Danyal Bayaz: Even a green ECB must remain independent

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The euro system, consisting of the European Central Bank (ECB) and the national central banks, is currently examining whether it should take climate-related risks into account in its monetary policy.

Other central banks are also concerned with this question.

For example, the American central bank recently joined the global Network of Central Banks and Supervisors for Greening the Financial System (NGFS).

But can central banks really help save the climate?

Are you even allowed to do that?

It is controversial.

Proponents say that much of the corporate bonds that hold the euro system come from carbon-intensive sectors.

Climate-related risks could, however, have severe effects on the value of these bonds and price stability.

Critics of a realignment, however, argue that taking climate risks into account would exceed the mandate of price stability and violate the principle of so-called market neutrality.

Climate protection is the task of politics, not that of the central banks.

One could view this controversy as the usual controversy of worldviews and schools of thought.

But debates about the independent ECB can quickly overheat.

In hardly any other country does this happen so often and so happily as in the Federal Republic.

When the former ECB President Mario Draghi was awarded the Federal Cross of Merit at the beginning of 2020, representatives of the CDU, CSU and FDP criticized it sharply.

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The award went to someone who had expropriated German savers, it was said.

Not a word about Draghi helping to hold the euro zone together while Germany's economy grew strongly.

When you see how in some democracies - not only in the USA, but also in Europe - independent institutions are being razed, one can at least listen carefully to this one-sided criticism.

In the fight against the climate crisis

Top economist Clemens Fuest sharply criticized the ECB's deliberations.

On Twitter, he even dismissed them as "hasty obedience".

Behind this is “perhaps also the desire to be popular”, says Fuest.

One rubs one's eyes in amazement at this style of debate.

Fuest's allegation is also directed at his colleague Isabel Schnabel, who is an outstanding economist, former “economic wise” and now a member of the ECB's board of directors.

In addition, other central banks and regulators around the world are also wondering how they can play an appropriate role in the fight against the climate crisis.

It is hardly plausible that all of these, at least over 80 central banks and authorities, linked to one another in the above-mentioned NGFS, are simultaneously providing “advance obedience” to whomever and thus violating their mandate.

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The CDU's Economic Council, the bastion of and around Friedrich Merz, is also a reliable critic of the ECB.

There is talk of "monetary policy doping" in statements, which causes "a lot of collateral damage".

If the ECB should now also become a “climate fire brigade”, it would be a mistake.

In 2019, when the top of the ECB had to be filled, the Economic Council pleaded for Jens Weidmann, head of the Deutsche Bundesbank.

Weidmann recently stated in a speech at the European Banking Congress that “the central banks can and should do more to combat climate change than has been the case so far”.

Central banks could "support the climate policy pursued by the EU and its member states without coming into conflict with their own tasks".

Weidmann is obviously unsuitable as the key witness of those who want to ask the ECB to ignore the climate crisis.

It is not without a certain irony that conservative politicians in particular like to call on the ECB to behave in one way or another.

At the instigation of Germany in the negotiations on the Maastricht Treaty, the euro system has both instrumental and objective independence.

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If the euro system justifies price stability in such a way that the inclusion of climate risks in its instruments contributes to its definition of price stability, then it is by definition acting according to its mandate.

That may be irritating.

But it is so because Germany and other countries have given the euro system a very broad mandate, even in an international comparison.

In other words: it is not a question of whether the euro system is allowed, but whether it should.

Paul Tucker, former Vice President of the Bank of England, advocates a “virtue of self-restraint” in the magazine “Merkur” with a view to central banks.

He points out that "the world is full of problems, and since many of them have to do with credit," the possibilities for a central bank looking to manage credit are "almost endless".

However, the euro system, in particular, has long been in control of credit to a not inconsiderable degree, which is also desirable.

Strengthen the middle class

The Bundesbank evaluates the creditworthiness of small and medium-sized companies so that it can be assessed whether they are good enough to recognize their loans as collateral with the central bank.

This is to ensure that SME loans are not significantly more expensive than loans to larger companies.

This is a sensible measure that strengthens the middle class, which provides over 70 percent of jobs in Germany.

But it is also a form of credit control.

Due to the purchase criteria, the euro system's securities program also means credit control.

Anyone who thinks that the euro system does not operate any credit control is mistaken.

The critics of a climate-consistent monetary policy, who ignore the actually existing credit control, often also argue that a change in the purchase criteria would mean abandoning the principle of market neutrality.

Criteria for collateral in the euro system already define the market within which the national central banks and the ECB buy in a market-neutral manner.

The President of the Bank of England, Andrew Bailey, suggested that criteria could also be expanded so that central banks would also buy “climate change consistent neutral”.

In this sense, Bailey is thinking about whether and how market neutrality and climate neutrality can come together in monetary policy.

Specifically, the euro system could begin to only buy bonds from companies that report their carbon footprint.

Furthermore, it could be limited to ratings from rating agencies that take climate-related risks into account in their ratings.

These two measures together would change the universe of buyable bonds.

The euro system could then buy in a market-neutral way within this universe and thereby reduce the overall climate risks on its balance sheet.

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In a further step, the euro system could take the correlation of climate risks into account when determining haircuts for so-called repo transactions.

Banks that deposit bonds or loans to companies as collateral for loans from the euro system would then receive a smaller credit line for this collateral.

These measures would make a contribution, albeit not a decisive one, to the implementation of the Paris climate goals.

The fight against the climate crisis cannot work if everyone only realizes that their behavior is not decisive and that it is others' turn.

The Bundesbank and the ECB have understood this in principle.

Regulatory orthodoxy, which, as described, de facto already does not apply to credit management, should not result in monetary policy that actively runs counter to the objectives of the European Union.