Climate Monetary Policy Design and Modelling

Climate Monetary Policy Design and Modelling

Cordelia Onyinyechi Omodero* Philip Olasupo Alege

Department of Accounting, College of Management and Social Sciences Covenant University Ota, Ogun State 1110001, Nigeria

Department of Economics and Development Studies, College of Management and Social Sciences Covenant University Ota, Ogun State 1110001, Nigeria

Corresponding Author Email:
16 August 2022
23 September 2022
4 October 2022
Available online: 
28 February 2023
| Citation



The significance of green monetary policy design in the face of current climatic issues has been investigated. The study considers the perspectives of other researchers in previous studies while focusing on the Nigeria situation and monetary climate policies in the country. The study's goal is to put current monetary policy instruments to the test and check their alignment with climate fluctuations and policies. The analysis spans the years 1990 to 2020, utilizing data from the World Development Indicators and the Central Bank of Nigeria's statistics archives. Various analytical studies are performed, and the monetary policy tools used are individually assessed to validate their efficiency in reducing climate change. The study applies ordinary least squares methodologies, indicating that the Central Bank's money supply and monetary policy rate processes match with climate change monetary policy adaptation. As a result, the country's money supply and interest rate are environmentally beneficial. Nonetheless, the analysis concludes that inflation and exchange rates are unimportant throughout the time period under consideration. As a response, the research recommends that the government, through its financial institutions, completely implement monetary policy changes in favor of climate change in the country. The research also proposes that the authorities aggressively seek green financing of ecofriendly technology using green bonds, which are currently on the market. The budgeting system is critical for monitoring the green fund's administration and effective application to green initiatives.


green monetary policy, climate change, ecofriendly technology, green bond, inflation, JEL Classification codes: O23, Q55, Q55, Q57

1. Introduction

Concerns about climate change have required an urgent assessment of monetary policy and flexibility to alleviate the current global warming crisis. Environmental integrity is presently a crucial matter in the global setting, as well as a major political stress that demands attention from all economic machineries. Stressing on environmental integrity, it is all mechanism put in place to ensure that human habitation is safe from pollutant and other health hazards. Environmental integrity is very necessary because it assures humans and all living things of safe water and clean air. Financial system and anthropogenic global warming interact to impact macroeconomic performance, linking policies and results in one arena to the significance of the other [1]. The study [2] stresses the need to evaluate the economic and financial parameters that will be used to account for the changing climatic conditions on financial indicators which includes output, price increases, and joblessness, among others. Also, the study [2] urges stakeholders to examine the level of monetary devices directly and indirectly vulnerability to climatic threats. Among the various ideas that have evolved is a modification of financial policy in favor of ecological preservation. Traditional monetary policy, as applied in some emerging nations, may be incapable of meeting the economic and financial needs required to handle the current weather alteration trepidations. Central banks throughout the globe, as well as global environmental partners, have advocated for green monetary measures to help improve weather conditions and facilitate nations’ speed of wealth creation [3-6]. Given the scarcity of monetary backing, optimal distribution of subsidized funds is recommended to optimize Greenhouse gas decreases per unit of currency spent [7].

The majority of evidence on rising temperatures and financial regulation has been on the capital adequacy effects and the transitioning concerns caused by climatic intervention strategies [1]. Improved high prevalence of weather mishaps may determine the growth or intensity of financing substitute, with proof that increasing insurance claims [8] and collapsing housing costs [9] after major catastrophes pose severe liquidity issues. Furthermore, Climate finance figures are sometimes portrayed as "make-or-break" problems in international climate change discussions [10]. The use of cost-benefit analysis is thought vital for developing monetary and non-monetary regulatory measures for climate change [11]. The publishing of climate finance figures has become an opportunity for many industrialized nations to examine government assistance and climate policy [10]. Drops in private banking transfers [12]; sluggish family and organization accounting records [13]; accelerated durable risk-aversion inclinations as a result of exposure to environmental hazards or weather extremes [14]; and elevated main ramifications are among the real danger elements for financial operations succeeding chronic or severe atmospheric breakdowns [2].

