Higher interest rates in recent years have sparked concerns about their adverse impact on clean energy investments. Such investments are needed to support the transition to a low-carbon economy, which is necessary to avoid further climate change damage to the economy. While higher interest rates typically reduce all types of business investment, there are worries that they may disproportionately hinder efforts to build renewable energy infrastructure and decarbonize the economy more generally.
Are higher interest rates particularly bad for green investment? To answer this issue, we compare whether equity prices of low-carbon “green” companies respond more to monetary policy surprises than those of high-carbon “brown” firms. Monetary surprises are measured using intraday changes in interest rates around monetary policy announcements. We also assume that financial investors price companies’ stocks based on their future investment opportunities and profitability. This methodology allows us to identify a causal linkage between interest rates and green financial prospects.
Our results reveal that monetary policy surprises tend to have a stronger impact on brown firms—those with higher carbon emission intensities—than on green firms. This finding suggests that rising interest rates may not skew investment away from the green transition. Given Europe’s well-defined and widely supported commitment to achieving carbon neutrality, our study uses European firm-level data and European Central Bank (ECB) monetary policy surprises. Using U.S. data, other recent studies have uncovered a similar greater sensitivity of the equity prices of brown firms to Fed monetary policy surprises compared with green firms. However, the deep social and political uncertainties surrounding U.S. climate policy may cloud investor perceptions and pricing of climate-related equity risks.
Our research contributes to a growing understanding of how monetary policy can affect the financial aspects of the green transition. We also explore potential reasons for the differing green/brown equity price responses. For example, an unexpected monetary tightening may increase the climate risk premium for brown firms, heightening their interest rate sensitivity. Additionally, investors with a preference for green securities may be less likely to substitute away from green stocks following monetary policy shocks. By contrast, our findings indicate that differences in other firm characteristics, such as leverage, age, and liquidity, have minimal influence on these dynamics.
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Acknowledgements and disclosures
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