10th Dec 2023

Hawkish ECB rate-rise 'puts energy transition at risk'

  • ECB chief Christine Lagarde has overseen the steepest monetary tightening cycle since the euro was launched (Photo: Council of the EU)
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The European Central Bank raised interest rates on Tuesday (2 February) by another 0.5 percent to a 14-year high — and expects to hike rates by another half-percent in March.

Some have pointed out inflation has already peaked as energy prices have dropped to pre-war levels and gas supply seems more secure than it did months ago. But with core inflation above five percent, a hawkish ECB has decided to "stay the course in raising interest rates significantly," said ECB president Christine Lagarde in a press conference.

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Raising rates may bring inflation down at the cost of lower wages and higher unemployment over one or two years, but it also cuts off investments in renewables. ECB chief economist and executive board member Isabel Schnabel previously warned higher borrowing costs "may slow down decarbonisation."

How to battle inflation without derailing the energy transition is one of the major issues central bankers have to grapple with in 2023, as a slow-down in renewable deployment will increase gas dependency come winter.

Schnabel, an inflation hawk but also a proponent of green central banking, suggested a potential solution to the puzzle could be to lower bank lending rates for green investments— in home renovation, cleaning up the production chain or solar and wind farms.

But hawkish council members like the Belgian central banker Pierre Wunsch have pushed back firmly against this and claim the ECB should not meddle with climate policy.

Economists have argued fighting climate change is part of the bank's mandate, but for now, the ECB has left the issue unresolved. "So far, there is also no evidence of funding shortages for green investment projects," Schnabel said in January.

Manufacturing slump

But according to a lending survey published by the German Bundesbank on Wednesday, corporate borrowing has plummeted.

Manufacturing companies, especially renewable developers, are borrowing less — citing higher interest rates as the main cause. This may in part, be a shock response. The ECB has raised its main lending rate by three-percent since July last year, the steepest increase in the euro's history. Companies may simply want to wait and see what happens before signing off on a long-term loan.

But higher rates add to an already tumultuous economic outlook, posing a risk.

"The effects of monetary policy on the real economy is the most underestimated risk for the eurozone economy right now," Carsten Brzeski, chief economist of ING Germany, told EUobserver.

On Wednesday, Vonovia, one of Germany's biggest real-estate developers, announced it would stop all new projects for 2023, citing high-interest rates as one of the leading causes.

Europe's largest renewables developers Siemens Games and Orsted, have also had to revise their annual outlook downwards, citing inflation and higher borrowing costs.

Higher borrowing costs have a greater effect on renewable projects, which have higher upfront costs than fossil-fuel projects and offer a lower initial rate of return.

"Put simply, renewable energies are more competitive when interest rates are low," Schnabel said, who like Lagarde has indicated she would support a green lending mechanism.

But lacking support from hawks, the ECB now emphasises governments take the lead and insists member states create a green capital union. This would simplify and encourage cross-border private equity investments within the EU, making renewable developers less dependent on bank lending. But according to Brzeski, this is a process — however effective — that would take years.

Thus, raising rates in the current monetary and fiscal regime "poses a long-term risk for the energy transition because we know that under these circumstances, investments will simply not be made," Brzeski said. "I could make a good case to take it easy for a while."


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