Boneva et al. [15] emphasize that man-made global warming is anticipated to have an impact on central banks' capacity to meet their low and stable inflation responsibility in a range of methods. Changes in climate may hamper banks routine business activities as well as those of their customers [16]. Besides, whilst currency institutions are trying to include climatic transitioning issues and hazards into investor behavior, a variety of obstacles are impeding investments to promote coherent migrations to low-carbon economy from progression [17]. Importantly, limited evidence, commercially relevant indicators, and statistical models to monitor temperature transformation threats continue to be major restraints for banks and government establishments, necessitating a stronger focus on policy concerns [17]. On the other hand, assessment of harmful emissions as part of banks' normal risk controlling and industry design phases will enable banks to safeguard the institution while also benefiting the society [16].

Money or capital to facilitating the switch to a low-carbon and tolerable weather patterns society is very critical [18]. According to Breitenfellner and Pointner [19], extreme weather can also have an impact on the diffusion mechanism of financial procedure to the productive economy, because when monetary authorities modify their pecuniary programme standpoint, they fall back on financial intermediation to transmit their strategy instinctual to market participants. Monetary policy has typically been viewed as unimportant in protracted climate action measures. Lately, the money supply mandate of monetary authorities has been added to the mix. Interest has been devoted to the responsibility of financial regulation as a whistleblower to the fundamental shift that will dramatically affect the ecosystem in which central banks run, as well as to the potential input that pecuniary blueprint may make to resolving ecological concerns [15]. This necessitates assessing the potential pathways via which financial system and weather disruption interplay. The importance of environmental integrity is emphasized in this enquiry and it requires monetary policy adjustment to attain the required level which guarantees an ecosystem that is pollution free.

This study aims to determine the influence of monetary policy on climate change. Also to evaluate the need for new financial policy design and modelling based on the outcome of this current investigation. The study comprises five sections which include the introduction, review of literature, materials and methods, data analysis and the conclusion.

2. Review of Literature

Climate change policies in Nigeria

In addition to the existing environmental policies which include: Nationwide Variation Stratagem and Design of Feat on Weather Alteration for Nigeria, 2011; Countrywide Restorable Oomph and Energy Proficiency Course of action, 2015; State Gas Programme, 2017; General Biodiversity Strategy and Action Plan, 2016; State Strategy on Ecological matters, 2016; Countrywide Microclimate Modification Plan and Return Policy, 2012; National Policy on Drought and Desertification, 2007; Great Green Wall for the Sahara and Sahel Inventiveness National Tactical Accomplishment Proposal, 2012; National Healthiness Dogma, 2016; and Nationwide Aquatic Procedure, 2012. Nigeria has implemented a variety of strategies, approaches, and new initiatives aimed at tackling the national transformation threat of climate change, as well as incorporating change mitigation control into the nation's macroeconomic development efforts [20]. The primary expansion plans that provide vision and policies for the advancement of weather patterns and resilience activities comprise: Reconstruction And development Plan to be completed from 2017 to 2020, The Revolution Framework organized from 2011 to 2020 and Perception which was arranged to take effect from 2020.

Finance armament in Nigeria

Minimizing and adaptation of the climate crisis in Nigeria would be prohibitively expensive, complicating the nation's industrial progress [20]. According to the Federal Ministry of Environment, the country's Nationally Determined Contribution compliance would cost around $142 billion over the next decade [20]. The administration understands the need of enhancing the structures for garnering regional and abroad finance for minimal and weather patterns prosperity. Reaching the aims of the maintainable expansion objectives, as well as improving job creation and poverty decrease, is heavily reliant on appropriate, prompt, and consistent financing for climate-related initiatives. Nigeria recognizes the enormous chances it has to develop a more effective climate financing structure by using its worldwide linkages and connections [20]. Thus, the study [20] has stated that the primary policy goal is to activate and integrate national climate financing mechanisms with global ones, such as the Global Environment Facility and others made accessible through private-sector arrangements (countrywide, provincial and intercontinental monetary organizations). Nigeria will embark on a major climate money mobilizing effort, as well as increased investment in long-term climatic funding.

