Interview with Het Financieele Dagblad

Interview with Frank Elderson, Member of the Executive Board of the ECB and Vice-Chair of the Supervisory Board of the ECB, conducted by Arend Clahsen and Han Dirk Hekking

17 January 2025

Large banks and asset managers in the United States are distancing themselves from climate policies. That may leave European banks in a different reality where they are at a competitive disadvantage. What should they do?

We were already alert to storms, droughts and floods caused by climate change. We now need to add urban fires to that list. Munich Re, the major reinsurer, has looked into the average damage from natural disasters over the past 30 years, corrected for inflation. That amount is rising. It averaged USD 131 billion per year worldwide over the past 30 years, but USD 236 billion over the past ten years and USD 268 billion over the past five, reaching USD 320 billion in 2024.

I don’t want to be too downbeat, but we know that, with the rise in temperature, climate tipping points are approaching. Where will that lead? Looking at the images of California gives you some idea. Apart from the enormous human suffering, there are also huge economic and financial consequences. Imagine you were a bank that holds mortgages for the houses that have now been burnt down on a massive scale.

A bank needs to manage all its material and relevant risks. And there is a global consensus that climate and nature-related risks translate into financial risks. Banks need to manage this properly. It therefore makes complete sense that these risks also fall within the remit of supervisory authorities and central banks. We would not be doing our job properly if we blanked that out.

We don’t make climate or nature-related policy, nor should we; we are not elected politicians. The politicians decided on the Paris Agreement and on European climate policy. We take those as given and incorporate them into our own tasks. So we need to ensure that banks are resilient to this type of risk. And we need to capture the significance of these risks for our monetary policy in our economic models.

Look at the Main river below. A few kilometres downstream it flows into the Rhine, close to a part that, in 2022, was not navigable for a number of months. In 2022 we had a very dry summer. That pushed up food inflation by around 0.7 percentage points. If we ignored such risks because climate is not fashionable in a certain part of the political spectrum at the moment, people could justifiably reproach us for neglecting to perform our task correctly.

Reality always wins out over wishful thinking in the end. People can deceive themselves and others, but you ultimately crash up against reality.

Do you think that investors in banks are taking too much of a short-term view?

If our banks are good at helping their customers to decarbonise and at financing the transition towards net zero, then they are better positioned than competitors that have yet to go through that whole process.

As a supervisor, I don’t tell banks what they should or shouldn’t finance. That is not my role. But it’s all about risks. Close your eyes and think of Los Angeles. Do you really think that US banks are saying “let’s not bother managing this type of risk”?

We were talking about investors.

They will also want banks to have their risks under control. They have no interest at all in a bank that gets landed with a huge amount of non-performing loans, the threat of which is looming from the burnt-out houses. Investors don’t want their returns to go up in smoke.

If we look at monetary policy: bond yields have surged. While central banks have reduced interest rates to support the economy, loans for consumers and businesses are in danger of becoming more expensive. To what extent does this development counteract your policy? Do you take this into account?

Of course we do. We look at all indicators. We look very broadly at projections and data. The effects of capital market developments are one component but we are not guided by them. Our focus is on the money market interest rate.

Investors in the United Kingdom are concerned about the shift in the capital market. Are you not worried?

As I said. We monitor all relevant developments, including those on the financial markets. And we set our monetary policy and adjust our policy rates on the basis of this and other factors.

Looking at inflation, the deposit facility rate was lowered again in December to 3%. But inflation turned out to have edged up slightly in that month. Did you act prematurely?

Let’s take a step back: at the end of 2022 inflation still stood close to 10%, at end-2023 2.9% and at end-2024 2.4%. That’s going in the right direction. A considerable part of the decline in 2024 can be attributed to lower energy prices. That will end at some point. Another source will then be needed if we are to reach our inflation target of 2% over the medium term. Services inflation, which is still at 4%, will have to fall further.

My mother always told me too much of anything is never good. If we lower the interest rate too quickly, dialling down services inflation sufficiently could become complicated. On the other hand, if we keep interest rates too high for too long then we risk undershooting our target. In the past decade we’ve seen where that lands us and how difficult it is to correct inflation when it’s too low. Setting interest rates is ultimately a question of how fast and how much.

The markets don’t think we’ve finished easing now that we’re at 3% and I don’t think we have, either. But I can’t anticipate future decisions of the ECB’s Governing Council, I’m sure you understand.

And what about the current situation? The next decision on interest rates is on 30 January. With inflation at 2.4%, is it better to wait or to go ahead with another rate cut?

I’ve already said all I can say about that.

In the autumn the emphasis in the monetary policy statement seemed to be sometimes more on the medium term and sometimes more on the data. Does one carry more weight than the other, as some analysts thought they had found out?

I think you are reading too much into that. I understand that you weigh every word, but in this case I wouldn’t attach so much significance to those differences. The incoming data are released at different intervals. Sometimes new data have just been released and sometimes not. So at a given moment there may be more emphasis on one element and less on another, but we are absolutely consistent in the approach we take.

In Germany people are saying consolidation in the banking sector is not an option until the European banking union is in place. And it’s not there yet – there’s still no agreement on a European deposit insurance scheme.

I’m not going to say anything about specific banks. But the two pillars of the banking union that already exist [the single supervisory mechanism and the single resolution mechanism for banks in crisis, ed.] are robust and have been rock solid for ten years. The legislators have given us a very clear, limitative set of criteria and it’s our job to take a good look to see if they are met. If so, then of course there’s potential for cross-border consolidation among banks.

In principle we take a positive view of banking consolidation because it leads to further market integration and can boost the competitiveness of the financial sector. Scaling up also allows banks to access the kind of investment budget necessary for digitalisation, cybersecurity, and climate and nature risk management.

Going back to the climate issue: in mid-December the ECB and EIOPA, the EU’s pension and insurance industry supervisor, came out with a proposal to increase insurance coverage for natural catastrophes. One element of this proposal involves Member States putting money in a pot. The Germans and the Dutch might well say “now we’ll have to set money money aside for other countries yet again”.

Here in Germany in 2021 there were dramatic floods in the Ahr valley, in which 135 people lost their lives. All the houses that were destroyed had to be rebuilt. A number of people were not insured and so the government had to pay. What I mean to say is that none of the EU Member States is immune to this kind of damage. The chance of such events occuring is also increasing.

Certainly in the Netherlands we have a history of insurance going back centuries. Pooling this kind of risk, in solidarity with whoever is unlucky enough to just happen to live in the wrong valley, is economically efficient and something I firmly believe most people understand.

Last year there was a controversy within the ECB, with the Staff Committee claiming some staff felt sidelined by you for raising questions about the climate policy. What’s your take on that?

Among international supervisors there’s complete agreement that the physical and transition risks that we are discussing are extremely relevant. Before we take a decision in the Governing Council there will have been plenty of dialogue within the Eurosystem. And we also have in-house expert opinions. Here at the ECB there’s cutting edge deliberation and debate, at all levels. And I’m in my element there. Once all that has happened, the system as a whole produces a decision.

But how did you feel about the internal criticism?

I have decided to choose my words even more carefully in the future.

Klaas Knot’s term as President of De Nederlandsche Bank ends on 30 June.

Every day when I walk through the door I realise what an honour it is to be the second Dutch Member to serve on the Executive Board. I have a European mandate and it’s for eight years. And I’ll be staying here for eight years.