Central banks should consider climate risks on economy, former Fed official says

Central banks are within their mandate to consider physical and transition risks from climate change and the impact on bank losses, Kevin Stiroh, former chair of the US Federal Reserve’s supervision climate committee, told Green Central Banking.

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Stiroh, who recently joined economic thinktank Resources for the Future as a senior fellow, has co-authored a report with several Fed economists which sets out a framework to help central banks better understand if adjustments are needed to regulatory frameworks to better account for climate change risks.

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“While climate change could potentially impact the regulatory capital regime in several ways, an internally coherent approach requires a strong link between specific assumptions about how financial risks may manifest as bank losses and what objectives regulators are pursuing,” the paper states.

The paper presents a framework to help supervisors understand how to think about climate change and its potential effects on the real economy, and how they might respond through regulatory capital requirements.

Bank capital is used to absorb both expected and unexpected losses. While banks usually expect a certain degree of losses, the inherent uncertainty of climate change makes those losses not only unexpected but harder to predict.

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