From Covid-19 to climate change and nature loss: how can a precautionary financial policy framework coordinate monetary, prudential and fiscal policies to address long term challenges?

In the face of climate-related financial risks, the Bank of International Settlements in its ‘Green Swan’ book demonstrated the importance of coordination between green fiscal policy, prudential regulation, and monetary policy. Such coordination must be underpinned by a shift in intellectual framework to facilitate financial policymaking under unprecedented global threat situations.

Aligned with this assessment, we propose to develop the Precautionary Financial Policy (PFP) framework, to address the dual issues of policy coordination and the need for an underlying paradigm shift. The PFP framework provides the theoretical justification for more ambitious financial policy interventions, in the face of the radical uncertainty characterizing long-term and potentially irreversible risks such as those posed by climate change and massive biodiversity loss.

The project will develop the PFP framework as a new paradigm that could support greater coordination between monetary, prudential, industrial, and fiscal policies (henceforth financial-fiscal) in the face of emerging climate- and nature-related financial risks. In particular, we will examine:

  • How this approach may provide a more coherent alternative than the ‘market neutrality’ principle in facilitating such coordination, in light of the recent European Central Bank’s declarations questioning this principle, and
  • How the PFP could help to deal with the problem of differing time horizons across policy spheres, institutions, and mandates that also mitigates against policy coordination.

The research will involve analysis of historical examples since the 1930s up to and including the most recent policy responses of financial-fiscal policy coordination and expanded institutional purpose to address Covid-19. We will develop a typology of financial-fiscal policy coordination and use this to formulate concrete policy recommendations in terms of institutional setup and governance.