Finance ministers can learn from central bank climate scenarios, says former BIS head

Finance ministers will need to adapt to the growing threats from climate change, and they could learn a lot from the climate scenarios of central banks, said Luiz Awazu Pereira da Silva, former head of the Bank for International Settlements (BIS).

“It’s logical that, given that there is so much analytical work and some progress [on green central banking] that we should do the same type of effort for ministries of finance and fiscal policy,” Pereira da Silva told Green Central Banking.

A new initiative between central banks and finance ministers concerned about the economic impacts of climate change was announced on the outskirts of Cop30 in Brazil to improve collaboration between state bodies, including plans to create shared tools and scenarios.

While changes won’t just be the responsibility of governments, a lot of the money for research, as well as efforts to protect people and countries as the world adapts, will likely fall under fiscal policy budgets, Pereira da Silva said.

Adapting climate scenarios to fiscal policy

That’s where climate scenarios come in. Just as central banks have developed scenarios to account for potential risk from climate change, finance ministers can also outline various outcomes to help plan budgets and fiscal policy.

“Climate change has evolved in an area where there is quite a lot of expertise now, and precisely because it’s very difficult to grasp all the dimensions that climate change will bring for central banks, but also for ministers of finance, you have to think along the lines of scenarios,” Pereira da Silva said.

Pereira da Silva sees value in finance ministers not only creating their own climate group, but also collaborating and building scenarios with other central banks.

“There is a [shared] direction between fiscal policy, debt, inflation, central banks and ministers of finance and the budget,” he said.

Climate scenarios for fiscal policymakers cannot all be the same though, he cautioned, as the room available for manoeuvring is not the same in the different countries. He recommends clustering ministers of finance into groups not just based on GDP, but also on other criteria like credit access and natural resources.

“For example, you can be a middle-income country which is rated by credit rating agencies as investment grade … And if you are below that, you have much less access to international capital markets, which means that you have much less room to manoeuvre if, for example, you want to issue debt to finance your transition”.

The uncertainty of tipping points

But while the Network for Greening the Financial System has done a lot to advance climate scenarios and help central banks understand the potential impact on economies, some economists and scientists have criticised the scenarios for not taking into account climate tipping points, events that are so extreme they trigger catastrophic and irreversible damage, such as the polar ice caps melting.

Pereira da Silva said that while it’s important to have some representation of tipping points in macroeconomics, especially when thinking about climate shocks, traditional tools used by central banks and finance ministers are not equipped to deal with these “non-linearities”. While introducing these events into current economic models is possible, he said, it’s very difficult.

But for Pereira da Silva, the focus isn’t so much on improving economic models as making sure resources are mobilised to help those who need it.

If there is going to be a negative shock, Pereira da Silva wants to know what to do about it, not spend time improving non-linearity events in economic models.

“The major effort today is not necessarily to improve the modelling capability; we have plenty of evidence of what’s happening … I would rather focus on the day-to-day way to respond to these threats.”

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