Could the next housing crisis be climate-related? Quite possibly.
This summer my partner and I tried to buy a house in the Catskills, New York. It was the end of June when we ran the inspection and no drought was in effect. The report came back that the well was almost dry – something the owners (who didn’t live there full time) claimed was a shock to them. And it could have been. Several other homes in that small town had their wells run dry for the first time this summer.
It may be the sad, first-hand experience of the impact of climate change, but what concerns me most is that the financial institution providing our mortgage said that a dry well wouldn’t affect their decision. They were prepared to issue a 30-year mortgage with only a 10% down-payment on a property that could well be uninhabitable if the water table continues to drop.
I’m not a geologist, climate scientist or a banker, but even I can see that this is a high-risk proposition for both my household and whoever ends up holding our mortgage – and that this looks a little bit like 2006.
Dry wells are just one of many climate change-related issues that will have devastating effects on the housing market if they are not factored in. The recent wildfires in California are another example of how financial institutions have not been factoring in climate risk. Some residents in Malibu, for example, report that their insurance companies are not underwriting home insurance any more. That doesn’t bode well for mortgage providers in those areas.
Homes destroyed by the Camp Fire in California in November
There is a broader argument here about the amount of financial risk due to climate change inherent in our system right now and whether or not it is already too late to deal with it.
Climate change financial research group Four Twenty Seven has been looking specifically at financial risks caused by climate change across the US and has useful data.
In addition to water stress, the group highlights the areas most at-risk from cyclones, extreme rainfall, heat stress and rising sea levels. In May this year, it published a report that looked at the climate risk score of cities and counties across the US, with the aim of shedding light specifically on municipal bond risk.
Where housing risk plays into muni risk is that when houses are destroyed or made unhabitable by climate hazards, then property taxes decline; so the data is not just helpful to banks that hold munis but would also be extremely useful to mortgage underwriters.
If you cannot measure the risk you have, then you can’t manage it- Ivan Frishberg, Amalgamated Bank
It is worth mentioning that in that report, the area in the Catskills I was looking at that was plagued with dry wells this summer is listed as being under ‘severe’ water stress (one step below ‘extreme’).
But are banks and mortgage underwriters considering these risks? Or is the financial system, as the Bank of England’s Mark Carney pointed out last year, heading for a Minsky moment?
Arguably, climate risk is on the banks’ radars – particularly in terms of carbon regulation. I interviewed Ivan Frishberg head of sustainable banking at Amalgamated Bank in New York in November. His bank is constructing an open-source accounting platform that enables North American banks to assess the volume of carbon emissions that are produced as a result of their financing activities.
It is based on a similar platform started by Dutch banks ABN Amro and Triodos with Navigant Consulting, and Amalgamated is working with Navigant over the next six months to develop the platform.
Frishberg’s point is: “If you cannot measure the risk you have, then you can’t manage it”, and that every bank and underwriter must know its exposure to carbon risk, even down to the emissions of an individual house on its mortgage books.
In the Netherlands, for example, every house receives a score for its energy performance that must be reported to mortgage lenders. Indeed, scores for climate hazard risk from heat to flooding (along the lines of Four Twenty Seven’s scoring) would be useful for all banks to consider.
While regulation risk will be foreseen, discussed and prepared for, banks seem less engaged in building risk models on the physical effects that climate change is bringing. But it is hard to argue that the warning signs are not obvious – particularly when the data is available.
Emilie Mazzacurati, founder and chief executive of Four Twenty Seven, says banks have barely started to address assessing physical risk from climate change.
The challenge, she says, is that the financial impacts are not yet known and some are going to unfold over time. Simply put: banks think they have some risks but cannot measure them. That’s more than a little disconcerting.
From what I gather from US bank chief executives, the large ratings agencies, particularly Moody’s, are dedicating resources to assessing climate risk.
One hopes they will be more successful at identifying future crises than they were the last one.