The Japanese central bank recently announced a series of incentives for climate-linked loans and investments, to help financial institutions address climate change issues.
The announcement comes as sociopolitical and risk pressures have pushed the world's central banks to mitigate the financial risks posed by global warming and offer solutions in the fight against climate change.
The Bank of Japan (BoJ) is launching a new climate lending facility that offers interest-free loans to banks so that they can in turn provide financing for environmentally friendly projects or companies. To be launched by year-end, it will run until 2030 and provide loans with a term of up to one year.
Commercial banks that provide loans under the new facility will have their reserves exempted from the negative interest rates currently charged on their deposits. In addition, the central bank is also buying green bonds in foreign currencies.
The Japanese initiative comes on the heels of a European Central Bank plan announced last month, which commits the institution to factoring climate change considerations into its decision-making and assessment of bond and asset purchases. Similarly, the Bank of England has said it will invest in more green bonds and set targets for its emissions.
In contrast, the United States has taken a different approach, with the Federal Reserve believing central banks should remain independent. Fed chairman Jerome Powell has said tackling climate change issues should left to other policymakers.
The differing standards central banks have adopted regarding climate change reflect the growing debate on the role of central banks and the extent to which they should remain market neutral.
Historically, central banks have avoided taking actions that seem to favour or prioritise one sector over another, as such moves could distort the market. Yet, experts have argued that central bankers can no longer ignore the long-term impact of climate change on financial risk, including the disruption of livelihoods, mass migration, rising prices and the destruction of physical infrastructure.
The BoJ seems to have taken both perspectives into consideration. Deputy Governor Masayoshi Amamiya said the lending facility is designed to be flexible in driving the green economy while at the same time restricting the central bank's intervention in the private sector by avoiding what he called "involvement in micro-level resource allocation".
This enables the BoJ to walk the middle path, taking a concrete step to counter climate change, while still leaving investment decision-making up to private players.
While some observers hail this announcement as a significant move, others believe the plan is insufficient. Some economists suggested the BoJ can pay 0.1% to 0.2% interest on funds matching investments for green projects, similar terms to what it offers banks now under a special Covid-19 funding programme.
We can no longer ignore the fact that mitigating climate change is a key part of achieving long-term macroeconomic stability. As more governments and companies around the world move toward carbon neutrality, green investments are likely to rise, providing the BoJ with significant opportunities.
As one of the first major central banks to develop a lending facility focused on climate change, the BoJ could provide a positive signal to banks elsewhere in the world.