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Pilot Climate Scenario Analysis for the Six Biggies

The Federal Reserve Board promotes a safe, sound, and efficient banking system that supports the U.S. economy through its supervision and regulation of banking organizations. As part of its supervision efforts, the Board is conducting a pilot Climate Scenario Analysis (CSA) exercise.

This exercise has two primary objectives:

• Learn about large banking organizations’ climate risk-management practices and challenges.

• Enhance the ability of both large banking organizations and supervisors to identify, measure, monitor, and manage climate-related financial risks.

Climate scenario analysis—in which the resilience of financial institutions is reviewed under different climate scenarios—is an emerging risk-management and supervisory tool used to evaluate climate-related financial risks. By considering a range of possible future climate pathways and associated economic and financial developments, scenario analysis can help large banking organizations and supervisors understand climate-related financial risks.

However, these climate scenarios are neither forecasts nor policy prescriptions and do not necessarily represent the most likely future outcomes or a comprehensive set of possible outcomes. Rather, they represent a range of plausible future outcomes that can help build an understanding of how certain climate-related financial risks could manifest for large banking organizations and how these risks may differ from the past. It is important to note that the pilot CSA exercise is strictly exploratory in nature and does not have consequences for bank capital or supervisory implications.

The Board is conducting a pilot CSA exercise to learn about large banking organizations’ climate risk-management practices and challenges and to enhance the ability of both large banking organizations and supervisors to identify, measure, monitor, and manage climate-related financial risks.

The Board designed the pilot CSA exercise to gather qualitative and quantitative information about the climate risk-management practices of large banking organizations. Information collected and discussed with participants will include detailed documentation of governance and risk-management practices, measurement methodologies, data challenges and limitations, estimates of the potential impact on specific portfolios, and lessons learned from this exercise that could inform any future CSA exercises.

The pilot CSA exercise comprises two separate and independent modules: a physical risk module and a transition risk module. Physical risks represent the harm to people and property that may result from climate-related events, while transition risks represent stresses that may result from the transition to a lower carbon economy. For both the physical and transition risk modules, the Board aims to describe forward-looking scenarios to participating large banking organizations, including core climate, economic, and financial variables, where appropriate.

In selecting scenarios for this exercise, the Board leveraged existing work conducted by the Intergovernmental Panel on Climate Change (IPCC) for physical risks like extreme weather shocks, hurricanes, and flooding. The Network of Central Banks and Supervisors for Greening the Financial System (NGFS) for the transitioning risks.

Briefly speaking, participants will calculate and report to the Board credit risk parameters for each loan, for instance, probability of default (PD), internal risk rating grade (RRG), and loss given default (LGD), as applicable. Participants will respond to qualitative questions describing their governance, risk-management practices, measurement methodologies, results for specific portfolios, and, most importantly, the lessons learned. This will provide information about how the relative riskiness of exposures within participants’ credit portfolios may evolve over time in response to different climate scenarios.

Six U.S. bank holding companies (BHCs) will participate in this pilot exercise: Bank of America Corporation; Citigroup Inc.; The Goldman Sachs Group, Inc.; JPMorgan Chase & Co.; Morgan Stanley; and Wells Fargo & Company. These six banking organizations will submit completed data templates, supporting documentation, and responses to qualitative questions to the Federal Reserve Board by July 31, 2023.

This pilot CSA exercise will support the Board’s responsibilities to ensure that supervised institutions are appropriately managing all material risks, including financial risks related to climate change. The Board will publish insights gained from this pilot exercise around the end of 2023.

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