What the pullback of U.S. climate guidance means for banks

• Key insight: The Federal Reserve recently rolled back Biden-era climate guidelines for banks' risk frameworks.
• What's at stake: Although climate events haven't yet caused major financial losses for banks, analysts think it's a growing risk.
• Supporting data: The cost and frequency of climate-related events in the U.S. has gradually increased in recent decades, per Fitch Ratings.

Climate change should still factor into banks' risk frameworks, credit analysts say, despite bank regulators' recent pullback of climate-related guidance.

Financial losses at banks connected to climate risks have so far been manageable, according to a recent report from Fitch Ratings, but financial institutions still must contend with the steady rise in the number of natural disasters, along with the rapid evolution of technology, regulation and government priorities around climate change.

"Looking down the road, we do think it is a financial risk, and it's something that banks probably should be incorporating into their risk management frameworks," Mark Narron, a senior director in Fitch Ratings' financial institutions group, said in an interview.

Earlier this month, the Federal Reserve, Federal Deposit Insurance Corp. and Office of the Comptroller of the Currency said that principles finalized by bank regulators in 2023 are unnecessary because of existing safety and soundness requirements.

When the 2023 guidance was adopted, Fed Gov. Chris Waller said that while he believed in climate change, "it poses no specific threat to the soundness of the banking system." He added that he doesn't think climate-related risks "are sufficiently unique or material to merit special treatment relative to other risks."

Banks have so far been able to rely on insurance proceeds and government aid to soak up potential losses from climate-related disasters, the Fitch report found. But the cost and frequency of climate-related events in the U.S. has gradually increased in recent decades. Insurance costs and problems around insurability have also mounted.

Early this year, wildfires in and around Los Angeles burned more than 50,000 acres, 20,000 structures and required the evacuation of 200,000 people from their homes. Total property and capital losses from the fires could range between $95 billion and $164 billion, with insured losses estimated at $75 billion, according to a March estimate by professors at the University of California, Los Angeles.

Monitoring the financial pressure on insurance companies can be an effective tool for banks to mitigate climate risks. But Narron said it's possible that some of the government's reallocation of resources could stifle access to some of that data.

In terms of operational resilience, many banks, and particularly large institutions, already have risk management plans to address climate change, which the Fitch analysts said are likely to be sufficient. For example, when Hurricane Helene devastated parts of North Carolina last year, some banks were able to deploy mobile units in vans or buses to meet customers' needs.

But there is much more to climate risk management than operational readiness. In 2023, the Fed conducted a pilot scenario analysis to research six large banks' climate risk management plans.

"Participants suggested that climate-related risks are highly uncertain and challenging to measure," the analysis said. "The uncertainty around the timing and magnitude of climate-related risks made it difficult for participants to determine how best to incorporate these risks into their risk management frameworks on a business-as-usual basis."

And floods and fires aren't the only risks banks must monitor.

On top of the physical potential damage of climate events, the Fitch report also highlighted transition risk — like the pendulum swing of policy choices in 2025 that has been reversing climate-related moves by the Biden administration. 

When the federal government passed tax legislation this summer that dealt a blow to solar panel financing, some banks had to step back from the business, or run off their exposure to the once-profitable segment. Fifth Third Bancorp Chief Financial Officer Bryan Preston said this summer that the Cincinnati bank's solar originations next year may be down by as much as 80% from the 2025 level. 

Providing climate-focused loans and bond sales have generated more revenue for banks globally than oil, gas and coal-related financing for the past four years, according to research from Bloomberg. But European banks have been the top underwriters of green bonds in that time, while American megabanks are the leading financial institutions for fossil fuel companies.

Climate financing has reeled in almost $3.5 billion this year across the banking industry globally, compared with $2.6 billion generated by oil, gas and coal business, per Bloomberg.

"It's not unusual for different administrations to have different priorities," said Grace Kim, an associate director at Fitch Ratings. "But the physical and transition risks that come with climate events are likely here to stay."

The United Kingdom and European Union have higher standards for climate risk mitigation by banks, but the U.S. has reined in the work of the previous administration in this area, Kim noted. At the beginning of the year, U.S. regulators exited the Network of Central Banks and Supervisors for Greening the Financial System.

But Kim said banks should still be prepared in case policy shifts again toward climate caution in a future administration. The six largest banks in the country left the Net-Zero Banking Alliance shortly after the 2024 presidential election. The UN-backed initiative said in September it was pausing activities.

Fed Gov. Lisa Cook, who abstained from the recent vote to rescind the climate guidance, said in a prepared statement earlier this month that she expects large banks to be proactive in addressing climate-related risks.

"I also believe it is advantageous for the banking industry to have stable, well-understood supervisory expectations," she said. "Notwithstanding the Board's decision to rescind these principles, I expect large banks will continue to find value in monitoring their weather-related risks."

Jessye Waxman, a campaign advisor for the Sierra Club's sustainable finance campaign, said in a prepared statement that the Fed's rescission of the climate guidance is a "purely political move," and that the science of climate change hasn't changed.

"Federal regulators in the U.S. and around the world have recognized that climate change poses a destabilizing, systemic threat to the financial system," Waxman said. "These principles were designed to promote best practices to help avoid another financial crisis like 2008."