ECB’s broken promise on bond decarbonisation creates climate gap

July 26, 2023|Written by Kuba Gogolewski|European Central Bank
Coal power plant in Datteln, Germany
A coal power plant in Datteln, Germany. The ECB still holds bonds issued by high-carbon industries, despite plans to decarbonise its portfolio. © Arnold Paul

Europe is more advanced than other parts of the world when it comes to responding to what climate science tells us about the impact of rising temperatures on every aspect of our lives.

The EU has set legally binding targets for the renewable energy share in the overall energy mix, reducing greenhouse gas emissions, and reducing primary and final energy consumption by 2030. The measures aim to align the bloc with the 2015 Paris Agreement which is enshrined in the cumulative body of EU climate law.

The faster we decarbonise the European economy, the more immune it will be to future fossil fuel prices spikes. The most vulnerable Europeans citizens will be less impacted by inflation, and by climate impacts such as the extreme heatwaves currently baking the continent.

In this context, the European Central Bank’s continued passive support for the biggest oil and gas companies in Europe directly undermines its primary mandate.

Given its large bond holdings, its central role as a liquidity provider for the eurozone financial system, and its role as supervisor of the eurozone banks, the ECB’s decarbonisation measures can have a substantial impact. It can affect the cost of borrowing for non-financial corporations and provide signals to financial markets about decarbonising the eurozone financial system.

However, the ECB has abandoned reinvestments together with its strategy to decarbonise its corporate bond portfolio. The institution is now passively unwinding its corporate bond holdings, allowing the substantive stock of approximately €385bn to mature without replacing them. This includes bond holdings in both the corporate sector purchase and pandemic emergency purchase programmes. In short, the ECB has stepped back from cleaning its portfolio of dirty bonds.

Corporate bonds and collateral framework lack climate criteria

Our understanding of the impact of climate change on financial system stability and the economy has improved in recent years and the ECB has taken steps towards decarbonisation. Two years ago, the ECB announced a plan of climate-aligned actions and, in July 2022, it revealed plans to design and implement concrete measures to decarbonise its monetary policy framework.

These measures were supposed to target both its corporate bond portfolio, acquired during its “unconventional” policy interventions during the pandemic, and the collateral rules that apply to conventional and unconventional lending to eurozone financial institutions.

These commitments created expectations that the ECB would escalate its decarbonisation strategy to support the EU’s climate neutrality targets. However, only one year later these climate commitments have been broken. The ECB has effectively terminated the greening of its corporate bond holdings and it seems unlikely that any climate criteria will be included in its collateral framework.

The ECB acknowledges its decarbonisation strategy has rapidly lost steam. President Christine Lagarde has accepted that this passive approach is clearly inconsistent with the EU’s Paris commitments, and, critically, that the ECB needs to consider actively reshuffling its corporate bond portfolio towards greener issues. Only last month, she reiterated the ECB’s dedication to ramp up its actions as the window to meet our climate targets narrows.

The ECB has developed a potentially effective decarbonisation approach with a climate scoring framework to evaluate companies’ climate performance which allows for close monitoring and disciplining of climate laggards in the context of systemic greenwashing and market developments that incentivise carbon investments.

However, in practice, its application has resulted in an ever-widening gap within the corporate bonds portfolio between what is needed to meet the Paris goals and what is actually being delivered. This has been compounded by the fact that the only tool the ECB is now using is to leave bonds to reach maturity, instead of replacing them with those from low-carbon companies.

Bonds bought from issuers reliant on fossil fuels

A new report from academics at SOAS University of London, University of Greenwich, University of the West of England and Greenpeace shows that, if it ever wants to get back on the path to climate neutrality, the ECB needs to immediately divest itself of the corporate bonds of companies still developing fossil fuels. It also needs to pay much more attention to the current and future investments of the companies whose bonds it plans to buy.

The report shows that, between October 2022 to June 2023, the ECB divided its reinvestments across 41 green bonds and 103 conventional bonds. While some of the green bonds bought by the Eurosystem as part of its reinvestments were problematic, many others were conventional bonds issued by companies engaged in carbon-intensive activities and not categorised as green bonds.

Particularly concerning is the purchase of a conventional bond issued by E.ON. Half of E.ON’s revenues come from fossil fuels and the company has liquefied natural gas capacity under development.

Another example is one of EnBW Energie’s conventional bonds; the company generates almost 40% of its power using coal. Furthermore, both E.ON and EnBW bonds have a relatively long average maturity, and will therefore remain in the Eurosystem corporate bond portfolio without an active green unwinding.

A construction worker wearing hard hat, gloves and mask carrying a layer of insulation wool
When bought from carbon-intensive companies, green bonds, which are intended to reduce emissions, could be used to finance fossil fuel project. © Dual Logic

Had the ECB used the greener scoring presented in the report, the Eurosystem would not have purchased these bonds, as the issuer greener score for these companies is much lower than that calculated by the ECB.

Green bonds could be used to finance carbon-intensive activities

The ECB purchased green bonds issued by carbon-intensive companies to the tune of more than €3.5bn – that’s over half of its total reinvestments in the period analysed. Currently, the ECB does not differentiate between green bonds issued by strong climate performers and those issued by those lagging behind.

Although green bonds can be a useful tool for the net-zero transition, those issued by companies with a poor backward-looking and forward-looking climate performance should not be treated in the same manner as bonds issued by companies with a strong climate profile.

The ECB has even purchased the green bonds of fossil fuel developers, such as bonds of the Italian energy company Snam after the ECB’s new tilting rules – which required the bank to replace all maturing bonds with a greater proportion from issuers with stronger climate performance – came into effect.

Of all the ECB’s portfolio, Snam is the company with the largest share of revenues from fossil fuels, nearly 90%. While these green “transition” bonds aim at financing projects that would improve carbon-intensive activities, the proceeds can in practice be used to support activities that extend the use of fossil fuels.

While unwinding its corporate bond portfolio, the ECB could start selling bonds of weak climate performers and buy bonds of companies with a stronger track record. This would provide signals to the financial markets about the need for bond issuers to get serious about the climate crisis.

At the very least, the ECB should look at selling all its bonds of companies still developing fossil fuel assets, starting with oil and gas giants such as Eni, TotalEnergies, Shell and BP.

The ECB can still reverse its dangerous course.

This page was last updated July 26, 2023

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