Interview with Frank Elderson, ECB Executive Committee Member and Vice-Chairman of the ECB Supervisory Board, conducted by Erlend Klassen and Han Dirk Hecking
January 17, 2025
Major U.S. banks and asset managers are distancing themselves from climate change policy. This could put European banks at a competitive disadvantage. what should they do?
We were already wary of storms, droughts, and floods caused by climate change. Now we have to add urban fires to that list. Munich Re, a leading reinsurer, looked at the average cost of natural disaster losses over the past 30 years, adjusted for inflation. That amount is on the rise. Over the past 30 years, the annual global average was USD 131 billion, in the past 10 years it has increased to USD 236 billion, in the past five years it has increased to USD 268 billion, and by 2024 it will reach USD 320 billion.
We don’t want to be too pessimistic, but we do know that we are nearing a climate tipping point as temperatures rise. Where does it lead? Looking at images of California will give you some ideas. In addition to the enormous human toll, the economic and financial consequences are also enormous. Imagine you are the bank that holds the mortgages on the homes that have been extensively burned down.
Banks must manage all material risks and associated risks. And there is a global consensus that climate and nature-related risks lead to financial risks. Banks need to manage this properly. Therefore, it makes perfect sense that these risks also fall within the purview of supervisors and central banks. If we leave it blank, we won’t be able to do our job properly.
We don’t make climate- and nature-related policies, and we shouldn’t. We are not elected politicians. Politicians decided on the Paris Agreement and Europe’s climate policy. We take them as given and incorporate them into our tasks. Therefore, you need to ensure that your bank is resilient to this type of risk. And the importance of these risks for monetary policy in economic models needs to be captured.
Look at the main river below. Several kilometers downstream, it flows into the Rhine River, close to a section that would be unnavigable for several months in 2022. The summer of 2022 was a very dry summer. This pushed up food inflation by about 0.7 percentage points. If we ignore such risks because climate change is not currently prevalent in certain parts of the political spectrum, people will rightfully accuse us of failing to do our job properly. may be blamed.
Reality always wins out over wishful thinking in the end. A person can deceive himself and others, but in the end he collides with reality.
Do you think investors in banks are taking too much of a short-term view?
If our banks are good at helping customers decarbonise and funding the transition to net zero, we will be in a better position than our competitors who have not yet gone through that entire process. Masu.
As a supervisor, I don’t tell banks what they should or shouldn’t lend. That’s not my role. But it’s all a risk. Close your eyes and think of Los Angeles. Do you really think that U.S. banks are saying, “Let’s stop doing this type of risk management?”
We were talking about investors.
They will also want banks to be able to manage risk. They have no interest in banks with large amounts of bad loans, the threat of which looms from burned-out houses. Investors don’t want their profits to go to waste.
Looking at monetary policy, bond yields have skyrocketed. Central banks are lowering interest rates to support the economy, but loans to consumers and businesses are at risk of becoming more expensive. To what extent is this development contrary to your policy? Have you considered this?
Of course I will. We look at all metrics. We look at forecasts and data very broadly. The influence of capital market developments is a factor, but we are not guided by it. We focus on money market interest rates.
British investors are concerned about changes in the capital markets. Are you worried?
Like I said. We monitor all relevant developments, including financial markets. We then set monetary policy and adjust policy interest rates based on this and other factors.
Looking at inflation, the deposit facility rate was cut again to 3% in December. However, it turned out that the inflation rate rose slightly that month. Did I act prematurely?
Let’s take a step back. Inflation was still near 10% at the end of 2022, 2.9% at the end of 2023, and 2.4% at the end of 2024. It’s going in the right direction. A significant portion of the decline in 2024 can be attributed to lower energy prices. It will end someday. Achieving the 2% inflation target over the medium term will require other sources of financing. Services inflation remains at 4% and will need to fall further.
My mother always told me that too much of anything is bad. If interest rates are cut too quickly, it may become difficult to adequately contain service inflation. On the other hand, if you keep interest rates high for too long, you run the risk of falling short of your target. Over the past decade, we have learned where inflation ends up and how difficult it is to correct it when it is too low. Setting interest rates is ultimately a question of how quickly and how much to set.
Now that the market has reached 3%, I don’t think the easing is over, and I don’t think the easing is over yet either. However, we cannot predict the future decisions of the ECB Governing Council, as I am sure you understand.
And what is the current situation? The next interest rate decision will be made on January 30th. With inflation at 2.4%, is it better to wait for another rate cut or do it?
I’ve already said all that can be said about it.
The emphasis in autumn monetary policy statements appeared to be sometimes medium-term and sometimes more data-focused. Is one more important than the other, as some analysts think they have discovered?
I think you’re reading too much into it. I understand that you value every word, but in this case I don’t value the differences that much. Incoming data is released at various intervals. New data may have just been released or may not have been released yet. Therefore, at a particular moment there may be more emphasis on one element and less on another, but there is absolute consistency in the approach we take.
In Germany, some say that consolidation of the banking sector is not an option until the European Banking Union is established. And that hasn’t happened yet – there is still no agreement on a European deposit insurance system.
I’m not going to say anything about any particular bank. However, the two pillars of the banking union that already exist (a single supervisory mechanism for banks in crisis and a single resolution mechanism, editors) are strong and have remained rock solid for a decade. Legislators have presented us with a very clear and limited set of standards, and it is our job to reflect on whether they are being met. If this is the case, there is naturally the possibility of cross-border integration among banks.
In principle, we are positive about bank consolidation. This is because it can lead to further market integration and increase the competitiveness of the financial sector. Greater scale will also give banks access to the investment budgets they need for digitalization, cybersecurity, and climate and natural risk management.
Back to the climate issue. In mid-December, the ECB and the EU’s pension and insurance industry regulator EIOPA published proposals to expand insurance coverage for natural disasters. One element of this proposal is for member states to put money into the pot. The Germans and the Dutch might say, “Now we’ll have to set aside funds for other countries again.”
Here in Germany, 135 people lost their lives in 2021 when dramatic flooding occurred in the Aar Valley. All destroyed houses had to be rebuilt. Many people didn’t have insurance, so the government had to pay. What I am saying is that no EU member state is immune to this kind of damage. The likelihood of such events occurring is also increasing.
Indeed, the Netherlands has a centuries-long history of insurance. Pooling this kind of risk in solidarity with those who unfortunately happen to live in the wrong valley is economically efficient, and I’m sure most people understand that. .
There was controversy within the ECB last year, with the staff committee claiming that some staff felt alienated from you for raising questions about climate change policy. What do you think about it?
There is complete agreement among international supervisors that the physical risks and transition risks that we are discussing are very relevant. There will be a lot of dialogue within the Eurosystem before a decision is taken by the Governing Council. We also have opinions from our in-house experts. Here at the ECB, cutting-edge deliberations and debates take place at all levels. And that’s where I come into my own. Once everything is done, the whole system makes a decision.
But what did you think of the internal criticism?
I decided to choose my words more carefully in the future.
Klaas Nott’s term as president of the Dutch Bank ends on June 30th.
Every day, every time I walk through the door, I realize what an honor it is to be the second Dutch director to serve on the board. I have a European assignment and it’s been for 8 years. And I will be here for 8 years.
