The US is officially withdrawing from the Paris Climate Agreement

Bundesbank chief: How the central banks should act against climate change

The author is President of the Deutsche Bundesbank

Imagine if you had magical powers that could make the global climate crisis go away. Wouldn’t you use it? I would definitely do it. Overcoming this crisis is without a doubt one of the greatest and most urgent challenges of our time. Each of us should do more to curb global warming.

This also applies to the central banks. It includes reducing their carbon footprint as institutions, but our response cannot stop there. In particular, it is important that we learn more about the impact of climate change on monetary policy and efforts to address it. Climate-related financial risks are another factor that central banks need to consider. In our role as regulators and custodians of financial stability, we must ensure that banks adequately incorporate these risks into their risk management.

The central banks must also practice what they preach. We owe it to our taxpayers to keep in check the financial risks that arise from our monetary policy operations. For this reason, central banks should ensure that climate-related financial risks are duly considered in their own risk management.

To this end, it can be expected that security issuers and rating agencies will provide better information. The Eurosystem – the European Central Bank and the national central banks – should consider buying or accepting securities as collateral for monetary policy purposes only if their issuers meet certain climate-related reporting requirements.

We could also consider whether we should only use ratings from rating agencies that adequately account for climate-related financial risks. With such measures, the Eurosystem would help to promote market transparency and standards at rating agencies and banks. We would act as a catalyst for the “greening” of the financial system and support climate policy.

Economists largely agree that increasing the market price of carbon is key to slowing global warming. This is a matter for governments and parliaments to deal with. They have the right instruments such as taxes or “cap and trade” systems and also have the democratic authority to use them.

It is not the job of the Eurosystem to penalize or encourage certain industries. Our main goal is to maintain price stability. To achieve this goal in an economic crisis like today’s, it is imperative for monetary policy to keep interest rates low and support the entire economy. Asset purchase programs are part of our expansionary monetary policy. To be effective, they must be broadly based. The principle of “market neutrality” should ensure this and prevent us from falsifying the market results. We need to assess whether we have inadvertently allowed distortions to creep into our securities portfolio compared to the universe of eligible bonds. However, it is not up to us to correct market distortions and policies or omissions.

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Elected politicians have set the goals of the Paris Agreement. It is regrettable that they have not yet agreed on a specific adjustment path. As a father of two, I very much regret that climate policy is often half-hearted and that there is a lack of credible commitment to a clear transition. But should central banks make up for a lack of political will? And how would their intervention be seen? As a form of support for guidelines? As an attempt to overthrow them? Or to let politicians off the hook? Would the central banks delve into politics and undermine their own independence?

Central bank independence is no excuse for inaction. It is an obligation to focus on our main goal. From the understanding – and a broad consensus – it follows that price stability is the best contribution monetary policy can make to general prosperity. Monetary policy has often been accorded extraordinary powers. This admiration never really rang true. When it comes to saving the planet, central banks don’t have a magic wand.