The Biden Administration on May 20, 2021, issued its latest and long-awaited Executive Order (EO) on climate-related financial risk. This EO reflects how the administration is continuing to take a “whole of government” approach to climate risk with an emphasis on financial risk as reported in an earlier Holland & Knight alert. (See “The U.S. Financial System and Climate Risk: Putting the Report of the CFTC’s Climate-Related Market Risk Subcommittee in Context,” Jan. 21, 2021.) The EO will affect a number of business sectors, including financial institutions, insurance companies, U.S. Securities and Exchange Commission (SEC)-regulated entities and government contractors, and will require a number of studies and reports to be filed by government agencies within the next 120 to 180 days. Demonstrating how climate change and environmental justice issues remain a top priority within the Biden Administration, this EO is the latest in a series of actions designed to encourage economy-wide transition by targeting the financial sector and potentially squeezing capital markets for companies perceived as less sustainable.
On its face, this EO creates a plan to create a plan. Embedded in the “plan to make a plan” are two realities: First, the federal government is undertaking a significant effort to examine how its assets and investments are impacted by climate change, and second, the federal government and the independent financial regulators are extending the asset and investment analysis of climate risk to the financial sector. The results of the analysis are a foregone conclusion for this administration: Climate-related risk poses a threat to the stability, strength and resilience of the global economy. This effort is the starting point for the federal government and the banking system to analyze and quantify the risks in a consistent manner and then mitigate them.
Opposition was also speedy. Sen. Pat Toomey (R-Pa.) released a statement on the day that the EO was released, saying, “Today’s executive order demonstrates that the Biden Administration is preparing to misuse financial regulation to further environmental policy objectives. … Not only would such regulation exceed the scope of financial regulators’ respective missions and authorities, but it would also distort capital allocation, raise energy costs for consumers and slow economic growth.”
The EO directs the director of the National Economic Council and the National Climate Advisor, working with the Secretary of the U.S. Department of the Treasury and the director of the Office of Management and Budget (OMB), to develop a comprehensive, government-wide strategy within 120 days for:
- measuring, assessing, mitigating and disclosing climate-related financial risk to federal programs, assets and liabilities
- financing needs in order to achieve net-zero greenhouse gas emissions by no later than 2050, limiting the average global temperate increase to 1.5 degrees Celsius, and adapting to chronic and acute impacts of climate change
- identifying areas in which public and private investments can play complementary roles in meeting financial needs
The EO reminds financial institutions that they need to account for physical and transition risks that threaten to disrupt the competitiveness of companies in the United States, or the ability of those financial institutions to serve their local communities. Even more directly, the financial services industry is on notice that they have a clear role in decreasing greenhouse gases and protecting against climate-risk. If it was unclear that the direction of this effort was to disclose the financial services industry role through a new reporting regime in an effort to encourage significant reductions, Treasury Secretary Janet Yellen’s remarks upon publication of the EO made that objective clear: “Achieving net-zero emissions in the United States will require transformational investments in our energy sector and the broader economy, and the global financial sector will be a crucial player, helping channel capital into investments that green our society.” Financial institutions are urged to exercise prudent fiscal management. One way in which they can do so is to provide clear and accurate disclosure of climate-related financial risk, consistent with EO 13707, taking steps to mitigate risks, particularly disparate impacts on disadvantaged communities and communities of color, consistent with EO 13985.
The Treasury Secretary, as chair of the Financial Stability Oversight Council (FSOC), is directed to engage its members to:
- issue a report to the president within 180 days on efforts to integrate climate-related risks into policies and programs, including actions to enhance climate-related disclosures by regulated entities, approaches to incorporate climate-related financial risk into regulatory and supervisory activities, processes to identify climate-related risk to the financial stability of the United States, and recommendations regarding how climate-related risks can be mitigated
- share climate-related financial risk data among FSOC agencies and executive departments
- assess climate-related financial risk in a detailed and comprehensive manner to the financial stability of the government
Locating the directive to Secretary Yellen’s responsibilities to the FSOC demonstrates the complexity and likely long timeline associated with the creation of a fulsome climate-risk reporting regimen for financial institutions and the resulting pressure to limit greenhouse gas emissions. Upon release, the coordination aspect of the task was clear in Secretary Yellen’s remarks: “FSOC will work with regulators to share perspectives, identify common impediments, and find solutions to those impediments. A critical task is pulling together individual agency perspectives to assess how climate risks may impact the stability of the entire financial system.”
The text of the EO is carefully drafted to reflect the independence of the regulators. The EO does not directly apply to the Commodity Futures Trading Commission (CFTC), Federal Deposit Insurance Corporation (FDIC), Federal Reserve (Fed), National Credit Union Association (NCUA), SEC, Consumer Financial Protection Bureau (CFPB) or Federal Housing Finance Agency (FHFA). Rather, the clearest instruction that the president can give to these regulators is for them to “consider” assessing the risk of climate change. It is not a clear directive, with explicit deadlines to create climate-related risk disclosure regimes. Those regimes, nonetheless, may well be the predictable outcome. However, the political realities – rulemaking and significant pushback from industry – very likely mean that this will be more than a 120-day process.
The Treasury Secretary is also instructed to direct the Federal Insurance Office to assess any gaps in the supervision or regulation of insurers when it comes to climate-related issues, and to work with the states to determine whether there is the potential for any significant disruption in private insurance coverage in portions of the country that are particularly vulnerable to climate change.
Other Government Agencies
The director of the OMB, working with the director of the National Economic Council, is directed to develop recommendations to the National Climate Task Force on integrating climate-related financial risk into financial reporting and federal financial management. These organizations are encouraged to develop enhanced accounting standards. The EO reestablishes the Federal Flood Risk Management Standard, which was originally established in 2015, by reinstating EO 13690.
The secretaries of Agriculture, Housing and Urban Development (HUD) and the Veterans Administration are encouraged to consider integrating climate-related financial risk into their underwriting standards, loan terms, asset management and servicing.
The Secretary of Labor is directed to determine what actions can be taken under the Employee Retirement Income Security Act (ERISA) to protect the savings and pensions of U.S. workers from the threat of climate-related financial risks, and to consider suspending, revising or rescinding certain Trump-era regulations that would not allow ERISA fiduciaries to take environmental, social and governance factors into consideration in making investment decisions.
Government contractors may also be impacted by this latest EO. The Federal Acquisition Regulatory Council (FAR Council), in consultation with the chair of the Council on Environmental Quality (CEQ), is charged with considering whether the Federal Acquisition Regulation (FAR) should be amended to require major federal suppliers to disclose their greenhouse gas emissions and climate-related financial risk, and to set science-based reduction targets. The FAR Council is also directed to consider amending the FAR to require the social cost of greenhouse gas emissions to be evaluated in procurement decisions and potentially give preference to bids with a lower social cost. The heads of agencies that are required to submit Climate Action Plans pursuant to EO 14008 must include actions that integrate climate-related financial risk into their procurement policies.
In short, the ask of the “whole of government” is substantial given the short time frame, but concerns about a “sea change” event in 2021 should be caveated. Process, policy and politics are likely to create an extended period of purposeful deliberation.