Josh Galper on Dealing with Climate Risk and Its Potential Impact on US Financial Markets

Episode Summary

Executive Summary: Josh Galper argued that post-pandemic financial regulation will likely focus on two fronts: fixing Treasury/repo market fragility exposed in March 2020 and building a climate-risk regulatory framework under the Biden administration. He emphasized data, modeling, and supervisory tools—especially FSOC, the OFR, and the Fed’s vice chair for supervision—as the key levers for implementation, while also warning that negative rates remain a policy challenge.

Main Topics: Treasury and repo market fragility after March 2020 (Priority: 5/5): The discussion revisits the March 2020 Treasury market stress, where a dash for cash overwhelmed market capacity and forced the Fed to intervene heavily. Galper sees capacity constraints and market expectations as central vulnerabilities that future regulation must address. Standing repo facility, central clearing, and Fed backstop design (Priority: 5/5): Galper weighs proposals to reduce future market stress: a standing repo facility to shape expectations, central clearing to expand settlement capacity, and a continued Fed role as buyer/lender of last resort. He stresses the importance of who gets access and at what price. Climate risk as a financial regulation issue (Priority: 5/5): The conversation reframes climate change into climate risk: how climate events affect asset values, bank balance sheets, collateral, and financial stability. Galper expects this to become a major regulatory priority under Biden. Data, models, and the Office of Financial Research (Priority: 5/5): A major theme is that climate-risk oversight depends on better data and workable methodologies. Galper argues the OFR could become the central U.S. repository for the metadata and supporting inputs needed to validate climate-risk models. Regulatory structure and political leadership under Biden (Priority: 4/5): Galper identifies the Fed, FSOC, Treasury, the CFTC, SEC, and especially the Fed vice chair for supervision as pivotal institutions. He expects new appointments to push more formal climate-risk supervision and stress testing. Negative interest rates and policy alternatives (Priority: 3/5): In the closing section, Galper discusses how the Fed might avoid negative rates through yield curve control, a wider repo operating range, or other tools. He is skeptical of dual-rate systems due to market confusion and political concerns.

Key Arguments: March 2020 exposed that Treasury market capacity was insufficient for a sudden dash for cash, making a Fed backstop essential. A standing repo facility could reduce panic by making liquidity support permanent and predictable, while central clearing could improve market capacity. The main climate-risk challenge is not political rhetoric but the lack of reliable data and accepted methodologies for stress testing assets. The OFR is the natural U.S. institution to organize the data infrastructure for climate-risk measurement and to validate model inputs. Climate risk will likely enter bank regulation through higher capital or buffer requirements on exposed assets, changing collateral and pricing decisions across markets. The Biden administration, especially through FSOC and the Fed’s supervisory leadership, is likely to accelerate climate-risk supervision and possibly global standard-setting. Negative rates are undesirable, and the Fed has several tools to avoid them, but dual-rate schemes could create confusion and fairness concerns.

Data Points: Fed intervention in Treasury market: near $1 trillion - The Fed bought roughly a trillion dollars of Treasuries in a few weeks during March 2020 to stabilize the market. Standing repo facility rate band: 0 to 15 basis points - Galper described the Fed’s current operating range as effectively allowing market participants to trade around this band. Alternative repo band suggested: 10 to 25 basis points - He suggested the Fed could widen its operating range to signal liquidity provision without dictating market rates. St. Louis Fed alternative: 250 basis points - He referenced a prior St. Louis Fed idea as an even more aggressive possible repo range, used illustratively. NGFS membership: 75 central banks - The Financial Times article cited the Network for Greening the Financial System as comprising 75 central banks. New NGFS members: 8 - The Fed joined as one of eight new members of the climate-focused central banking group. Climate methodologies surveyed by NGFS: about 35 methodologies - Galper noted the NGFS published case studies covering roughly 35 different approaches to climate-risk analysis. FSB climate-risk work: ongoing global coordination - He cited the Financial Stability Board as an influential body shaping global financial-stability and climate-risk agendas. Fed vice chair for supervision term end: October 2021 - Galper highlighted the scheduled end of Randall Quarles’s term as a major appointment moment. Current IOER vs overnight rate spread: 10 bps IOER vs 8 bps overnight funding rate - He used this gap to illustrate that multiple effective rates already exist in U.S. money markets.

Pivotal Quotes: "The climate risk will become another element of measurement." — Josh Galper: He summarized how climate exposure may be incorporated into financial regulation and bank oversight. "This is not cocktail party stuff. You know, this is stuff that's going to put somebody to sleep really quick." — Josh Galper: He was emphasizing that effective climate-risk regulation depends on technical data and methodology work, not rhetoric. "The Fed is the buyer when there are no others." — Josh Galper: He argued that, given limited private demand and rising Treasury issuance, the Fed remains the ultimate liquidity backstop.

Implications: Expect tighter scrutiny of climate exposures in banking, stronger data infrastructure via FSOC/OFR, and continued Fed involvement in Treasury-market backstops. Markets may face new capital, collateral, and stress-test costs.