The Federal Reserve has directed the six largest banks in the United States—Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley, and Wells Fargo—to conduct a comprehensive assessment of the potential effects of trial scenarios concerning both physical and transitional risks stemming from climate change on their real estate holdings.
This initiative, initially announced last year, aims to collect both qualitative and quantitative data throughout the pilot phase. The central bank emphasizes the importance of gathering insights regarding governance and risk management frameworks, measurement approaches, risk metrics, data-related challenges, and valuable lessons learned during this process.
Michael Barr, the Federal Reserve’s Vice Chair for Supervision, noted, “The Fed holds a specific yet critical role in relation to climate-related financial risks, ensuring that financial institutions recognize and manage their substantial risks, including those posed by climate change. This exercise is designed to enhance the capacity of both supervisors and banks to analyze and mitigate emerging climate-related financial risks.”
The pilot analysis will incorporate various physical risk scenarios of differing intensities that may impact residential and commercial real estate sectors in the Northeastern United States. Each bank is also tasked with evaluating the potential consequences of additional physical risk events on their real estate holdings in other regions of the country.
In terms of transitional risks, the banks will examine the implications for corporate lending and commercial real estate portfolios through scenarios reflecting current policies, alongside a framework envisioning the achievement of net-zero greenhouse gas emissions by the year 2050.
It is important to highlight that this climate scenario analysis is distinct from conventional bank stress tests. While traditional stress tests assess whether large financial institutions possess sufficient capital to sustain lending activities during economic downturns, this exploratory climate scenario exercise does not carry direct capital-related implications.