Sabine Mauderer: Central banks - a crisis manager for the climate?
Speech by Dr Sabine Mauderer, Member of the Executive Board of the Deutsche Bundesbank, at
the Deutsche Bundesbank's second financial market conference, Frankfurt am Main, 29 October
2019.
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INTRODUCTION
Ladies and gentlemen,
I, too, would like to warmly welcome you to what is the Bundesbank's second financial market
conference, and the first dedicated to the subject of sustainability.
It's great to see such a huge turnout! There are 540 of us here today - if that's not a sign that
we're really concerned about sustainability, I don't know what is. And I am also pleased that
Bundesbank President Jens Weidmann and our panellists have just underscored the
significance of climate protection and sustainable finance.
The heading of our conference today asks whether sustainable finance is a game changer for
our financial system. A game changer is something that disrupts everything - the way we think,
and the way we act. Sustainability is just such a game changer.
We need to make sustainability a key principle so that we can preserve the foundations of how
we live and do business.
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Climate change makes a particularly urgent case for this. The United in Science report for the
most recent UN Climate Action Summit writes that the average global temperature for 2015-
2019 is on track to be the warmest of any equivalent period on record. The authors also observe
that climate change is putting pressure on the environment's ability to support and supply food,
water, health and wellbeing, and note its potentially threatening consequences for the economy,
security and civil unrest.
The challenge has staggering dimensions. In order to bring global economic growth into line with
the Sustainable Development Goals and the Paris Agreement, the OECD, the World Bank and
the UN estimate that infrastructure investment alone would be needed to the tune of US$6.9
trillion. That's the figure each year, up to 2030.
At present, there is no telling what share of this will be taken on by private players in the financial
market and how much will be shouldered by the public sector.
But it's not only a matter of who pays what. It's just as much about getting clear answers to the
questions:
Who plays what role?
Who needs to decide what, and what action is required?
Politics, finance and the real economy, and central banks, too - they each have different tasks.
Protecting the climate calls for a clear allocation of roles. Many different agents need to pull
together as a team - and pull in the same direction as well.
Let's begin with the central banks.
A. CENTRAL BANKS
I joined the Bundesbank's Executive Board just over a year ago, and during this time, I've been to
many green finance meetings where the remark was made:
"Just leave it to the central banks to save the climate as well!". That demand sounds alluring -
after all, if a single institution could take on this whole issue, wouldn't that make things so much
more straightforward?
Why do some people think that this task would be child's play for central banks? Central banks
have been thrust into a starring role once before - in resolving the recent crises. You won't be
surprised to learn that the Bundesbank's response to this was reserved. The impression
emerged at that time that central banks were the "last man standing", and also that they had very
deep pockets. We operated as a crisis manager.
So if central banks already have a track record in managing financial crises, why can't those
seemingly mighty institutions manage a climate crisis, too?
There's no shortage of advice when it comes to regulatory and monetary policy matters:
give privileged treatment to green financial instruments - for example, by requiring less
capital backing for green loans or securities,
favour green collateral in monetary policy credit operations,
or even green asset purchase programmes, ranging from green QE to ultimately financing
public investment to promote the transition to a low-carbon economy.
Let me be clear about this:
Climate risks are a source of considerable financial risks, which is why climate change is a
hugely important topic for central banks. This can be said for financial stability, banking
supervision, financial markets and, in some respects, for monetary policy, too.
But central banks are ill-suited for the task of crisis manager for the climate. The ground rules
which keep the economy's and society's footprint on the environment in check are set by
politicians. They have the democratic legitimacy to do so - central banks don't. That is also the
reason why we, as central banks, are not permitted to conduct economic or environmental
policy, even if forward-looking decisions are urgently needed on these fronts.
However, central banks will do everything they can and must do, within the scope of their
mandate, to protect the climate.
Central banks around the world have long since recognised their importance in matters of
climate protection. This is why eight central banks and banking supervisors got together at the
end of 2017 to establish a global network. The Bundesbank was a founding member of this
Network for Greening the Financial System, or NGFS for short. It today boasts 46 central banks
and supervisors as well as nine observers, including the IMF, the BIS and others.
