Large Financial Institutions Could Face Added Duties From the FDIC to Manage Climate-Related Financial Risks

The Federal Deposit Insurance Corporation (FDIC) requested comment on its new Statement of Principles for Climate-Related Financial Risk Management. The proposed principles raise expectations for large financial institutions and banks to stay on top of and manage climate-related financial risks.

What institutions do the principles apply to?

The statement applies to large financial institutions with over $100 billion in total consolidated assets. It defines “financial institutions” as “insured state nonmember banks, state-licensed insured branches of foreign banks that are subject to the provisions of section 39 of the Federal Deposit Insurance Act, and state savings associations.”

The statement comes on the heels of the Securities and Exchange Commission’s climate-related disclosure rule. The FDIC’s statement largely mirrors the Office of the Comptroller of the Currency’s recent draft principles on managing exposure to climate-related financial risks, which apply to national banks, federal savings associations, and federal branches or agencies of foreign banking organizations. There is no question that the regulatory emphasis on climate-related risks and disclosures continues to grow.

What guidance do they give institutions to manage climate-related financial risks?

The statement begins with the premise that climate change and transitioning to a low-carbon economy “present emerging economic and financial risks that threaten the safety and soundness of financial institutions and the stability of the financial system.” The FDIC recognized “the need for comprehensive risk management guidelines that can be implemented consistently.” The statement’s draft principles are meant to provide a high-level framework that the FDIC will expand on in future guidance.

1. Make sure your board and management are actively involved

The statement addresses the need for effective risk governance that includes a board and management that:

• • Understand climate-related financial risk exposure
  • Review relevant information
  • Allocate appropriate resources
  • Assign climate-related financial risk responsibilities throughout the organization

Management should also include climate-related risks in policies, procedures and limits to provide detailed guidance on the institution’s approach to these risks. 

2. Include climate-related issues in strategic planning

The board and management should consider material climate-related financial risk exposures when setting the overall business strategy. Climate-related strategies should also align with the institution’s broader strategy, risk appetite and management framework. Public statements about an institution’s climate-related strategies should be consistent with internal strategies.

3. Design ways to measure and monitor climate-related risks

The statement notes that sound risk management includes developing processes to measure and monitor material climate-related financial risks. Corresponding tools and approaches include exposure analysis and scenario analysis. The FDIC refers to scenario analysis as “exercises used to conduct a forward-looking assessment of the potential impact on an institution of changes in the economy, financial system, or the distribution of physical hazards resulting from climate-related risks.” The board and management should also consider climate-related financial risks as part of the underwriting and monitoring of portfolios and assess whether they could affect liquidity.

These principles are broad with more detailed guidance still to come. In the meantime, the FDIC has requested comments, including in response to specific questions. The comment period will last 60 days from publication in the Federal Register. The FDIC and OCC’s statements provide the writing on the wall for how large financial institutions and banks will be expected to identify and manage climate-related financial risks. Smaller institutions may also experience a trickle-down effect, since regulators may eventually look to apply a similar approach across a broader spectrum.

Please contact Alan Harrell of any member of Phelps’ ESG team if you have questions or for compliance advice and guidance.