Contrasting substance on climate

The Reserve Bank keeps saying climate change threatens financial stability. It has been saying that for three years. No previous Reserve Bank Governor agrees, judging by their silence on the matter. As I said in last week’s report on the Reserve Bank, after three years of looking the Reserve Bank has not been able to come up with any evidence for their theory. I’m sure it is due any minute now.

Via John Cochrane, the Federal Reserve Bank of New York has taken a different approach. It has actually looked at the evidence. Its paper, called “How Bad Are Weather Disasters for Banks?” includes this as its opening sentence in the abstract: “Not very.”

It goes on:

Disasters increase loan demand, which offsets losses and actually boosts profits at larger banks. Local banks tend to avoid mortgage lending where floods are more common than official flood maps would predict, suggesting that local knowledge may also mitigate disaster impacts.

Here is their literature review:

Our main findings are generally consistent with the few papers that study the bank stability effects of disaster. Looking across countries, Klomp (2014) finds that disasters do not effect default risk of banks in developed countries. Brei et al. (2019) find that hurricanes (the most destructive weather disaster) do not significantly weaken Caribbean banks. Koetter et al. (2019) finds increased lending and profits at German banks exposed to flooding along the Elbe River. The study closest to ours by Noth and Schuewer (2018) finds default risk increases at U.S. banks following disasters but the effects are small and short-lived. Barth et al. (2019) find higher profits and interest spreads at U.S. banks after disasters but did not look at bank risk. Based on four case studies of extreme disasters and small banks, FDIC (2005) concluded that …”historically, natural disasters did not appear to have a significant negative I impact on bank performance.”

So, a small, short lived increase in default (not stability) risk, followed by higher profits as a result of higher lending for the recovery. Larger banks see the greatest boost in profitability.

Oh.

There is more substance in that quote above than anything the Reserve Bank has written on climate change. Look at this tripe, from their the Reserve Bank’s Climate Changed report:

A key concern for us is the exposure of the financial sector, including banks and insurers, to climate-related risks… We take our role seriously, so in 2018 we launched our Climate Change Strategy to understand and manage our direct impacts on climate change, incorporate climate change into our core functions, and lead through collaboration…  Without significant action there will be serious impacts on our economies.

There is more that we can collectively do to integrate climate considerations throughout the financial system. It is encouraging to see national and global progress – for example, progress in setting a framework to disclose climate-related risks and some firms beginning to disclose, the delivery of the Climate Change Commission’s first set of advice, and the launch of Toitū Tahua, the Centre for Sustainable Finance. Internationally we are heartened by collaboration in international groups such as the Network of Central Banks and Supervisors for Greening the Financial System (NGFS) and the Sustainable Insurance Forum (SIF), and the focus on finance at this year’s United Nations Climate Change Conference (COP26).

A key challenge is that financial stability is best maintained when all relevant risks have been identified, priced and allocated to those best able to manage them. Work is underway to increase our global understanding of these risks.

Yet we need to be realistic in measuring our collective global progress against the scale of the risks before us and the transition required. While tools like disclosure and scenario analysis are critical in helping us understand and prepare for climate risks, we cannot let a desire to perfect such analysis paralyse us…

Etc. The Reserve Bank could have written that literature review quoted earlier. It decided not to. Instead, the Bank chose to pump out its risible agitprop which might as well have come from Greenpeace.

As Cochrane points out:

This is a courageous paper to write… “We looked and there is nothing here” is not going to go down well. It’s hard to publish papers and get jobs as climate and finance researchers these days if you come up with the “wrong” answers.

A reminder that John Cochrane is delivering a public seminar for the New Zealand Initiative on 2 December. You can sign up here.

Post script: The Fed’s literature review, the part that covers stability, has references to five academic papers. These papers have pertinent titles: “Financial fragility and natural disasters,” “The impact of natural disasters on the banking sector,” “Borrowers under water! rare disasters, regional banks, and recovery lending,” “Natural disaster and bank stability,” and “Banks and natural disasters.”

According to Google, none of those five papers are mentioned anywhere on the Reserve Bank’s web site. Quelle surprise.

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