For the first time in its history, the U.S. Federal Reserve included climate change as a risk in its biannual financial stability report. According to the central bank, global warming can create abrupt changes in asset values on the planet.
Federal Reserve and climate change: a potential risk to the global financial market
The U.S. Federal Reserve, the world’s most powerful central bank, referred for the first time to climate change as a potential hazard to the global financial market. Released on November 9th, FED’s biannual financial stability report says if actions against climate change are not taken, hazards like storms, floods, or fires could create enormous economic turmoil.
In the report, the Federal Reserve refers to climate change as a “trend toward higher average global temperatures and accompanying environmental shifts such as rising sea levels and more severe weather events.”
According to the document, climate change adds economic uncertainty and risks to financial stability. Also, different economic sectors and regions will face risks differently.
In that regard, the central bank mentions some climate risks in its report. For instance, rapid shifts in public perceptions towards global warming or natural catastrophes such as droughts, floods, or wildfires, can produce repricing events, direct losses, an increased frequency and severity of financial shocks, and long-term repercussions in the global financial system.
Climate Hazards to the Financial Economy
Summarizing, the Federal Reserve includes acute climate hazards, chronic climate shifts, climate policies, technological advances, and investor/consumer perceptions as climate-related risks.
On the other hand, the report provides a few examples of climate change-related features: nonlinear effect on financial risks and models, timing uncertainty, incomplete contracts, and opacity of exposures.
Over the vulnerabilities that these features have, the document includes asset valuations, borrowing by businesses and households, leverage in the financial sector, and funding risks.
The Fed’s staff members will continue to research the relationships between climate risks and economic and financial risks. According to the document, this work will be conducted close to other U.S. agencies and international organizations.
The central bank’s goal is to strengthen the knowledge and understanding regarding the global financial market stability. From now on, the Federal Reserve will include its financial system vulnerabilities assessments related to climate change.
Furthermore, the bank called companies for increased transparency, asking them to disclose frequently their carbon footprint.
More than sixty central banks have already warned the potential risks of climate change in their reports on an international level. For instance, the Reserve Bank of Australia and the Bank of England acknowledge the global GDP could fall 25% below the expected level by 2100 if the planet doesn’t reduce its greenhouse gas emissions (GHG).
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In their reports, some of these banks have stated that if the world limits its carbon emissions to net-zero by 2070, the impact of climate change on global GDP would be about 4%.
Several central banks have also united in a joint group called the Network for Greening the Financial System. The group also includes 13 observer institutions.