Managing Climate Risk in the U.S. Financial System

The Harvard Law School Forum on Corporate Governance and Financial Regulation 2020-10-01

Posted by Bob Litterman, Commodity Futures Trading Commission, on Thursday, October 1, 2020
Editor's Note: Bob Litterman is Chairman of the Climate-Related Market Risk Subcommittee of the Commodity Futures Trading Commission (CFTC). This post is based on his CFTC report.

Climate change poses a major risk to the stability of the U.S. financial system and to its ability to sustain the American economy. Climate change is already impacting or is anticipated to impact nearly every facet of the economy, including infrastructure, agriculture, residential and commercial property, as well as human health and labor productivity. Over time, if significant action is not taken to check rising global average temperatures, climate change impacts could impair the productive capacity of the economy and undermine its ability to generate employment, income, and opportunity. Even under optimistic emissions-reduction scenarios, the United States, along with countries around the world, will have to continue to cope with some measure of climate change-related impacts.

This reality poses complex risks for the U.S. financial system. Risks include disorderly price adjustments in various asset classes, with possible spillovers into different parts of the financial system, as well as potential disruption of the proper functioning of financial markets. In addition, the process of combating climate change itself—which demands a large-scale transition to a net-zero emissions economy—will pose risks to the financial system if markets and market participants prove unable to adapt to rapid changes in policy, technology, and consumer preferences. Financial system stress, in turn, may further exacerbate disruptions in economic activity, for example, by limiting the availability of credit or reducing access to certain financial products, such as hedging instruments and insurance.

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