The debate over the role of prudential regulators and supervisors in addressing climate-related risks – and whether and how different prudential tools should be applied to respond to such risks – continues to evolve. However, there are many important open questions regarding the feasibility, costs, benefits, and potential unintended consequences of using the regulatory capital framework to address climate-related risks, which need to be resolved before actions are taken. The IIF and its members have developed this paper to contribute industry perspectives on the theoretical basis, methodological approaches, and potential implications of using the regulatory capital framework to address climate-related risks.
Given the nascent understanding of climate risks, the well-recognized data and methodology challenges, and the results of analyses performed to date, we believe the focus on supervisory engagement is currently the most effective and efficient way to further develop the prudential regime for climate risks. Changes to the regulatory capital regime appear to be unwarranted when considering existing data, and as such would be premature.
Enhancing climate risk management practices will remain a top priority for the financial services industry, in close collaboration with regulatory and supervisory authorities. Towards this end, we propose in our paper that prudential authorities i) take a nimble approach to the supervision and regulation of climate-related risks, adaptable to dynamic climate science, policy, and market conditions; ii) publish clear and objective criteria based on which they would apply their discretion within the supervisory review (Pillar 2) framework; iii) collaborate across jurisdictions to develop common approaches regarding the use of prudential tools; iv) identify a set of standardized metrics that can be used to quantify the impacts of different scenarios; and v) engage with industry stakeholders and other regulators to implement innovative platforms to facilitate the availability of more consistent and comprehensive data.