Why Big Central Banks Are Becoming Climate Warriors

By Katia Dmitrieva

The world’s largest central banks are getting louder about climate change risks, and some of them are even starting to do something about it. Melting glaciers can seem like a big leap from monetary policy, but some banks say they have to respond to warming that has the potential to disrupt economies globally. The new focus has raised questions over whether the banks are muddying their mission — and whether their tools will even work in this field. Critics say they can and should go a lot further.

1. What got central banks interested?
   A growing body of research suggests that climate change poses the greatest long-run threat to the global economy– including inflation and financial stability, which central banks oversee. Even if the ambitious goal set in the 2015 Paris Agreement of limiting global temperature gains to 2 degrees Celsius above pre-industrial levels is met, the world’s economies are likely to be affected in multiple ways, from lower productivity on farms and construction sites to increased mortality and migration. That’s in addition to damage from more extreme weather events and coastal flooding that could run into the trillions of dollars by 2100. Then there are risks to the financial system.
2. What are those risks?
   In 2015, outgoing Bank of England governor Mark Carney raised an alarm about the “tragedy” of climate change and warned specifically about “re-pricing” events. That includes physical damage that destroys the value of assets (such as waterfront hotels), imposes new liabilities on companies (see California utility giant PG&E’s wildfire-driven bankruptcy) or sharply raises insurance prices. Another risk: a sudden slump in the value of certain assets because of drastic government action to combat climate change, like the introduction of a steep carbon tax or regulations that keeps fossil fuels in the ground. “The speed at which such re-pricing occurs is uncertain and could be decisive for financial stability,” Carney said in his speech.
3. What came out of that speech?
   Two years later, Carney and several peers created the Network for Greening the Financial System, a group that’s grown to about 50 central banks and related groups that swap research and potential policy solutions. In 2019, the group created a set of guidelines that urges peers to price in climate change risk when regulating financial companies and to invest with sustainability goals in mind for their own portfolios. To many, the mere fact that central banks are talking about the challenge is of huge significance.
4. What are central banks doing?
   Each has its own approach, depending on their legal mandate and their government’s priorities:

• The People’s Bank of China, a more centralized authority, provides direct investment in sustainable projects, encourages issuance of green bonds, and even curbs loans to polluters.
• The Bank of Canada announced a research program on climate change at the end of 2019.
• The Bank of England is in the midst of stress testing insurers and banks for how well they’d handle climate events and potential new regulation. They’re also gauging the broader financial sector’s resilience, with results expected next year.
• In Sweden, the central bank last year sold some of its Canadian and Australian provincial bonds because the regions are so highly reliant on the production of fossil fuels.
• The U.S. Federal Reserve hosted a climate change conference in November and is conducting research on the subject.
• The European Central Bank is set to consider climate change in its monetary policy review and president Christine Lagarde has pledged to make climate change a “mission critical” issue. Her remarks spurred discussion in financial circles of the potential for “Green QE.”

5. What’s that?
   After the 2008 financial crisis, the Fed, ECB and Bank of Japan pursued so-called quantitative easing, or QE. They bought trillions of dollars in bonds to stimulate their economies by nudging down long-term interest rates. “Green QE” would funnel some of a central bank’s bond-buying toward green projects and companies, lowering borrowing costs for that industry. The market for green bonds is currently just over half a trillion dollars.

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