10 January 2023

ECB's Schnabel at the International Symposium on Central Bank Independence, Sveriges Riksbank

The green transition will fundamentally transform our societies. Protecting our planet requires unprecedented large-scale investments in technical innovations and renewable energies to bring our economies on a path towards net zero greenhouse gas emissions.

As our experience over the past two decades demonstrates, the relatively large upfront costs incurred in these capital-intensive expenditures are particularly susceptible to changes in the cost of credit. Low and declining interest rates have measurably contributed to the fall in the “levelised cost of electricity”, or LCOE, of renewable energies.^[2] As a result, the cost of electricity from renewable sources is now comparable to, or lower than, that of conventional power plants.^[3]

These developments now risk being reversed by the marked rise in global interest rates over the past year. Since fossil fuel-based power plants have comparably low upfront costs, a persistent rise in the cost of capital may discourage efforts to decarbonise our economies rapidly.

Put simply, renewable energies are more competitive when interest rates are low.^[4] While simulations suggest that the LCOE of a gas-fired power plant would change only marginally if discount rates were to double, that of offshore wind could rise by nearly 45% (Slide 2).^[5] Widening credit spreads may exacerbate these effects in many developing and emerging economies.

The insight that the effects of interest rate changes are not symmetric across economic sectors is not new and it is empirically well-documented.^[6] The exceptionally high stakes involved in the green transition, however, have sparked a controversial public debate about whether the current monetary policy tightening may ultimately slow down the pace of decarbonisation.

Some argue that such tightening may even be inconsistent with the objective of price stability: unless greenhouse gas emissions are cut rapidly, our economies will remain exposed to the risks of “climateflation” and “fossilflation” – that is, persistent inflationary pressures associated with more frequent natural disasters and a continued dependency on gas, oil and coal.^[7]

These concerns must be taken seriously. As they expose a potential dilemma directly relating to central banks’ primary mandate of price stability, we cannot ignore them on legal grounds.

It is therefore no surprise that climate change features prominently in a symposium on central bank independence. Independence grants central banks significant leeway in their actions. But it also requires central banks to be held accountable – a point that Stefan Ingves highlighted in a speech last year.^[8] We need to justify the course of action that we consider as most appropriate in achieving our mandate.

This is what I intend to do in my remarks today. I will argue that failing to arrest high inflation in a timely manner would jeopardise the green transition more fundamentally, and that a restrictive monetary policy stance today will benefit society over the medium to long run by restoring price stability.

I will also stress that fiscal policy needs to remain in the driving seat and accelerate the green transition, and that the decline in the ECB’s balance sheet as part of our monetary policy tightening requires us to make additional efforts to align our actions with the objectives of the Paris Agreement.

Green transition can only thrive with price stability

Over the past year, we have moved forcefully to contain inflation by first stopping net asset purchases and then by raising our key policy rates by a cumulative two and a half percentage points. We have also announced that the Eurosystem will no longer reinvest all of the principal payments from maturing securities in the asset purchase programme (APP).

We judge that interest rates will still have to rise significantly at a steady pace to reach levels that are sufficiently restrictive to ensure a timely return of inflation to our 2% medium-term target.

ECB

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