Our aim is to act in an internationally consistent manner and pool our expertise. Only thus can
we mount a global response to this new challenging financial risk. We are focusing on how we
can mitigate the financial risks stemming from climate change, particularly in the monitoring of
financial stability and in banking supervision. On top of that, we are also looking at how
sustainable finance can be given a more prominent role - including in central bank portfolios.
I myself presented an NGFS investment guide on sustainable portfolio management at central
banks on the margins of the last annual meeting of the IMF and the World Bank. This handbook
also contains the results of a survey among the NGFS member central banks. One finding is that
a growing number of these central banks also take sustainability factors into account in their
portfolio management. To be more precise, 25 of the 27 central banks surveyed are already
investing sustainably or planning to do so. The survey also reveals that, alongside reputational
risk, risk-return considerations are among the key drivers here.
Central banks can pave the way for more sustainability. Particularly with portfolios that are not
geared towards monetary policy, but also as fiscal agents. At the Bundesbank, we are currently
reviewing how sustainable our euro-denominated own funds portfolio already is and where there
is still room for improvement.
Right now, this portfolio is worth around €12 billion and is invested exclusively in fixed-interest
covered bonds denominated in euro. Besides this, in its role as a fiscal agent, the Bundesbank
holds portfolios for external public sector clients such as central government and a number of
federal state governments, which involves managing amounts in the high two-digit billions. Four
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of the 16 portfolios already follow an ESG approach or are invested in green bonds. So all in all,
we're talking about a figure in the high single-digit billions. What's more, four federal states -
Hesse, Baden-Württemberg, North Rhine-Westphalia and Brandenburg - have recently followed
Berlin's lead and commissioned tailored sustainability indices as a benchmark. This involves
assessing enterprises according to ESG criteria; the Bundesbank can apply the resulting
benchmark to the portfolios of the federal states.
The public sector is therefore leading by example. This is crucial to the acceptance of
sustainable finance in Germany.
As guardians of financial stability and as banking supervisors, we central banks see climate
change as a source of financial risk. We need to get to grips with the effects of climate change
on the stability of individual institutions and on the stability of the financial system overall. That's
why central banks are calling for greater market transparency and better data availability.
Who is affected by climate risks and how - via loans to certain industrial sectors, for instance?
These are some of the important issues that the Bundesbank will also be tackling in this year's
Financial Stability Review.
Financial institutions need to pay proper attention to climate risks in their risk management. In
terms of financial supervision, key factors therefore include better risk models at individual
institutions and better awareness of how climate risks are distributed within the financial system.
Financial supervisors will need sophisticated methods to identify the vulnerabilities caused by
climate risk more clearly. A "climate stress test" should form part of our toolkit. But before this
can happen, we need the right data and a better understanding of the basic issues.
We need to apply a longer time horizon to our entire analytical framework if we are also to factor
in longer-term climate effects.
So our intended course of action is not simple, but it is effective - and we are not alone. Two
weeks ago, I was in Washington, D.C., where I took part in a panel discussion with Kristalina
Georgieva, the new head of the IMF, who emphasised that the IMF is losing no time in preparing
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to incorporate climate risk into its country analyses.
B. POLICY
The IMF is a sort of interface between central banks and policymakers. This brings me to the
most important of the parties involved when it comes to creating a framework for the
transformation we need: political stakeholders.
The framework established by policymakers needs to be environmentally and economically
effective. It must offer planning certainty to the real economy and the financial markets alike. The
key is to keep the costs of transitioning to a low-carbon economy as low as possible for the
economy and to distribute these costs efficiently and, at the same time, fairly among society.
The German government's climate package is a good start. But it's clear that further steps will
also be needed. The cornerstone of this climate package is a more comprehensive CO2 pricing
system. This approach has been endorsed by numerous experts. It will probably need to be
readjusted as time goes by; a fact we are fully aware of. What this will boil down to is a balancing
act between comfortably meeting climate goals and clear prospects for economic agents.
What do we need from political stakeholders in terms of the financial markets?
The answer is: solid guidelines for sustainable finance reforms, ideally at the international level.
Financial regulation isn't a climate policy instrument; instead, it serves to safeguard the stability
of the financial system. What's crucial here is the focus on financial risk rather than on promoting
economic growth. And that mustn't change.
