Climate and collateral: the design and scope of the Eurosystem’s climate factor

Collateral frameworks are becoming increasingly consequential as major central banks shrink their balance sheets. The European Central Bank (ECB) has made a significant innovation in climate-related collateral policy by introducing the climate factor, which is designed to adjust collateral valuations based on assets’ exposure to uncertainties around the low-carbon transition.

This report explores how the evolution and expansion of the climate factor could significantly extend climate risk coverage across the Eurosystem’s collateral pool. By expanding the climate factor to credit claims, asset-backed securities, covered bank bonds and sovereign bonds, the ECB could strengthen the protection that collateral rules provide to its balance sheet.

Core findings

• The uncertainty scores on which the climate factor is based could be adapted to other major asset classes beyond the current scope of non-financial corporate bonds.
• The current methodology of the climate factor involves several design and policy choices that could benefit from further development.
• Incorporating physical risks and nature-related financial risks into collateral frameworks is a potential avenue for comprehensive, robust risk coverage.
• Greater transparency may support the climate factor’s signalling function and influence beyond its immediate risk management function.
• These developments will require a supportive regulatory environment and efficient data sourcing practices.