Bundesbank fully supports a greener financial system

AS the effects of climate change due to global warming are already being felt around the world, there is a huge need for investment in sustainable projects. Without the necessary investments in climate change mitigation and adaptation, the world could face unprecedented economic and financial risks.

In view of this, Germany's central bank, Deutsche Bundesbank, is actively supporting the transition towards a greener financial system.

The Bundesbank considers climate related risks a source of financial risks. Its experts analyse the impact of climate change and climate policy on the financial sector and are engaged in a number of national and international forums, most importantly the Network for Greening the Financial System (NGFS). The NGFS is a global network of central banks and supervisors, set up at the end of 2017, of which the German central bank is a founding member.

"The Bundesbank is closely looking at the risks resulting from climate change. We look at individual risks in our banking supervision and at systemic risks in our macroprudential supervision of financial stability," says Christian Weiss, the German central bank's Singapore-based representative for Southeast Asia, in an interview with The Business Times.

A Bundesbank representative has been covering the region from the German Embassy in Singapore since 2006. The German central bank also has two stand-alone representative offices in New York and Tokyo. Including Singapore, 10 representatives are posted at German embassies or consulates-general all over the world.

"We are encouraging individual financial institutions to disclose their climate-related financial risks and to consider these risks more carefully. Regarding financial stability, we evaluate whether the financial system as a whole is able to deal with, for example, potential asset devaluations. These could result from physical climate risks or from transitional risks following political decisions to address climate change, for instance, on energy policies," says Mr Weiss.

Classification framework

The European Commission is currently working towards introducing a common classification framework for sustainable activities, a so-called taxonomy, which will facilitate the reliable and transparent classification of financial products and thus strengthen trust in sustainable assets, he adds.

The Paris Agreement highlights the importance of the global financial system directing financial flows so as to contribute to reaching the climate goals and to ensure sustainable growth, he notes.

In Germany, this role of directing financial flows towards sustainable projects falls, in particular, to promotional banks at the federal and the state levels. In contrast, the Bundesbank's role is not to provide financing, but rather to act as a catalyst for a more sustainable financial system. To this end, it supports and takes part in various national initiatives to enhance and foster sustainability in the German financial industry.

Mr Weiss says that the Bundesbank has a long track record in sustainable investments. As a fiscal agent, it has been managing several large-scale public pension fund portfolios for federal states as well as the central government for more than 10 years. Seven out of 16 portfolios are already invested according to an environmental, social and governance (ESG) approach or invested in Green Bonds.

"In total, these portfolios have a volume of several billion. And we expect this to grow in the near future as several more of our fiscal clients are currently considering or intending to introduce ESG considerations in their investment strategy. So 14 out of 16 of our fiscal clients are investing sustainably or are on their way to do so," he adds.

The Bundesbank's public sector clients mainly focus on the inclusion of ESG criteria in equity investments, followed by initial approaches in fixed-income portfolios. Based on a passive investment strategy, the central bank combines various best-in-class approaches with exclusionary screening. Its experience over the past few years has shown that developing a sustainable investment strategy requires thorough preparation.

"There is no 'one-size-fits-all' approach to ESG criteria. Moreover, when talking about sustainable investing, each investor tends to define a set of ESG criteria consistent with its individual values. To reflect that, we support our fiscal clients in designing and creating tailor-made sustainability and ESG indices that we use as portfolio benchmarks," says Mr Weiss.

What the Bundesbank has been doing for its fiscal clients for years, it is now also considering for its own funds. "We have done an in-depth screening of our own funds portfolio and are currently in the process of assessing ways to enlarge the scope of assets and to take sustainable investment criteria into account. We also exchange views with our Eurosystem peers on how best to integrate climate-related criteria in the management of non-monetary policy portfolios," says Mr Weiss.

International collaboration among central banks is essential, as climate change is a global challenge.

"Central banks all over the world acknowledge that climate change is a source of financial risk. This awareness as well as the willingness to act is underscored by the growing support for the NGFS. We started with central banks and supervisors from eight jurisdictions and have now grown to over 70 members and 13 observers, representing all five continents and overseeing two-thirds of the globally systemically important financial sector," Mr Weiss adds.

Joint efforts

The NGFS is tackling these challenges in five different work streams. Two of those work streams are in fact chaired by a representative from Singapore and from Germany, respectively.

"This really exemplifies that both Singapore and Germany take climate change very seriously, including the financial threats posed by it and it also demonstrates the joint efforts of the two countries and their commitment to assessing these risks and to drawing the right lessons from these analyses," says Mr Weiss.

Central banks play a key role in the financial system, and it is no different for green finance. In many ways, the market for green assets can be compared to the early stages of other relatively new market segments. For market dynamics to fully unfold, investors need a stable investment framework, including reliable market standards, market indices and transparency. And central banks are trusted parties.

"Given our advisory role in politics and our perceived role as anchor investors, we can serve as catalysts for further market growth. But given our enormous market power and our independence, we have to act responsibly and remain accountable.

"To address central banks' crucial role, the NGFS sees itself as a platform for best practices and for the exchange of views and experience between central bankers and supervisors," Mr Weiss adds.