Image for Report Links Financial Instability to Unchecked Climate Change

As wildfires scorch the West Coast, a new report warns the effects of climate change threaten the long-term stability of US financial markets.

Commissioned by the Commodity Futures Trading Commission, the report concludes, “A world wracked by frequent and devastating shocks from climate change cannot sustain the fundamental conditions supporting our financial system.” The CFTC is made up of three Republicans and two Democrats appointed by President Trump.

Given the looming presidential election, recent hurricanes and flooding and now out-of-control blazes, the report, titled “Managing Climate Risk in the Financial System”, would be easy to overlook. It may be even more significant that the Trump administration, which has scoffed at climate change, allowed the report to see the light of day.

Robert Litterman, who chaired the advisory panel that produced the report, told The New York Times, “This is the first time a government entity has looked at the impacts of climate change on financial markets in the U.S. Rather than saying, ‘What’s the science?’ this [report] is saying, ‘What’s the financial risk?’”

The report contains analysis from investment firms, oil companies, agricultural traders, academic experts and environmental groups. Litterman said, “This is members of the entire community involved in financial markets saying with one voice, ‘This is a serious problem, and it has to be addressed.’”

“This is members of the entire community involved in financial markets saying with one voice, ‘This is a serious problem, and it has to be addressed.’”

The report’s executive summary says, “A major concern for regulators is what we don’t know. While understanding about particular kinds of climate risk is advancing quickly, understanding about how different types of climate risk could interact remains in an incipient stage. Physical and transition risks may well unfold in parallel, compounding the challenge. Climate risks may also exacerbate financial system vulnerabilities that have little to do with climate change, such as historically high levels of corporate leverage.”

The Times quoted an unnamed White House source as saying the CFTC hasn’t endorsed the report’s findings and the report is not an official government report, even though the report is accessible on the commission’s website. Heath Tarbert, the Republican chair of the CFTC, agreed climate change is a major risk, but said abruptly canceling the fossil fuel industry could result in an equally devastating “transition risk”.

The proverbial canary in the coal mine signaling the financial risk of unheeded climate change are falling home prices and rising mortgage default rates in regions suffering severe floods and wildfires. “Climate change is linked to devaluing home values,” said Jesse Keenan, an editor of the report and a professor of real estate at Tulane University in New Orleans. “If in your town, your house is devalued, that makes it harder for your local government to raise money. That’s one set of risks that could lead to a contagion and broader instability across financial markets.”

Large swings in agricultural commodity prices are another indicator of financial instability, according to the report, which could lead to volatility in pension and retirement funds. The manager of California’s Public Employees Retirement System described climate change as one of the fund’s top three existential risks as it faces payouts to 2 million workers over coming decades.

Recommendations put forward in the report include:

  • Putting a price on carbon emissions, either through a carbon tax or an emissions trading system that caps total emissions.
  • Reversing a proposed Trump administration rule that forbids investment managers from considering environmental consequences in their financial advice.
  • Encouraging the Federal Reserve and other financial regulators to join international coalitions addressing climate threats.
  • Strengthening existing regulation to require publicly traded companies to disclose environmental risks that could affect their bottom lines.