BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
WASHINGTON,

0. C. 20551
JEROME

H.

POWELL

CHAIRMAN

April 18, 2019

The Honorable Brian Schatz
United States Senate
Washington, D.C. 20510
Dear Senator:
I am writing to respond to your letter dated January 25, 2019, in which you urge the
Federal Reserve (Board) to prepare its supervised institutions for the risks associated with
climate change and inquire how we are identifying and managing these risks in the U.S. financial
system.
As I have commented previously, although addressing climate change is a responsibility
that Congress has entrusted to other agencies, the Federal Reserve does use its authorities and
tools to prepare financial institutions for severe weather events. Over the short term, these
events have the potential to inflict serious damage on the lives of individuals and families,
devastate local economies (including financial institutions), and even temporarily affect national
economic output and employment. As such, these events may affect economic conditions, which
we take into account in our assessment of the outlook for the economy. In response to your
questions, I am including information that addresses how the Board considers severe weather
events in its functions related to: monitoring financial stability, guidance to supervisors and
financial institutions, the operational readiness of financial services provided by Reserve Banks,
and our research.
Financial Stability
The Board's framework for monitoring the stability of the U.S. financial system
distinguishes between shocks to and vulnerabilities of the financial system. 1 Shocks are typically

1

See, Board of Governors of the Federal Reserve System, Financial Stability Report (Washington: Board of
Governors, November 2018),
https://www.federalreserve.gov/publications/files/financial-stability-report- 20 1811 .pdf.

 The Honorable Brian Schatz
Page Two
surprises and are inherently difficult to predict. Vulnerabilities are the aspects of the financial
system that are most likely to cause widespread problems should significant adverse shocks
materialize. Thus, in our framework, severe weather events are treated as shocks to the system.
For example, the possibility of large losses to property and casualty insurers from historically
atypical timing, intensity, or frequency of hmTicane damages represents one such potential
shock. The corresponding vulnerabilities that would potentially be strained include the lossabsorbing capacity of affected insurers and their connections to the broader financial system.
The Board's framework provides a systematic way to assess financial stability; however,
some potential risks do not fit neatly into that framework. Some potential risks are difficult to
quantify and especially if they materialize over such a long horizon that methods beyond nearterm analysis and monitoring are appropriate. Accordingly, we rely on ongoing research by
academics, our staff, and other experts to improve our understanding and measurement of such
longer-run or difficult-to-quantify risks.
Supervision
The Board has supervisory and regulatory authority over a variety of financial institutions
and activities, with the goal of promoting a safe, sound, efficient, and accessible financial system
that supports the growth and stability of the U.S. economy. In ca11'ying out the responsibility to
promote the safety and soundness of individual financial institutions supervised by the Board, we
assess, among other things, supervised firms' ability to identify, measure, monitor, and control
risks, including those related to severe weather events.
To that end, the Board issued supervisory guidance in 1996, to ensure that bank
management takes into account all relevant risks in their underwriting and review practices. Our
guidance with respect to credit underwriting and asset quality provides supervisors the flexibility
necessary to address risks from severe weather events.' In addition, our guidance also
specifically addresses lending to sectors where assessments of these risks are critical for due
diligence and underwriting.'
Additionally, the Board is an active patiicipant in the proceedings of the Financial
Stability Board -- established after the financial crisis to strengthen financial systems and
increase the stability of international financial markets -- which has undertaken relevant work in

2

3

See, e.g., 12 C.F.R. Part 208, App. D-1 to Part 208 ("Interagency Guidelines Establishing Standards for Safety
and Soundness"); Board of Governors of the Federal Reserve System, "SR 96-36: Guidance on Evaluating
Activities Under the Responsibility of U.S. Branches, Agencies and Nonbank Subsidiaries of Foreign Banking
Organizations (FBOs)" (Dec. 19, 1996), https://www.federalreserve.gov/boarddocs/srletters/l996/sr9636.htm;
Federal Deposit Insurance Corporation, "Uniform Financial Institutions Rating System," 62 Fed. Reg. 752 (Jan.
6, I 997).
See, e.g., Board of Governors of the Federal Reserve System, "Commercial Bank Examination Manual,"§§
2142.1 ("Agricultural Credit Risk Management"), 2150.1 ("Energy Lending-Reserve-Based Loans") (rev. Oct.
20 18), https://www.federalreserve.gov/pub] ications/files/cbem. pdf.

