Response to Mark Carney’s Speech at the TCFD Summit

Last week, Bank of England Governor Mark Carney spoke at the Task Force on Climate-related Financial Disclosures (TCFD) Summit in Tokyo. While he continues to recognize the urgency of greening the financial system, the policies he supports won’t get us there.

Carney opened with some strong words on the growing and still unaddressed challenge of climate change, including the statement that “like virtually everything else in the response to climate change, the development of a more sustainable financial system is not moving fast enough for the world to reach net zero.” Importantly, he also warned that firms that do not rapidly align themselves with a net zero economy will not survive the transition.

Yet Carney’s focus remains almost entirely on disclosure of climate risks. As explained in more detail in my last blog post, this approach is based on two flawed assumptions: i) climate ‘risk’ can be quantified; and ii) the market is ‘efficient’, (meaning that asset prices reflect all available information).

Clinging to old assumptions:

Regarding the first assumption, Carney explicitly discussed a number of ‘distinctive’ and complex aspects of climate risk, yet implied throughout his speech that they can be quantified. He fails to recognise that rather than being calculable risks, the threats of climate and ecological breakdown to the financial system are far better characterized by radical uncertainty, which is fundamentally unquantifiable.

Regarding the second assumption, for the sole focus on disclosure to makes sense, it is also necessary that financial actors behave in line with the ‘efficient markets hypothesis’, integrating the new information on risks into their decision-making. History shows, however, that financial markets are far from efficient, but rather continuously self-disequilibrating. Unfortunately, as the influential Post Keynesian economist John K. Galbraith once wrote, “there can be few fields of human endeavor in which history counts for so little as in the world of finance.”

Additionally, as Carney himself highlighted in this oft-cited 2015 speech, there exists a ‘tragedy of the horizons’ regarding the climate. This refers to the fact that the time horizon on which the most severe impacts of climate change will materialize lies beyond the time horizon of financial actors. Therefore, the disclosure of climate risks by no means guarantees sufficiently rapid adaptation in financial markets.

An active role for central banks:

The latter point is why Carney in his 2015 speech supported government regulations, such as a carbon tax, in addition to climate risk disclosure. Back then he stated: “financial policymakers will not drive the transition to a low-carbon economy. It is not for a central banker to advocate for one policy response over another.” Yet refusing to make use of available macroprudential tools to more actively address climate risk is itself a policy response. Alongside carbon-intensive corporate quantitative easing, this lack of action is clearly a policy response of the worst kind.

Of course, government action is absolutely necessary to address climate and ecological breakdown, but active macroprudential policy should also be part of the policy mix. As Positive Money has already advocated, this could involve green credit guidance, green quantitative easing, or higher capital requirements for brown assets to name a few. 

EU ‘green’ taxonomy:

Towards the end of his speech, Carney briefly referred to the EU’s emerging taxonomy for sustainable activities, which aims to define what can be considered ‘green’ activity. Having previously critiqued the first version of this, I fully agree with his statement that we need a “richer” taxonomy. Yet his idea of what that entails seems somewhat concerning, as he states that “sustainable investing must catalyse and support all companies that are working to transition from brown to green”.

Presumably, “all companies” includes the 20 firms that are responsible for over a third of GHG emissions who are showing few credible signs that they’ll be making meaningful changes anytime soon. Therefore, Carney’s call for a taxonomy that has “50 shades of green” rather than a binary brown / green approach seems to call for more lenciency with the green label, including even the worst climate change culprits in the transition.

Conclusion:

Overall, Carney seems to broadly understand that urgent action on climate is necessary, but he lacks vision on what this could look like, both within his own institution and the system it is responsible for overseeing. Underpinning his ongoing reluctance to make active use of macroprudential policy is a misguided belief that economic models can predict the unpredictable, and that financial markets operate efficiently.

We saw in 2008 what happens when central banks and supervisors place too much faith in the self-regulation of financial markets. That was already catastrophic enough, but this time the stakes are much higher. There is no place for passive central banking in times of climate and ecological breakdown.