On the Role of Central Banks in Enhancing Green Finance
The paper examines the role of central banks in ‘greening’ financial systems. Given the enormous investments needed to bring about a green transformation, the financial sector will have to play a central role in allocating resources towards a sustainable and green economy – and stop financing activities that harm the environment. Against this backdrop, the paper examines the extent to which environmental factors impinge on central banks’ conventional goals and provides a theoretical analysis of the cases for and against central banks to respond to environmental and sustainability challenges. Moreover, the paper explores the ways in which central banks (as well as financial regulatory authorities) can impact investment decisions and the creation and allocation of credit through monetary as well as micro- and macroprudential policies, including disclosure requirements, climate-related stress testing and differentiation of reserve or capital requirements according to environmental impact. Although theoretical in nature, the paper is enriched by real-world examples. While making the case for a pro-active, ‘sustainable development role’ of central banks, the paper also discusses the risks of overstretching central banks’ mandates and vesting too much power in unaccountable institutions as well as the division of labour between central banks and other institutions.