Central Banks Finally Grasp the Need for Daring Climate Action

If there's any topic that might get staid central bankers to feel justified in ditching their carefully calibrated language, it would be a conference on global warming. Almost all of them agree it's a grave problem.

At a Bank for International Settlements summit this week, the most high-profile climate event so far to bring together top central bank officials, we got the most strident remarks yet acknowledging the nature of the crisis and the need for preventive action. While there was little talk of thorny issues, such as the need to immediately halt fossil-fuel developments, some speakers expressed a willingness to use bond purchases and other monetary policy tools to prod the world toward lower emissions.

Could it mark a turning point? Central bankers are loath to overstep their boundaries, and critics are quick to pounce when they appear to. Former U.S. Treasury Secretary Lawrence Summers said as much last month, when he argued that central banks are focusing too much on the risks of climate change “in order to be relevant” instead of preparing for future pandemics. Summers is a paid Bloomberg contributor.

At the BIS’s Green Swan conference, climate has so far mostly been treated like just another risk. All we need is new analytical methods and data and perhaps some tweaks to financial regulation to standardize and mandate risk disclosure. That’s been the prevailing view since central banks started considering global warming seriously about five years ago.

The logic goes like this: climate-related financial risks are largely due to a lack of information, so all regulators have to do is mandate the right disclosures. Once that data is available, the market naturally prices in the risk and adjusts appropriately. It’s up to politicians to impose policies such as a carbon price or a ban on fossil-fuel investments. If that doesn’t happen, it’s not up to monetary policy officials to go beyond developing scenarios and stress tests. 

The insistence on more data and analysis is at odds with the dangers we face. The implications of heat-trapping gases accruing in the atmosphere don’t allow for half-measures, even within strictly defined parameters of safeguarding financial stability. How do you measure the impact of a marginal ton of carbon dioxide released when some scientists believe we’re already close to dangerous tipping points?

A paper published last month by William Oman, an International Monetary Fund economist, and Romain Svartzman, who works at the French central bank, concludes that it’s “inherently difficult” to measure the social, economic and financial impacts of climate-induced mass migrations and conflicts. “Even if climate-related financial risks could be measured, it is not clear that it would be possible to manage them,” they wrote.

Politicians who say combating climate change isn’t a job for central banks are wrong. A core responsibility for most of them is to maintain price and financial stability, which is directly threatened by global warming. Oman and Svartzman point out that if central banks limit themselves to modeling scenarios and developing stress tests, while waiting for potentially stronger policy action from others, climate-related threats to financial stability will only grow.

There are ways for central banks to take an active role in reducing climate risks while staying within their mandate. A January 2020 paper published by BIS has a few suggestions: coordinating with fiscal and prudential authorities, supporting reforms to safeguard the climate in the international financial system and making changes to accounting rules. Such actions will “no doubt be difficult to take,” the authors say, but are essential to preserving financial and monetary stability.

There are encouraging signs central bankers are realizing that the unprecedented nature of the climate problem means they have to take action, rather than just monitor data and respond.

Last year, European Central Bank executive board member Isabel Schnabel said that central banks “should not contribute” to the problem of climate change, suggesting the ECB has a responsibility not just to respond to climate change, but to mitigate it as well. The Bank of England is planning to “green” its corporate bond purchases and its governor, Andrew Bailey, said at the BIS conference this week that its Monetary Policy Committee discussed climate for the first time.

At the conference, Bundesbank President Jens Weidmann also acknowledged the ECB may have to eventually limit purchases of bonds from certain sectors or issuers for climate-related reasons. It was a striking statement for the ECB board member, who only six months ago argued that such purchases should adhere to the principle of “market neutrality.” Sarah Bloom Raskin, a former Federal Reserve official, challenged the assumption of central banks and market regulators that the current settings of their tools are adequate for the vast and costly changes afoot. 

Climate change is different from any of the drivers of past financial crises. When both the economy and the atmosphere are changing simultaneously, we have to rethink risk management and market neutrality. Central bankers who’ve delved into the issue invariably find themselves questioning if the usual approach is sufficient.

There is a coherent case for them to take stronger action. Officials don’t have to shirk their climate responsibilities over accusations of pandering, mandate limits or demands for unfeasibly precise analysis. The Larry Summers of the world might never get it. Conservative politicians, even less so. Fortunately, that doesn’t matter.

Kate Mackenzie writes the Stranded Assets column for Bloomberg Green. She advises organizations working to limit climate change to the Paris Agreement goals. Follow her on Twitter: @kmac. This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

©2021 Bloomberg L.P.

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