The Bank of England must be bolder on monetary policies to halt climate change
Bank of England and the Royal Exchange, London | Alamy
The chancellor has golden opportunity to drive forward a green agenda in financial services and the markets
The Bank of England (BoE) has made important strides in accounting for climate-related risks in recent years, driven by former governor Mark Carney, now a UN special envoy on climate action and finance. But the central bank’s policy for corporate bond purchases is one area where the UK government could help the Old Lady of Threadneedle Street be even more green.
In June 2020 the BoE published its first climate disclosure report, a document setting out its approach to managing the risks from climate change across all its operations and financial activities. The new report revealed that the portfolio of companies in the central bank’s corporate bond purchase programme was in line with a 3.5C increase in global warming from pre-industrial levels by the end of the century – far above the Paris Agreement aim of an increase of well below 2C, preferably 1.5C.
In simple terms, the BoE is buying the bonds of companies that are damaging the planet with their carbon emissions. Despite criticism from environmentalists, and more recently from some backbench MPs, the BoE has argued that its portfolio is “in line with estimates of the overall market” and making it more green would be outside its remit.
The Covid crisis has seen the BoE once again use corporate bond purchases to inject money into the economy, but it has yet to introduce any conditions that would encourage the debtor companies to take steps towards net zero.
The speed with which the central bank had to take decisions to maintain financial stability might explain why it did not introduce any green conditionality when it started using this policy mechanism more than a decade ago. But bond purchases are no longer a transitory or innovative measure. The BoE first launched quantitative easing (QE), the official term for central bank purchases of sovereign and corporate bonds to stimulate the economy, in 2009 to tackle the financial crisis. Since then QE has been used in response to the euro crisis, the Brexit referendum and, more recently, the pandemic. It is now widely seen as an established and important part of its monetary policy toolkit which it is likely to depend on for years to come.
In response to calls and protests, the Bank has argued that imposing conditionality on its bond purchases is outside its mandate and could even distort the market and undermine its market neutrality. MPs have been sympathetic to this point, even though some experts have cast doubt on it. However, in recent weeks the Environmental Audit Committee has called for the government to clarify the BoE’s monetary policy remit to include climate and environmental objectives. The committee also warned that not doing so could create moral hazard, by providing finance unconditionally to companies in high carbon sectors. In his response, BoE governor Andrew Bailey said he was “eager” to support climate transition as part of their corporate bond purchase approach, subject to a mandate clarification. There is speculation that Chancellor Rishi Sunak could make an announcement on the mandate in the Budget on 3 March.
Central banks around the world have been generally slow to change their investment practices to support decarbonisation, but some have started to take steps. Sweden’s Riskbank announced it would no longer buy bonds from most polluting companies. The Swiss central bank has said it would phase out companies primarily involved in mining coal, in addition to their current policy of excluding investments in companies that cause severe environmental damage. Although the BoE was a founding member of the Network of Central Banks and Supervisors for Greening the Financial System (NGFS) in 2017, and the first to stress-test banks on climate-related risks, it could soon start lagging behind other central banks on the environment.
Much of the focus of climate change policy in the financial services sector has been on disclosing climate-related financial risks and stress testing, even though these do not necessarily improve environmental outcomes. This approach could lead an investor to reduce exposure to a company in a country where climate-related regulations are expected to become more costly, but increase investment in a company in a country with lower environmental standards where transition policies are less likely. In other words, reducing exposure to climate-related financial risks does not necessarily limit global warming. That suggests the BoE’s mandate will need to go beyond disclosures in order to encourage companies to transition to low carbon solutions.
Some may argue that greening QE will not make a significant difference, as there are much more powerful fiscal and regulatory means to drive decarbonisation. Monetary policy may indeed only have a minor role to play, but that does not mean the central bank that is guiding and supervising a big chunk of the world’s financial sector should not do what it can.
Maria Busca is Dods senior political consultant for the financial sector