BaFin recently published a notice providing supervisory guidance to institutions on dealing with
the increasingly important issue of sustainability risks. In other areas, the EU is taking action with
its sustainable finance action plan - in the form of its new taxonomy that defines which economic
activities are considered "green", for instance. The European Council hopes that the taxonomy
will be fully implemented by the end of 2022.
Disclosure standards for increased transparency are just as important. Who is exposed to what
climate risks? The recommendations issued by the G20 Task Force on Climate-related Financial
Disclosures are aimed at establishing consistency in climate-related reporting. A great deal is
riding on these recommendations, since financial markets can only distribute capital efficiently
with regard to climate risk and perform its guiding role properly if transparent, price-relevant
information is available.
Nor must we underestimate the growing importance of sustainable finance within the EU as a
location factor. The Federal Government has recognised this and wishes Germany to play a
leading role as a hub for sustainable finance. The Sustainable Finance Advisory Council is to act
as coordinator here, providing the government with strategic advice and specific
recommendations for action. The Council has already outlined the first topics it believes should
now be tackled in more detail. The first progress report should be ready as early as the start of
2020, in view of Germany's EU presidency in the second half of next year, amongst other factors.
What's crucial here is that the government will receive specific, workable recommendations
within the next year.
However, policymakers themselves can lead by example when it comes to sustainable finance.
And that's exactly what they are doing. Central government and several federal state
governments have decided to invest their pension portfolios according to sustainable criteria.
C. FINANCIAL SECTOR
This brings me to the financial sector itself. Here, too, we have been seeing attempts to adjust to
climate change for a long while: by the banking industry, insurers and funds. A huge amount of
capital needs to be mobilised for the transition to a climate-friendly economy - public capital, but
even more private capital. In future, this will also mean that sustainable financial products will
grow more important in the investment advice given to retail investors - which is what the EU
wants.
At the same time, financial institutions have to comply with regulatory ratios concerning liquidity
and solvency, for example. That's not always an easy task. Nonetheless, the past few years
have seen a lot of movement in sustainable and, in particular, green forms of financing, both at
financial institutions and in the financial markets.
Financial institutions and financial markets play a central role in the effective and efficient
allocation of capital in the real economy.
Financial institutions and financial markets help decide which projects are financed - and which
ones are not. We need to leverage this steering effect and thus support the necessary structural
change - the transformation of the real economy.
Here, financial markets have two special features:
First, financial markets respond faster to new information than the real economy can.
Second, the financial system is a global network - this means that climate risks do not remain
confined to local or regional areas: they can travel.
For their own risk management, financial institutions have to constantly ask themselves anew:
which risks are looming where in the balance sheets? How high is the danger of those risks
materialising? With climate risk, it is vital to extend the observation horizon. The search for yield
is sometimes focused on the short term. Climate risk, on the other hand, is of a more medium to
long-term nature. It has to form part of the analysis - chiefly because some of the consequences
of climate changes are irreversible.
But besides risks, there are also opportunities for the financial sector. By allocating capital in a
smart way, the financial sector can generate returns and at the same time act as a driver of
innovation and growth in the fight to mitigate climate change.
The UN has recognised this potential and brought together a group of the world's largest pension
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funds and insurers. The group is called the "Net-Zero Asset Owner Alliance", and is responsible
for investments worth more than US$2.4 trillion. The institutions within the group have committed
to transitioning to carbon-neutral investment portfolios by 2050.
In the financial market, demand for green investments has so far well outstripped supply. No
doubt many of you can attest to this - it really isn't that easy to invest sustainably. But when
market mechanisms function properly, the imbalance between supply and demand is gradually
redressed.
Still, the market for green bonds has considerable growth potential.
In 2007, the European Investment Bank laid the foundation for the green bond market segment
when it issued its first Climate Awareness Bond.
Since then, green bonds have become more attractive and accepted, primarily for investors
interested in sustainability. Europe is aiming to become a leader in sustainable finance. However,
outstanding green bonds only account for just under 2% of the international bond market as a
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whole, despite appreciable growth rates.
Further market growth will have a positive effect as long as it is "healthy". In other words, the
market cannot simply be greenwashed with green labels. What's "green" on the outside is
"green" on the inside, too. Clear rules and regulations and reliable frameworks for green
investment are therefore crucial, and that's a task for policymakers.
