BPI Comments on the Basel Committee on Banking Supervision’s Climate-Risk Discussion Paper

Ladies and Gentlemen:

The Bank Policy Institute^[1] appreciates the opportunity to comment on the Basel Committee on Banking Supervision's discussion paper titled "The role of climate scenario analysis in strengthening the management and supervision of climate-related financial risks" (the "Discussion Paper").^[2]

Executive Summary

We appreciate the BCBS's efforts to "gather feedback from stakeholders on a range of topics related to the practical application of [climate scenario analysis] and its role in strengthening the management of climate-related financial risks."^[3] Our members are actively evaluating climate-related financial risks and their potential impacts and are devoting substantial resources to developing risk management capabilities to identify, measure, and mitigate these risks.

Climate Scenario Analysis ("CSA") is emerging as an important tool for banks to identify and understand potential impacts of climate-related financial risks. The Discussion Paper raises important considerations for the role of CSA in the management and supervision of climate-related financial risks.

We support the BCBS's view that "CSA should have clearly articulated and formally adopted objectives."^[4] The Discussion Paper summarized the objectives of CSA and climate stress testing ("CST") articulated in the Principles for the effective management and supervision of climate-related financial risks ("Principles")^[5] by classifying those objectives under four main categories: (1) risk identification; (2) risk management processes; (3) internal and supervisory capital and liquidity assessments; and (4) assessment of business model resilience and business strategy building (together, the "Objectives"). Although we agree that these Objectives, as a general matter, should be considered in designing CSA, to the extent applicable and appropriate, and that CSA exercises are useful in helping banks understand potential climate-related financial risk exposures in a specific scenario, we believe it is important for the BCBS to acknowledge the limitations of CSA as well. Climate scenarios are neither forecasts of climate-related physical risk events nor forecasts of government, business, and consumer behavior in response to those events. There is a high degree of uncertainty around the timing and magnitude of climate-related physical risk events and the resulting political, social, and economic reactions that may ensue. Those uncertainties can generate considerable variation in estimates of expected impacts on banks' climate-related financial exposures, which makes it challenging to incorporate CSA results into risk management and strategic decisions.

We are also concerned that the Objective relating to internal and supervisory capital and liquidity assessments appears to assume that climate-related financial risks are sufficiently material to affect banks' capital adequacy that they should be incorporated in banks' capital and liquidity assessment processes. However, the results of supervisory CSA and CST conducted in multiple jurisdictions to date have consistently shown that the levels of potential exposures posed by climate change have not yet risen to the levels of risk that would affect banks' capital adequacy.

We are also concerned that some aspects of the Objectives may indicate or may be interpreted to indicate a view that climate-related financial risk should be treated as a standalone risk type. This view would not be consistent with the approach to effective management and supervision of climate-related financial risk previously adopted by the BCBS, which approaches climate-related financial risks as risk drivers that can translate into traditional financial risk types, rather than a standalone risk type. Climate risk drivers should be treated in the same manner as other financial risk drivers when institutions run their Internal Capital Adequacy Assessment Process ("ICAAP") and Internal Liquidity Adequacy Assessment Process ("ILAAP") processes, with only those risks assessed as material incorporated into the assessment.

The Discussion Paper also identifies key features and usage-specific considerations for CSA. Although we generally agree with the key features described in the Discussion Paper, which provide the overarching principles for designing CSA exercises, we are concerned that some of the usage-specific considerations, if implemented, would not be consistent with the overarching principles embodied by some of the key features.

To address these concerns and support the BCBS's continued efforts to provide guidance on CSA, we urge the BCBS to consider the following recommendations in connection with any future work on CSA:

• The BCBS should acknowledge that the high degree of uncertainty surrounding CSA results makes it challenging to incorporate CSA results into risk management and strategic decisions.
• The Objectives appear to assume that climate-related financial risks should be incorporated into a bank's internal and supervisory capital and liquidity assessment processes, which is generally inappropriate at this time.
• The Objectives should be consistent with the Principles, which appropriately recognize climate- related financial risks as drivers of traditional risk types rather than a standalone risk type.
• The role of CSA in assessing business model resilience and business strategy building should be clarified to avoid suggesting that banks should use CSA to assess their climate transition plan or targets and, more generally, the BCBS should avoid framing CSA in a way that could potentially constrain banks' business models and strategic planning.
• The BCBS should acknowledge that, on balance, it would be better to limit standardization in CSA exercises at this time to allow for more tailored CSA exercises that better capture banks' idiosyncratic risks and encourage innovation in the rapidly evolving CSA practices.
• The BCBS should ensure consistency between the usage-specific considerations and the key features of CSA.
• Any future CSA guidance issued by the BCBS should be principles-based.

We welcome the opportunity to meet with BCBS's representatives to discuss our comments and to work with the BCBS to further develop the objectives and key features for CSA.

To read the full comment letter, please click here, or click on the download button below.

[1] The Bank Policy Institute is a nonpartisan public policy, research and advocacy group that represents universal banks, regional banks, and the major foreign banks doing business in the United States. The Institute produces academic research and analysis on regulatory and monetary policy topics, analyzes and comments on proposed regulations, and represents the financial services industry with respect to cybersecurity, fraud, and other information security issues.

[2] BCBS, The role of climate scenario analysis in strengthening the management and supervision of climate- related financial risks, April 2024, https://www.bis.org/bcbs/publ/d572.pdf.

[3]Id. at 1.

[4]Id. at 5.

[5] BCBS, Principles for the effective management and supervision of climate-related financial risks, June 2022, https://www.bis.org/bcbs/publ/d532.pdf.

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