In further response to the climate distortions, the Nigerian government has offered Green Bonds as a groundbreaking and nonconventional ways of obtaining funding, and has published the regulations for the Debt Securities, which aim to raise approximately $248 million7 in climate finance to promote federal initiatives throughout the next decade in priority components [20]. Green bonds are gaining popularity throughout the world as investors search for long-term, lucrative investments [21]. Appropriate climate change policy boosts the legitimacy of ecofriendly resources and promotes self-sustaining, prudent, and impactful investment, which promotes people's welfare while generating monetary advantages [21]. The vital components considered for the green bond financing include: Renewable energy sources (sunshine, air currents, and hydroelectric), Clean energy, Long-term sewage treatment, Long-term land usage, Environmental protection, environmentally friendly mobility (train line, transit systems, and vehicle mass transit plans) and Long-term water supply [20]. The Central Bank will have the responsibility to manage the green bond and to ensure the all terms and conditions for the ecofriendly bonds are well enshrined in the monetary policy of the nation. Another responsibility that must be tightly recognized is the money supply for the environmentally friendly projects funded by the bonds.

Climate change, monetary policy, inflation and interest rates

Financial system may have a significant influence on the overall results of pollution prevention policies and heat waves occurrences [1]. For example, if constantly and consistently soaring costs caused by carbon constrictions evoke the monetary system to elevate interest rates to slow price level, this would worsen the collapse in real output caused by the greenhouse gas regulation, potentially reducing output growth, jobs, and social assistance roughly equivalent to other different manners a monetary authority might respond [1]. Moreover, if the market cost of biomass continues to grow, pay bargaining may become more difficult, for illustration, if employees foresee a drop in the value of their salaries. Inflation is one monetary policy instrument that central banks will have to deal with in financial strategies to cut down fumes. Few existing studies have buttressed the response of inflation to climate distortions. For instance, Heinen et al. [22] discovered that flooding and cyclones devalue the currency in 15 Caribbean nations. Mukherjee and Ouattara [23] studied the flow effect of temperature disruptions on rising prices, which is a crucial policy parameter for most financial institutions. From 1961 to 2014, the study looked at both advanced and emerging economies. The findings revealed that climate fluctuations caused price upturns in emerging regions that lasted for so many decades after the original jolt. The study of Parker [24], on the other hand, demonstrates that the influence of catastrophic events on rising prices varied according to the kind of catastrophe and the content of the inflationary metric. Two case analyses by Abe et al. [25, 26] also addressed the problem of natural catastrophes and pricing. In line with the study of Laframboise and Loko [26] in a case analysis of seven countries, mishaps tend to be connected with a rise in inflation in some nations.

Other empirical findings on monetary policy and global warming

Dafermos et al. [27] assessed and validated global warming, pecuniary soundness, and money supply using metadata and scenarios from 2015-2115. There were four significant outcomes. Firstly, through depleting company capital and decreasing earnings, environmental issues was anticipated to steadily worsen interbank borrowing, due to a high rate of delinquency that might hurt both the financial and non-financial industrial sectors. Secondly, investment restructuring may result in a slow drop in commercial treasury yields. Thirdly, price volatility may have a negative impact on credit expansions and ecofriendly wealth creation, with negative publicity implications on climate change. Lastly, enacting a sustainable financial strategy might lessen weather patterns economic uncertainty while also limiting greenhouse effect. As awareness in fighting climate change or adopting sustainable financial regulation is growing, monetary authorities are keen to retain markets impartiality. Nonetheless, there is proof that the markets promote carbon-intensive businesses. When it comes to the reality of adopting a carbon pricing framework Narassimhan et al. [28] utilized 8 nations, to highlight what was functioning, what wasn't, and why. The research found that even with a low emissions trading scheme, there is the possibility for a "dual windfall" in fume cut if the restriction stiffens throughout a period and the percentage of the bidding profits is invested back in other emission control programs.

