Climate regulation for U.S. banks gains momentum

Regulatory perspectives on climate risk continue to progress


October 26, 2022

NGFS released an updated set of climate scenarios 

On September 6th, the Network of Central Banks and Supervisors for Greening the Financial System (NGFS) published an updated set of climate scenarios that, for the first time, consider the impact of potential losses from extreme weather events and chronic climate changes on the macroeconomy.

When it comes to the selection of climate scenarios, there appears to be a clear preference towards the NGFS Climate Scenarios, which are being used by many banks as a  starting point given broad regulatory acceptance (the FDIC, the Fed, and the OCC are all members of NGFS). For banks that have begun running scenario analysis for physical and transition risks, most are doing so on a bi-annual or annual basis. While some began scenario analysis as early as 2018 from a reputational risk perspective, this has since evolved to be more centered around credit and operational risk. 

OCC flagged climate risk as a safety & soundness challenge 

The NGFS announcement was followed the next day by a speech from Acting Comptroller of the Currency (OCC), Michael J. Hsu, at the Clearing House and Bank Policy Institute's Annual Conference, discussing safeguarding trust in banking. He flagged managing climate-related risk as an area that threatens this, explaining that the physical and transition risks associated with climate change “pose safety and soundness challenges for banks” and there is “an urgent need for action”. It’s unsurprising that since the OCC issued its draft Principles for Climate-Related Financial Risk Management for Large Banks last December, it has received feedback from thousands of individuals and institutions.

OCC appointed new Chief Climate Risk Officer

A few days later, on September 12th, Hsu announced the appointment of Dr Yue (Nina) Chen as the OCC’s new Chief Climate Risk Officer. She is taking over for Darrin Benhart who left the OCC in July, and will lead the agency’s climate risk efforts related to supervision, policy, and external engagement. Reporting directly to Hsu, this role reflects the increasing importance regulators are placing on climate related financial risk management.

Fed announced pilot climate scenario analysis exercise

Then on September 29th, the Federal Reserve Board announced that six of the country’s largest banks will participate in a pilot climate scenario analysis exercise launching early next year, designed to enhance the ability of supervisors and firms to measure and manage climate-related financial risks. The exercise will enable the participating banks to analyze the impact of  climate scenarios on their loan portfolios and business strategies.

FDIC expects community and mid-size banks to develop climate risk management

On October 3rd, Acting Chairman of the FDIC, Martin J. Gruenberg, gave a speech at the American Bankers Association Annual Convention, focusing on the financial risks of climate change, and making it clear that the FDIC now expects community and mid-size banks to develop climate-related financial risk management practices.

Climate change is an area of risk management that is clearly at the top of the regulatory agenda and is only going to continue gaining momentum. Those banks that act now will be better prepared for its challenges and opportunities.

At OakNorth, we’ve launched a Climate Consortium made up of 30 innovative, climate-forward financial institutions that collectively represent $14T of assets. Through working closely with the banks in the Consortium, we have developed ON Climate as part of the ON Credit Intelligence Suite, providing lenders with insights on climate risk in their commercial portfolio. The solution helps inform banks’ approach at every stage of the credit lifecycle: from monitoring and conducting portfolio-level scenario analysis, to responding to investor, board, and regulatory requests, as well as setting credit strategy.

From competition to collaboration

In the same speech on the 7th, Hsu also discussed bank and fintech partnerships, explaining how by partnering, “banks can gain speed to market and access to technological innovation at lower cost, while fintechs seek to benefit from banks’ reputations for being trustworthy, longstanding customer bases, and access to cheaper capital and funding sources.”

Historically, banks and commercial lenders have relied on a small number of monolithic suppliers and systems to provide them with broad capabilities, augmenting their own internal development, to provide all their infrastructure. These systems are patched to add features as banks grow and markets evolve. Mergers can lead to overlapping, incompatible systems; the bank’s infrastructure can make these systems brittle, costly and time-consuming to change. The economic environment and policy responses by the federal government mean banks are going to have to be able to act with more resourcefulness and agility in the months and years ahead. To do this at speed and at scale, they have to look beyond the short list of traditional vendors and implementation partners more accustomed to project timelines of several years, to a constellation of smaller, more agile fintechs that are able to meet specific needs at a rapid pace.

This is a theme we’re very familiar with at OakNorth from partnering with some of the leading banks in the country, including: Capital One, PNC, Fifth Third, and Old National Bank. We’ve seen banks building increasingly de-integrated tech stacks, and seeing fintechs as collaborators rather than the competition.

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