 The Honorable Brian Schatz
Page Three
this area. Of particular interest are efforts to promote enhanced risk management disclosure,
particularly for financial institutions that engage in lending to clients in specific geographic areas
or specific sectors of the economy.
The Board also ensures that financial institutions that are core clearing and settlement
organizations, or play significant roles in critical financial markets maintain sound practices to
ensure that they can recover and resume their activities supp01ting these markets following a
severe weather event. 4 In addition, the Board has provided guidance to banking institutions
directly affected by an event that results in a Presidential declaration of a major disaster.' The
supervisory approach described in the guidance provides examiners flexibility to conduct
supervisory activities and formulate supervisory responses that take into account the issues
confronting institutions.
Payment Systems and Financial Market Infrastructure
The Board also has responsibilities for the supervision and oversight of certain financial
market utilities (FMUs), including payment systems, central securities depositories/securities
settlement systems, and central counterparties. As pait of its oversight of the payment system,
the Board expects FMUs to be well risk-managed and adequately prepared for potential
disruptions to its critical operations and services, including those that could be caused by severe
weather events. The Board has adopted risk management expectations applicable to private
sector and Reserve Bank-operated systems based on the internationally agreed Principles for
Financial Market Infrastructures (PFMI). 6 Therein, FMUs are expected to have a sound riskmanagement framework for comprehensively managing legal, credit, liquidity, operational, and
other risks. Accordingly, an FMU should have risk-management policies, procedures, and
systems that enable the FMU to identify, measure, monitor, and manage the risks. In addition,
an FMU is expected to identify the plausible sources of operational risk, both internal and
external, and to mitigate their impact through the use of appropriate systems, policies,
procedures, and controls that are reviewed, audited, and tested periodically and after major
changes.

4

5

6

Board of Governors of the Federal Reserve System, "SR 03-9: Interagency Paper on Sound Practices to
Strengthen the Resilience of the U.S. Financial System" (May 28, 2003),
h!!Rs://www.federalreserve.gov/boarddocs/srletters/2003/sr0309.htm.
Board of Governors of the Federal Reserve System, "SR 17-14: Interagency Supervisory Examiner Guidance for
Institutions Affected by a Major Disaster" (Dec. 15, 2017),
https ://www.federalreserve.gov/supervisionreg(srletters/sr 1714. pdf.
Committee on Payment and Settlement Systems and International Organization of Securities Commissions,

"Principles for Financial Market Infrastructure" (Apr. 2012), https://www.bis.org/cpmi/publ/dlO la.pdf. The riskmanagement and transparency standards in the Federal Reserve's Regulation HH and part I of the Federal Reserve
Policy on Payment System Risk are based on and generally consistent with these international standards. See, 12
C.F.R. Patt 234; Board of Governors of the Federal Reserve System, "Federal Reserve Policy on Payment System
Risk" (Sep. 15, 2017), https://www.federalreserve.gov/paymentsystems/files/psr policy.pdf.

 The Honorable Brian Schatz
Page Four
With regard to the Federal Reserve System itself, we regularly test our business
continuity plans. These plans address a variety of extreme events, including wide-scale or major
disruptions, and aim to limit interruptions of services provided by the Reserve Banks. For
instance, there are a number of procedures in place to ensure the resilience of the Fedwire
services. The 12 Reserve Banks routinely test Fedwire business continuity procedures across a
variety of contingency situations to ensure timely resumption of operations in the event of a
local, regional or wide-scale disruption. Furthermore, Fedwire applications and associated
recovery procedures are regularly enhanced and tested to address various risk scenarios.
Additionally, the Reserve Banks ensure they are prepared to meet the demand of an
increased need for cash related to any disruptive event, including a severe weather event.
Preparations include regularly assessing and testing business continuity plans.
Research

The Board conducts an active research program on a broad an-ay of topics in the fields of
economics and finance. As pati of this broader research mission, research staff write working
papers and publish atiicles in peer-reviewed journals. This research includes studies on a
number of topics that pertain to modeling the economic effects of severe weather events;
modeling uncertainty and risks from such events in financial markets; estimating the effects of
these events on consumer and business activity, as well as on local and aggregate real estate
mai·kets. Additionally, outside researchers are regularly invited to present to staff economic and
financial research on numerous topics, including research related to severe weather events.
Thank you for sharing your concerns on this impmiant issue. I hope that you find this
information helpful.
Sincerely,