Economides and Xepapadeas [29] investigated quantitative easing in the extreme weather events to determine if money creation should adjust for the predicted consequences of climate change. The prototype was simply calculated using standard hyperparameters and eurozone budgetary facts. The outcomes, which were resilient to a great amount of susceptibility evaluations, revealed that money supply had important repercussions. Schoenmaker [30] devised a strategy for shifting the European Central Bank's (ECB) portfolio and guarantee structure to low-carbon investments. A moderate tilting technique cut greenhouse gases in the ECB's commercial and banking bond holdings by more than 50%. The study demonstrated that a low-carbon allotment may be implemented without interfering with the monetary strategy diffusion mechanism. By investigating the interplay of financial regulation and global warming as they collectively affected broader economic consequences, McKibbin et al. [1] surmised that structural reforms to changing climate could have critical repercussions for financial markets and vice versa. They further stressed that, due to the seriousness of aggressive de-carbonization, these monetary strategy realms should be introduced together more formally and much more skillfully.

Qingquan et al. [31] assessed the influence of monetary policies on CO2 emissions together with controlling income levels, repatriation, urbanism, oil and coal, and intellectual resource in key Asian nations from 1990 to 2014. The co-integration checks, panel fully-modified, and panel dynamic least squares approaches were used to examine the data. Most of the study results revealed a long-term beneficial link between loose monetary policy and CO2 radiation. The paper disclosed that a currency depreciation was an efficient way to reduce CO2 productions while advances in human capital had a beneficial influence on CO2 discharge reduction. The study also revealed that payments and energy sources were important predictors of CO2 secretions. Mughal et al. [32] studied the effects of fiscal and monetary rules on climate conservation in ASEAN countries between 1990 and 2019. In the investigation, the Panel data regression approach was utilized to analyze long-term and short-term projections at the national and provincial levels. Effective fiscal policy had a positive significant effect on harmful gases, but downturn fiscal and monetary policies had little impact on the atmosphere in the short run.

Wiethe [7] studied the variation in de-carbonization across time-dependent subsidizing systems per unit of currency spent. The research revealed that targeting earlier modifications lowered the likelihood of meeting carbon neutrality while limiting overall Carbon footprints. When opposed to fixed subsidy programs, total Carbon emanations per financial asset spent varied by up to 675 percent. Mahmood et al. [33] investigated the influence of monetary and fiscal policies on greenhouse gas emissions in Gulf Cooperation Council economic structures from 1990 to 2019. The analysis found that in the long-term, velocity of money had a detrimental effect on border region toxins and consumption-related smog, but had a favorable impact in the short term. As a result, the research proved that it took a while for quantitative easing to have a constructive climate footprint on the Gulf Cooperation Council territory.

Pradeep [34] used yearly data from 1971 to 2014 to study the influence of monetary policy on Carbon dioxide emission while adjusting for incomes, commerce, overseas investment, and systemic discontinuities. According to the data, borrowing costs have a favorable connection with pollutants in both the short and long run. This revealed that the current financial system was inadequate for long-term productivity. As a result, the research proposed integrating ecological concerns within the structure of the central bank. Furthermore, trade was shown to be inelastic and only marginally reduce greenhouse gases, but FDI was dynamic and highly harmful. Bhowmik et al. [35] evaluated the influence of monetary policy ambiguity on carbon pollution in addition to other characteristics such as fiscal and trade openness policies. The interactive ARDL was used in the study, which revealed, among other things, that monetary policy volatility increased Greenhouse gasses.

Green monetary policy is a fresh study area which is yet to gain the attention of researchers in the African regions. The studies reviewed failed to consider the Sub-Saharan African regions which includes Nigeria. This study fills the existing gap.

3. Materials and Methods

The investigation highlights the importance of green monetary policy in addressing the climate threat challenges posed by extreme toxic gases. In this research, relevant monetary policy devices used by Nigeria's dominant bank were used as parameter estimates. The data for broad money supply are maintained in the Central Bank of Nigeria (CBN) Statistical Bulletin and are conveyed in billions of Naira, whereas the monetary policy interest rate is retrieved in percentages from the CBN website. The World Development Indicators (WDI) were used to obtain inflation and exchange rate data, which were articulated in percentages. The dependent variable (CO2 emissions) is gathered in million tonnes from the World Development Indicators. For ease of usage, the complete dataset was converted to natural log. Histogram normality was employed in the study to first assess the nature of the dataset and its normalcy status. Other diagnostics included the unit root test, homoscedasticity or same variance test, stability test, and check of explanatory variable dependency. The ordinary least squares approach was used to validate the impact of monetary policy mechanisms on carbon dioxide reduction.

