Author(s): Josh Ryan-Collins
Date published: Mar 2019
SUERF Policy Note, Issue No 61
by Josh Ryan-Collins, Institute for Innovation and Public Purpose, University College London
JEL-codes: Q54, E44, E58, G28, G18, G14.
Keywords: Financial stability, financial regulation, macroprudential policy, central banks, financial risk, climate change, climate finance, systemic risk, low carbon transition.
The financial stability implications of climate change have become a key focus for central banks and financial supervisors. The current regulatory framework for dealing with this challenge is focussed on a perceived market failure: the failure of financial market actors to publically disclose and price-in the emerging physical, liability and transition financial risks they face in the light of climate change. Underlying this approach is an implicit assumption that such risks are calculable and exogenous to the actions of market actors and regulators themselves and their interaction. In fact, climate financial risks are better thought of as endogenous and systemic, themselves generated by policy changes, technological innovation, changing consumer preferences and their complex interactions with each other, the real economy and a highly interconnected financial system. Instead of this ‘market-fixing’ approach embodied within the disclosure framework, it is argued that a ‘market-shaping’ approach to financial regulation is required. Such a policy framework assumes that market actors face uncertainty rather than calculable risk; and strives to actively steer market actors in a clear direction - towards a managed transition - but still allows space for the necessary innovation and experimentation needed to enable such a transition. Macroprudential policy is already well suited to this task but so far has not been employed to address climate financial risks by central banks and financial supervisors. It may also need to be accompanied by more proactive forms of credit guidance that requires greater fiscal-monetary coordination than is currently evident in advanced economies.
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