The role of green financial sector initiatives in the low-carbon transition: A theory of change

Abstract

Green financial sector initiatives, including green macroprudential policies, green monetary policies, and green public co-funding, could play an important role in the low-carbon transition by supporting countries in the implementation of their climate objectives. This paper analyzes how green financial sector initiatives could enable the scaling up of green investments while avoiding unintended effects on macroeconomic and financial stability. For each green financial sector initiative, the paper identifies its entry point in the economy, the transmission channels to banks’ investment decisions in terms of availability and cost of capital for high- and low-carbon goods, and the resulting impacts on output and greenhouse gas emissions. Building on these insights, the paper develops a theory of change about the role of green financial sector initiatives for climate mitigation, identifying the criteria for applicability and conditions to maximize their impact. It discusses specifically the application of the theory of change to the low-carbon transition in coal and carbon intensive regions in the context of the European net zero climate objective.