Bank of Korea urged to treat climate finance as inflation management tool

Key points

• South Korea’s economic stability is threatened by high fossil fuel dependence and surging import costs, and a new report urges the Bank of Korea to integrate climate finance into its policies.
• Key recommendations include establishing a dedicated green lending scheme and adjusting collateral haircuts based on carbon intensity to steer finance towards renewables and decarbonisation efforts.
• The BoK is currently lagging behind regional peers in Asia, having made slow progress in integrating climate considerations. The report urges an increase the green share of its foreign reserves and take the lead by disclosing its own asset management activities.

As the South Korean won comes under further pressure due to surging oil prices, advocacy groups are calling for its central bank to manage inflation risks with greener monetary policies.

The country’s currency has plunged to its weakest level since the 2008 global financial crisis, as demand for the US dollar strengthens with Asian countries procuring US crude to replace barrels from the Gulf and global investors flocking to safe-haven assets.

The Bank of Korea’s (BoK) incoming chief recently warned that soaring import costs, coupled with a weaker won, is “likely to accelerate” inflation. Nearly 70% of South Korea’s crude oil supply passes through the Strait of Hormuz, where shipping has come to a virtual standstill since the start of the US-Israel war on Iran.

Against this backdrop, UK-based Positive Money and South Korean thinktank the Institute for Green Transformation have released a briefing note calling for the BoK to drive a transition away from fossil fuels through its monetary policies.

“The ongoing crisis underscores that … the BoK must move beyond immediate crisis management and traditional interest rate adjustments to fundamentally eliminate the nation’s high dependence on fossil fuels,” says Giwon Choi, head of the economic transformation team at the Institute for Green Transformation and one of the report’s authors.

One of the policy recommendations put forth in the report is to establish a dedicated green lending scheme, which other major central banks in the region like China and Japan have done, to support a wide range of decarbonisation activities, including the adoption of renewable energy and energy efficiency improvements.

The BoK has started providing green finance for small and medium enterprises (SMEs) through its bank intermediation support facility, to encourage commercial banks to provide green financing to smaller firms. However, the latest briefing finds that that has been implemented “on a very limited basis” so far within its existing regional SMEs support programme.

“In response to the current crisis, the government has formulated a supplementary budget, allocating approximately 616.2bn Korean won [US$420mn] toward energy transition projects – a type of response rarely seen in the past,” says Choi, adding that this development expands the room for the central bank to adopt this as a long-term policy.

“Taking action on climate and ecological crises is still often framed as being outside of central bank remits, yet it strikes right at the heart of price and financial stability mandates,” says Joe Herbert, a senior researcher at Positive Money. “This includes using monetary tools such as the collateral framework and lending facilities to guide finance towards sectors crucial to green economic transition.”

The report’s co-authors also urged the BoK to adjust haircuts on collateral pledged by commercial banks based on carbon intensity, where assets that are more carbon-intensive receive a larger reduction in their value.

“This is necessary in order to reflect the high levels of physical and transition risks contained in environmentally damaging assets that threaten Korea’s green transition and financial stability,” they write. In addition, assets owned by companies involved in fossil fuel expansion should be excluded from the central bank’s collateral framework “in order to reflect the extreme levels of risk they represent”.

Another innovative policy option BoK could adopt is to ringfence a portion of the proceeds from its monetary stabilisation bonds – short-term debt securities primarily used to manage excess liquidity – to finance green assets, the advocacy groups say.

There is an “opportunity for BoK to become an international leader and innovator in this area”, since the United Arab Emirates’ central bank is the only one in the world that has started looking into green short-term debt securities as a policy option.

However, the authors note that as with other recommended policies, this would require a “robust, science-based green taxonomy”, which the Korean green taxonomy (known as K-Taxonomy) in its current form is not, given the questionable inclusion of liquified natural gas (LNG) as a “transitional” fuel and nuclear power as “green”.

The K-Taxonomy remains voluntary for companies to use when issuing green bonds, which has called into question its effectiveness in deterring greenwashing. In 2024, global banks came under fire for facilitating green bond issuances by South Korea’s largest power utility firm Kepco, which continues to fund overseas coal expansion and plans to convert ageing coal plants to fire ammonia-coal and hydrogen-LNG blends, instead of shutting them down.

“The K-taxonomy, and all green investment taxonomies, should move towards acting as mandatory standards rather than just voluntary guidelines. Otherwise, we will continue to see examples of greenwashing of bonds like that of Kepco,” says Herbert.

Lagging behind regional peers

In Positive Money’s 2025 green central banking scorecard for Asia, South Korea was placed eighth out of the 13 countries assessed.

“BoK’s progress in integrating climate and ecological considerations into monetary and credit policies has been slow,” say Positive Money and the Institute for Green Transformation in the most recent report.

Of the multiple policy actions set out in BoK’s 2021 climate change strategy, it has only made significant progress in greening its foreign reserves through restrictions on investments in fossil fuel assets.

However, green bonds only make up roughly 0.5% of its total foreign reserves to date. Furthermore, BoK does not publish climate disclosures for its portfolio nor the sustainability criteria it uses to screen its investments.

The report’s authors urge the BoK to “take the lead by disclosing its own asset management activities” as mandatory sustainability reporting starts in 2028.

“Ultimately, it is only by addressing these deep-seated structural risks that the BOK can deliver long-term financial stability and build a truly resilient and sustainable future for the Korean economy,” says Choi.

Written by