But financial market participants themselves are also called upon to ensure we have reliable
market indices and market standards.
Much has already been achieved in both areas. Market standards such as the Green Bond
Principles already provide guidance for issuers, but also for investors. The EU's new Green Bond
Standard aims to build on these market practices and on the taxonomy, and promote market
integrity. Rating agencies are integrating ESG information into their ratings and other scores.
This is another building block to better price and track climate risk in the financial system and the
real economy.
Another driver of growth in sustainable bonds would be a positive risk/return profile compared
with conventional bonds. The October 2019 issue of our Bundesbank Monthly Report compares
secondary market trading in conventional and green bonds issued by the KfW and the EIB.
According to the report, there are no clear patterns, at least when it comes to yield spreads. But
the analysis is merely a snapshot.
Of course, it's not enough to look at the bond market alone; we also have to consider the equity
market. A study of the equity market shows that investing in sustainable enterprises can be
financially attractive for investors and, at the very least, does not have to put them at a
disadvantage. The October issue of the Monthly Report comes to this conclusion based on a
comparison between the very broad MSCI World stock index and its sustainable sub-index MSCI
World ESG Leaders over the past ten years.
D. ECONOMY
Ladies and gentlemen,
after central banks, policymakers and the financial sector, there is one player left to discuss. It is
the most important player, and represents the crux of the transformation: the real economy.
The real economy should set its sights firmly on innovation.
Climate change poses financial risks to businesses, too, not just the financial sector. The faster
enterprises transform, the better their ability to combat those risks. It is important for each
individual sector of the economy to ask itself whether the transition is proceeding rapidly enough:
that means industry and the services sector, and the agriculture and forestry sectors alike. Many
enterprises have noticed that new products and services that make sparing use of natural
resources are good for business. These products and services should touch on all areas of life,
making the adjustment easier for households as well.
To achieve the necessary transformation, we need to reach out to all corporate sectors - not just
those that have already "gone green". This will enable us to minimise the risks involved in moving
to a low-carbon economy. The production sector, in particular, is taking important steps to run
more climate-friendly operations.
Global competition to come up with the best ideas, the most viable innovations for the future, is
already bearing fruit - including in Germany.
The automotive industry, which is so important to Germany, is one example of a sector that is
responding late, but hopefully not too late, to the changes brought about by climate change.
Without the automotive industry, a transition in forms of mobility would be unthinkable.Engineers
are busy working on various alternative engine types.
Openness to new technologies is the watchword, not just when it comes to types of engine in the
automotive industry. We cannot let ourselves become fixated on one path and one path only -
many roads lead to more sustainability.
Attitudes are clearly changing in many industries. Take, for example, the development of
synthetic fuels for aviation and maritime transport, say, or measures to use waste heat and air in
the cement industry, or ways of storing greenhouse gases underground, otherwise known as
"carbon capture and storage". What I'm saying is that some of the innovative products and
processes to better mitigate climate change already exist.
CONCLUSION
Ladies and gentlemen,
I'd like to end on this positive note and return to the questions I posed at the beginning:
Who plays what role in mitigating climate change?
Who needs to decide what, and what action is required?
Policymakers set the legal framework for business and society to act in a climate-friendly way.
The financial system takes a risk-aware approach to directing financial flows into a sustainable
economy. Central banks' climate focus is mainly on financial stability, but also on banking
supervision, the financial markets as well as, to an extent, the impact on monetary policy.
But it will be crucial for the real economy to transform, particularly the production sector. For this
to happen, though, ultimately consumers have to change their consumption patterns and
demand environmentally friendly products and services.
Every one of us bears responsibility.
The appetite for change exists. All we need to do now is act with determination. Let me end
today's speech with another Goethe quote, then:
"Enough words have been exchanged; now at last let me see some deeds!"
Thank you for your attention.
1
www.un.org/sustainabledevelopment/blog/2019/09/unite-in-science-report/
2
ESG stands for environmental, social and governance.
3
"The IMF is gearing up very rapidly to integrate climate risks in our surveillance work."
4
www.un.org/en/climatechange/assets/pdf/CAS_main_release.pdf
5
See Deutsche Bundesbank, Monthly Report, October 2019.