N°26-19: Green Lending

We develop a dynamic model of bank credit allocation between green and brown projects under regulatory and monetary distortions. Banks optimally adjust portfolios as regulation reduces the expected returns and success probabilities of brown projects, while monetary policy shapes funding costs. These interacting channels persistently tilt lending incentives, reallocating credit toward greener activities and lowering emissions. The framework identifies which combinations of regulatory pressure and monetary support most effectively accelerate the green transition. Results remain robust with forward-looking banks, adjustment costs, and alternative policy rules. We further analyze how persistent regime shifts in regulation and monetary policy reshape the speed and composition of bank balance-sheet reallocation.