Monetary Policy, Transition Risk, and Green Lending

Manthos Delis, Maria Iosifidi, Panayotis G. Michaelides and Steven Ongena

No 21128, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We develop a dynamic model of bank lending to study how transition risk shapes the interaction between environmental regulation, monetary policy, and green credit allocation. Banks allocate lending between green and brown projects according to risk-adjusted lending margins, while environmental regulation endogenously affects the repayment risk of brown borrowers. The model generates state-dependent monetary-policy transmission: identical funding-cost shocks produce different lending responses depending on the level of transition risk. We identify a threshold level of transition risk at which monetary-policy transmission changes qualitatively and show that environmental regulation affects green lending both directly, through borrower risk, and indirectly, by altering the effectiveness of monetary policy. These effects operate along the transition path: the long-run green lending share is anchored by the emissions target, while regulation and monetary policy govern the speed and composition of the adjustment.

Date: 2026-02
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