Central banks must connect climate change and financial inclusion

This article was published by Nikkei Asian Review on 5 June 2020.

Extreme weather can wash away people’s livelihoods

By Johanna Nyman, AFI Head of Inclusive Green Finance and Eric Zusman, Research Leader, Institute for Global Environmental Strategies

In August 2019, Kerala in India faced a second straight summer of extended downpours and flooding. As rains inundated the region, a colleague working for a local government shared smartphone footage of rising waters moving fast enough to carry away cattle and deer.

While these images filled the screen, the colleague’s words revealed a more worrying result of the rains: climate change was destroying assets and deepening poverty for many of the region’s low-income people and small businesses. The unfortunate truth about Kerala and other parts of Asia is that those who have the least often suffer the most from a warmer climate.

This truth may nonetheless contain the seeds of a solution. Many of the same countries hit hard by climate change have also introduced programs to include the poor and small businesses in the financial system.

In fact, just as financial inclusion has lifted countless people out of poverty, climate risks have led central banks and financial regulators to update inclusion strategies and introduce policy tools to ensure climate stresses do not undermine efforts at alleviating poverty — something worth recognizing today, World Environment Day.

Until last year, knowledge of how far banks were making the connections between climate change and financial inclusion was fragmented. The desire to get a more complete picture of this phenomenon led to a survey of how central banks and regulators were considering climate change in their financial inclusion strategies and policies, as part of a project led by the Alliance for Financial Inclusion, or AFI.

Interviews with central banks and financial regulators from 19 countries revealed connections being made in both broader strategies and narrower policies.

For the broader strategies, the survey showed that 12 of the 19 countries had connected climate change and financial inclusion in financial sector plans. For example, Fiji has adopted a National Financial Inclusion Strategy 2016-2020 that underlines its role in policies that build resilience to climate change.

For the narrower policies, the survey demonstrated banks were adopting a diversity of approaches to green inclusiveness. The AFI divided those approaches into a four-part framework of provision, promotion, protection and prevention.

1. Provision policies employ interventionist measures such as bank lending quotas or refinancing facilities for green products or recovery and reconstruction efforts.
2. Promotion policies use moral persuasion, capacity building, data collection and information sharing to encourage banks to consider climate risks and extend access to green technologies.
3. Protection policies lower financial risk through insurance programs or social payments to help those recovering from climate or environmental disasters.
4. Prevention policies involve putting in place environmental and social risk management guidelines to better assess the risk of financial activities.

An important finding from the survey was that many of the most active central banks in this area were in Asia. The Bangladesh Bank, for instance, has been focused on these issues for a decade; in fact, in an example of the provision category, six years ago it introduced a 5% target on the yearly disbursements of green finance.

By contrast, the Bangko Sentral ng Pilipinas, in an example of the promotion category, used a softer approach with capacity building and training aimed at convincing commercial banks to adjust their lending strategies.

Overall the survey shed light on an impressive range of approaches to linking climate and inclusive policies. At the same time, it suggested enhanced cooperation between banks and environmental agencies may have potential to strengthen these approaches. Greater cooperation could, for instance, lead to more systematic definitions of green finance and more robust criteria for determining which products should be targeted for green lending.

Similarly, enhanced knowledge exchanges between central banks could help these regulators contribute to the climate actions that countries have submitted through their Nationally Determined Contributions to the U.N. Framework Convention on Climate Change. These are sets of climate actions countries intend to implement up to 2030.

All these steps could support a broader effort to align climate change and social development strategies. A more integrated approach to climate change and the U.N.’s Sustainable Development Goals is drawing interest in many countries and these steps could add much-needed substance.

AFI’s Inclusive Green Finance (IGF) workstream is part of the International Climate Initiative (IKI)  supported by the German Federal Ministry for the Environment, Nature Conservation and Nuclear Safety (BMU), based on a decision of the German Bundestag.