia and for further technical work to translate the NGFS recommendations or observations into operational policies and processes.
“More precisely, the NGFS is planning to develop: (i) a handbook on climate and environment-related risk management for supervisory authorities and financial institutions; (ii) voluntary guidelines on scenario-based risk analysis; (iii) best practices for incorporating sustainability criteria into central banks’ portfolio management (particularly with regard to climate-friendly investments).”
It is unimaginable that the US would not opt to have a seat at this table and that our central bank would not be preparing with the rest of the world for climate-related impacts to the global financial system and the global and national economy. And yet our public seat at the table remains empty, and our nation is apt to be left behind.
David R. Kotok
Chairman and Chief Investment Officer
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