On October 27th 2022, the European Central Bank (ECB) adopted its third rate rise in a row, pushing key interest rates to record Eurozone heights. It also began adjustments to shrink a balance sheet that significantly grew the beginning of the Covid pandemic. Unfortunately, sustained monetary tightening could impair the clean energy transition that is necessary to break with current inflation trends. Instead, the ECB should protect crucial investments in renewable energy and efficiency by setting up a green lending facility that shields them from higher rates and tougher financing conditions. It could start by focusing on building renovation.
At its October 27th meeting, the ECB unsurprisingly decided to raise key rates by 75 basis points to rein in an EU inflation that reached 9.9% in September. This increase intervenes in a context of global monetary policy tightening and – as the ECB notes in its press release – will not be the last.
Beyond higher key rates (1), the ECB decided to adjust the interest rates applicable to the long term refinancing operations granted to respond to Covid (“TLTRO III”). Indeed, while these operations enabled banks to benefit from negative interest rates during the pandemic, their rates will be aligned with key interest rates after November 22nd 2022. This measure has two objectives. First, to reduce the ECB’s balance sheet by incentivizing early repayments. Then, to lower the estimated 28bn euros (2) of profits made by banks thanks to low TLTRO rates.
However, these decisions are blind to the fact that the inflation crisis is an energy crisis. ECB’s tightening affects inflation by depressing demand, a move that has sizeable socio-economic consequences but only an indirect impact on energy-driven inflation. As the IEA underlined in its World Energy Outlook 2022 (3) published the morning of the ECB’s meeting, the solution to the crisis is the clean energy transition.
Failing to account for this fact, the ECB is actually making the role-out of renewable energy and energy efficiency more difficult by increasing the cost of capital and toughtening financing conditions (4). This is especially worrying as businesses and households already have increasing difficulties to borrow (5).
This dangerous effect can be avoided if the central bank sets up a green lending facility that provides lower rates to finance the clean energy transition (6). Such a facility could even work with the ECB’s new TLTRO adjustements: preferential rates can be maintained in exchange of loans oriented toward this objective. 6 NGOs (7) underlined in a letter sent to the ECB governing council ahead of the meeting that this would especially be helpful for building renovation. Indeed, massive renovation is at the heart of EU transition plans and delivers significant socio-economic benefits (8).
To conclude, if it fails to include transition-specific criteria, the ECB’s monetary tightening will throw a spanner in the works of the EU crisis response. NGOs have already charted a path to avoid this by calling on the central bank to launch a green lending facility to finance building renovation. Now is the time to act.