The model identified for this investigation is provided below:

$\mathrm{Y}=\beta_0+\beta X_1+\beta X_2+\ldots \mu_{i t}$


Y = Climate alteration agent (CO2);

X = Monetary policy tools

β = Coefficient

$\mu_{i t}$ = Error term

The model above can be explicitly functional in this research as shown below:

LnCO2lt= $\begin{gathered}\beta_0+\beta_1 \text { LnMSSit }+\beta_2 \text { LnMPRit }+\beta_3 \text { LnINFit }+ \beta_4 \text { LnEXGit }+\mu_{i t}\end{gathered}$


Ln = Natural log of variables;

CO2 = Proxy for Extreme weather patterns (caused by Carbon dioxide emissions);

MSS = Money Supply by Central Bank;

MPR = Central Bank Monetary Policy Rate (Interest rate);

INF = Inflation rate (price level volatility);

EXG = Exchange rate.

$\beta_0$ = Coefficient of the parameter estimate; it = time coefficient;

$\beta_1-\beta_4$ = intercept;

$\mu_{i t}$ = Error term; On the a priori, we anticipate; β1 > 0, β2 > 0.

4. Results and Discussion

Figure 1. Trend of data from 1990-2020

Source of data: World Bank and Central Bank of Nigeria

The data pattern presented in Figure 1 demonstrates that orangery fumes (CO2) peaked in 2019 but fell in 2020 as a result of the efforts of different governmental agencies and the revolution framework that went into force in 2020. Again, the Federal Ministry of Environment is doing all possible to kick-start the implementation of key climate measures with the backing of the country's Apex Bank. The money supply pattern demonstrates that the Central Bank is trying its utmost to mitigate environmental risks through money supply. The consistent growing trend suggests that green money policy is necessary and feasible in Nigeria. The key question is whether the Monetary Authority has the ability to manage interest rates, inflation, and currency exchange rates. According to other researchers [24-26, 36], implementing climate monetary policy may cause increases in the prices of goods and services, prompting the Central Bank to raise interest rates in order to force down inflation, which will eventually harm general economic productivity. As a result, adjusting monetary policy to avert climate catastrophes would need pilot testing of all feasible financial options, despite the fact that it has become extremely urgent.

Table 1. Summary of unit root test


Sample: 1990 2020


Levin, Lin & Chut

Im, Pesaran & Shin W-stat

ADF-Fisher Chi-square

PP-Fisher Chi-square


























** Likelihoods for Fisher checks are calculated by means of a uniting Chi-square Dispersal. Altogether, supplementary assessments adopt converging status quo.

The unit root test of the dataset used in this inquiry is shown in Table 1. The results show that the datasets for all variables are stationary at the values shown in Table 1. The Levin, Lin Chut, Im Pesaran and Shin W-statistics, Augmented Dickey Fuller (ADF), and Philip Perron tests have all shown that the datasets are stable at order zero. The datasets were collected during a 31-year period, from 1990 to 2020. With the use of the p-values which is less than 1%, all the stationarity tools indicate that the variables’ statistics are stationary at levels.

Figure 2 depicts a further analytical verification utilizing histogram normality. The outcome validates the datasets' normalcy. The analysis demonstrates that the datasets utilized in this investigation are appropriately allocated based on the result of the Kurtosis which is close to 3 and the Jarque-Bera p-value, which is above or more than 0.05.

Figure 2. Normality check

The diagnostic evaluations for this investigation are listed in Table 2. First and foremost, the model's integrity is validated since the Ramsey RESET test p-value is more than 0.05. Following the conclusion of Table 2, there is also a lack of serial correlation and heteroskedasticity. The standard error of regression implies that the regression forecast is error-free, and there is no autocorrelation based on the Durbin-Watson finding. The Variance Inflation Factor (VIF) shows that all of the predictor variables are smaller than two. This result demonstrates that our model has no multi-collinearity.

