Green credit guidance

👉🏽 This story is developed as part of the Doughnut Economics for Policymakers guide.

Green credit guidance incentivises financial institutions to direct more investments towards green enterprises and sectors. An increasing number of countries, mainly in Asia and Europe, have adopted these policies. Evidence from early adopters like China shows that green credit guidance can effectively mobilise long-term investment to green sectors, especially when coordinated across central banks and governments as part of a broader green finance strategy.

Overview

Green credit guidance is a set of policies, often from central banks or financial regulators, that encourage or mandate financial institutions to direct lending towards green sectors while restricting financial flows to ecologically destructive ones. Examples include:

• Setting differentiated interest rates so that enterprises in green sectors enjoy lower or no interest rates while polluting ones are required to pay higher interest rates or are excluded from loans.
• Issuing guidance to mandate or support financial institutions to prioritise lending to industries that are vital for the transition towards a green economy. This can include green taxonomy guidance, limits on lending to polluting sectors, and targets for lending to green sectors.
• Reforming collateral frameworks to provide favourable status to green assets when used as collateral for loans, while excluding or discounting polluting assets.
• Reducing reserve requirements for financial institutions who lend to green sectors.

In countries where the central bank coordinates closely with national governments, such policies are often a key component of national strategies to transition toward a green economy. In countries where central banks are set up to be independent from political influence and with a narrower mandate, these policies can be a response to scientific evidence of the ecological risks to long-term price and financial stability.

Implementation

An increasing number of regions and countries are implementing green credit guidance, including Bangladesh, Bhutan, Brazil, China, India, Indonesia, Japan, Malaysia, Singapore, South Korea, the Philippines, and the European Union. However, which policies are adopted — and how they are implemented — varies enormously. In countries where central banks coordinate closely with national governments, more policy tools are available than in those where central banks are set up to be independent.

Impacts

Ecologically regenerative enterprises and sectors often require high upfront and long-term patient investments. Evidence from early implementers of green credit guidance, such as China, has shown these policies can play a critical role in mobilising such investments while reducing financial flows to ecologically destructive sectors. They are more effective when implemented as part of a wider green financing strategy by the central bank and financial regulators in coordination with national governments.

Challenges

• Complexity in defining and verifying what is 'green': This requires a careful balance between ease of implementation and robust definitions that avoid greenwashing. 
• Narrow focus on climate risks: Most existing green credit guidance policies overlook other ecological risks like biodiversity loss, chemical pollution, land conversion, and ocean acidification. 
• Ensuring just transition: Overly onerous compliance requirements may overburden and exclude smaller financial institutions and enterprises. Capital access may be restricted in low-income countries who have contributed least to ecological degradation. 
• Limited capacity in low-income countries: Competing priorities, high debt burdens, limited fiscal capacity and volatile capital flows constrain the options available to governments and central banks. Many countries are also limited by IMF conditions on macro-economic policies, including the advice for central banks to stay independent and focus on a narrower mandate.

Reference and further reading

• Green Central Banking provides latest news and curate latest research on green central banking including green credit guidance policies. 
• A report published in 2022 by Istituto Affari Internazionali provides a global overview of green central banking including green credit guidance policies implemented worldwide.
• PositiveMoney analyses and scores Green Central Banking in the G20 as well as 13 countries in Southeast Asia and East Asia. They include overviews of green credit guidance policies among other central banking policies and actions.
• New Economics Foundation (NEF) provides a detailed proposal for the Green Targeted Credit Scheme in the UK.

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