Financial regulators updating anti-redlining rules face a conundrum: how to increase lending in lower-income neighborhoods prone to climate disasters while also getting banks to better account for climate risks.
Some climate mitigation efforts, such as investing in green jobs or building improvements to withstand floods and fires, have always counted under Community Reinvestment Act rules that measure bank lending to underserved communities.
But regulators are treading carefully as they look to modernize the CRA’s rules and possibly expand the types of climate projects that would count in assessments of bank performance.
Traditional investments in housing, small business, job creation and even some green projects could suffer if banks are given too much credit for big infrastructure projects that might only have one climate component, said Jaime Weisberg, a senior analyst for the Association for Neighborhood and Housing Development, a New York advocacy group.
“When you start getting outside of that area, I think it should be taken very seriously and reviewed for unintended consequences,” Weisberg said.
Acting Comptroller of the Currency Michael Hsu acknowledged the problem recently when he said climate investments and more traditional CRA lending efforts must be calibrated correctly.
“There’s a potential tension here,” he said at a Feb. 14 virtual event hosted by the National Community Reinvestment Coalition.
The CRA was enacted in 1978 to address historic redlining that has kept Black, Latino and other minority communities from getting access to credit. Regulators measure how well banks lend to specific areas, with a poor grade potentially limiting merger activity or branch growth.
The Federal Reserve, the Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency are considering rule changes that would help communities be better prepared for floods, wildfires, droughts and other climate disasters before they happen.
A 2019 Federal Reserve Bank of San Francisco study found that 57% of counties impacted by major climate disasters since 1998 included CRA-eligible census tracts.
The revision of the CRA’s rules, which were last updated in the early 1990s, comes as the Biden administration’s banking regulators also work on guidance for banks to better manage climate change risk as part of their operations.
Those two efforts could come at cross-purposes if regulators aren’t careful, Hsu said.
Hsu said he fears banks will be skittish about lending into some areas if climate risk and CRA efforts aren’t calibrated correctly. Banks could think twice about lending to CRA areas prone to climate disasters if it would add risk to their books.
Banks and regulators have long had to balance the risks of environmental damage when doling out loans, and it has always been a tension with CRA lending and investments, said Randy Benjenk, a partner in Covington & Burling LLP’s financial services group.
“Banks’ underwriting processes already take into account the physical risks of climate change, such as the potential loss of collateral due to a natural disaster, yet banks have managed to lend in areas vulnerable to these events,” he said.
Currently, banks get credit for pouring money into communities that are recovering from natural disasters, even if they don’t operate in the areas where the disaster occurred.
There are ways to mitigate against potential tensions between climate risk and the CRA.
The simplest would be for banks to get CRA credit for focusing on “precovery” efforts before a disaster hits, said Jesse Van Tol, the president and CEO of the National Community Reinvestment Coalition.
Van Tol noted that many flood-prone places like Miami and fire-prone locations like the parts of Northern California often don’t have the means to upgrade buildings and undertake other efforts to protect against climate risks.
Giving banks CRA credit for funding those types of efforts, where the economics may not be quite right, would be a net-benefit, he said.
“The framework here is climate resilience,” Van Tol said.
New York state announced in February 2021 that banks would get credit for climate mitigation efforts under the state’s version of the CRA law.
New York’s guidance listed sewer improvement projects and other flood mitigation efforts as potential CRA projects. It also mentioned renewable energy, microgrid electricity projects, battery storage and other energy efforts that reduce the risks of power loss due to flooding and high winds.
Striking a Balance
The Trump-era OCC in May 2020 released a final CRA rule that would have given banks credit for the total dollar value of money put into communities, rather than looking at the total number of loans.
In that sort of “zero-sum” equation, banks could pursue a few big-dollar investments in climate mitigation infrastructure—such as a big sewer upgrade project—rather than a larger number of smaller projects that would have a greater impact on the community, Van Tol said.
The Biden-era OCC rescinded that rule and is working with the Fed and the FDIC on a new proposal that will likely focus on the number of loans.
A focus on multiple, smaller loans could allow for a better balance between climate risk and lending and investing into low- and moderate-income communities.
“By and large, regulators and banks have found a way to strike an appropriate balance between those goals, and a sharper focus on risks arising from climate change shouldn’t fundamentally alter that balance,” Benjenk said.