Despite international action and growing warnings from scientists about the potential impact of climate change, a new report shows that, while central banks are engaging with the notion of climate risk, that’s a far cry from action.
- Central banks are performing well on advocacy and research around climate risk but that doesn’t equate to effective action.
- Climate risk can result in instability within the global financial system through cascading effects across the energy, food and water systems.
- The latest sustainability ranking of G20 central banks argues that support for the green transition is key to securing financial and price stability.
As Hoesung Lee, chair of the Intergovernmental Panel on Climate Change (IPCC), said in October 2022: “There is no more time for half-measures or complacency.” He highlighted the fact that average annual greenhouse gas emissions in the last decade have been the highest in human history. He added: “The impacts and risks of climate change are becoming increasingly complex and more difficult to manage.”
Droughts, floods, wildfires and heat waves are causing significant economic, social, and human damage. At the same time inflation, driven by the volatile price of fossil fuels, has highlighted that renewable energy provides an affordable, accessible and sustainable alternative to fossil fuels.
Billions however continue to flow towards the fossil fuel industry. Since the signing of the Paris Agreement in 2015, over $400 billion has been invested in oil and gas by European banks alone. According to Share Action, $38 billion of this came from the Net Zero Banking Alliance, highlighting a lack of credibility in financial institutional target setting. What is necessary to successfully address climate change is decisive action by central banks to realign capital flows with a credible net zero pathway, and prevent financial institutions from locking in long term environmental and climate risks.
Unfortunately, according to the 2022 update to Positive Money’s Green Central Banking Scorecard, central banks are effectively failing to address the issue of climate change. The report looks at four areas for action from central banks, finding that, while 17 out of 20 central banks now score full marks on their research and advocacy efforts, there is still much to be desired across three other areas of concern: monetary policy, financial regulation and leading by example.
The report shows that, while central banks are aware of the risks that climate change poses for financial stability – and the various avenues for action that central banks can take – some of the biggest polluters are still very slow in implementing concrete steps. The only central banks that come out with slightly better scores are the ECB and three of its member states: France, Italy and Germany.
Why should central banks care about climate change?
The authors argue that the energy crisis, as well as extreme weather events, have highlighted the ways in which the environmental crisis can undermine the basic conditions for price and financial stability, and jeopardise central banks’ ability to fulfil their core mandates. They also warn that interest rate rises risk choking off capital-intensive green investments whilst doing little to address supply-side inflation caused by oil and gas price volatility.
Nikki Eames, Positive Money economist and lead author of the report, added: “Central banks are shooting themselves in the foot by attempting to curb short-term inflation without accounting for the climate crisis. Volatile fossil fuel prices and extreme weather events this year should be enough to convince central banks and regulators that supporting the net zero transition is a central pillar of their core mandates for price and financial stability.”
How did G20 central banks perform overall?
The report says that some progress has been made on Research and Advocacy, with 17 of the G20 countries now having achieved full marks in that category of the scorecard, compared to 14 in 2021, reflecting how climate is now considered an important issue for central banks.
Regulators have increasingly recognised the need for tools to manage climate risks, with extensive scenario analyses looking at how financial institutions are exposed to these risks, and some central banks building climate into their supervision of financial institutions.
However, none of the G20 central banks managed to score higher than a C+ overall, suggesting that the world’s biggest economies have a long way to go. The report calls for more central banks to recognise climate change as a core financial and price stability concern.
They recommend action to combat climate risk through increased capital requirements on fossil fuel lending, as well as policies to shift finance towards green investment such as targeted lending schemes and mandatory private sector transition plans.
Notable changes in the rankings
There have been some significant shifts in performance over the last year. France led the pack, ahead of its Eurozone colleagues because it has aligned all non-monetary portfolios with 1.5C and excluded fossil fuels.
France is followed by Italy, Germany and the European Central Bank (ECB). This reflects the ECB’s commitment to limit the number of carbon-intensive assets financial institutions can use as collateral when borrowing from it, as well as a pledge to decarbonise its own assets by aligning its corporate bonds with 1.5°C global warming, and suggestions it may implement a green lending scheme, which offers cheaper funds for green activities.
Japan and China already have green lending schemes in place, although there have been issues around deployment. For Japan, the deductions to its score reflect the fact that it still purchases fossil fuel assets and allows them to be used as collateral by financial institutions. In China’s case, support for coal over the past year has seen the People’s Bank of China – originally in first place in March 2021 – fall from the third position to joint sixth since October 2021.
In the US, despite the Federal Reserve’s recent commitment to conduct a climate scenario analysis in 2023, the US is trailing behind in 14th place. Compared to other economies with high levels of historical emissions, the US is trailing behind on climate action.
Brazil, home to the world’s largest tropical rainforest, has slipped from second place to joint sixth due to the central bank’s relatively slow progress in implementing its formal commitments, and India has also fallen one place to 11th position.
The UK has just held on to its 5th place position due to keeping pace with the ECB on financial regulation and disclosures. The Bank of England will have to be more ambitious in greening monetary policy to stay in the top 5.
Saudi Arabia and Argentina performed the worst, with no climate-related monetary policy or financial policy measures in place at all.