Table 2. Indicative checks



Ramsey RESET Test for Stability


Breusch-Godfrey Serial Correlation LM Test


Heteroskedasticity Test: Breusch-Pagan-Godfrey


Histogram Normality Test: Jarque-Bera


Standard Error of regression




Multi-Collinearity test:










Source: Author's calculation, 2022

Table 3 outlines the precise effects of Nigeria's monetary policy instruments on CO2 emissions. According to the findings, the country's money supply has a large positive influence on the country's climate change condition. This finding aligns with the trend analysis in Figure 1, implying that the Central Bank will not have problems with green money circulation initiatives in the future. The finding does not agree with the discovery of Qingquan et al. [31] in key Asian nations that currency depreciation was an efficient way of curbing the effect of CO2 pollutions. However, our results align with the study of Mughal et al. [32] in ASEAN countries which revealed that effective monetary policy reduced the effect of pollution. Second, the results suggest that monetary policy rates have a considerable and favorable influence on climate. As a result, the hypothesis that an increase in the inflation rate will lead to an increase in interest rates has yet to be demonstrated in the context of monetary policy alteration. This means that the country's Apex Bank would handle climate-related financial concerns with restraint and caution. However, the findings of this analysis reveal that inflation and exchange rates have no effect on the climate change scenario throughout the time period under consideration. The firmness test with CUSUM (Figure 3) and the validity test with CUSUM of Squares (Figure 4) demonstrate that the model is both firm and valid. As a consequence, the results are trustworthy.

Table 3. Regression outcomes

Dependent Variable: LN_CO2



Method: Least Squares



Sample: 1990 2020



Included observations: 31





Std. Error








































S.E.of regr.









0.00000 ***




Durbin-Watson stat










Source: Authors' computation, 2022

*** Significant @ 1% level

Figure 3. Model firmness assessment

Figure 4. Model validity check

5. Conclusion

Following the global climate issues at stake, the research examined different potential responses by Nation's Dominant bank to rising temperatures. Strategies vary from security mechanisms to many more creative initiatives to reduce climatic alteration and promoting green financing and the switch to structural reform. Monnin [37] states that preventative steps to shield central banks' capital reserves from excessive weather patterns financial distress in their holdings are compatible with discreet peril controlling procedures and the fundamental mission of monetary authorities [37]. The point that there might be restrictions and trade-offs that could confront the banking system when responding to climate issues is inevitable. As a result, given the necessity of bold tackling of climate change and the solid theoretical link between the two methodologies, the study suggests that macroeconomic and ecological policymaking should be studied concurrently. The implication is that climate policy could have major adverse consequences on monetary strategy if it is not well engaged. For instance, if the Apex bank raises interest rates to limit overall price intensification of goods and service as a result of constantly rising of emissions trading, this would worsen the reduction in general economic delivering results by the emissions legislation. Thereby decreasing output, labour, and wellbeing compared to different approaches a monetary authority may respond.

Extreme weather is a danger to pricing equilibrium, hence stronger models, analyses, and planning for challenging decisions in macroeconomic stimulus are required [38]. Financial institutions must examine the dangers presented by climate change to our economy and respond in keeping with their particular tasks [38]. The political repercussions from such financial consequences may generate less motivation for policy initiatives to address climate change. Furthermore, even if greenhouse gas proceeds are reused, a steady increase in the rising value of pollution might emerge into pay bargaining, for instance, if employees foresee a loss in the purchasing power of their wages [1]. In this instance, an ineffective quantitative easing approach might result in a remuneration cycle as individuals find it more difficult to foresee rising and hence lack a key underpinning for inflationary pressures. Thus, unrestrained price movements may result in an expensive, long-term hyperinflation scenario.

To abate the climate risk through green monetary policies, green technology should be lavishly sponsored. This is achievable through green financing platforms. Sustainable financing has the potential to be a major transformational force, so there will be no migration to a low-carbon society without additional business participation, from giant organizations to Enterprises. In this scenario, fiscal delegation should be aimed at enhancing ecological integrity [39, 40]. Green finance necessitates an open innovative culture: ecofriendly credit, greener credit derivatives, ecofriendly protected securities, greener derivative products, ecofriendly crowdsourcing portals, and sustainable wealth management should all be encouraged, with the goal of retaining monetary sustainability in mind [2].


This research is funded by Covenant University Ota, Ogun State, Nigeria.


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