#25 Let’s heat the debate but keep our heads cool

Hi all,

It was a refreshing summer for me, at least. I tried to concentrate on some more extended writing and swimming - a perfect combination, but I don’t know what was the most refreshing part. Some of the writings will be public later, and for the swimming, I don’t think most of you care. At least I enjoyed it.

Now that everything has started again, I want to pick my newsletter. And I must be honest: it will not be as frequent as I would like. But that’s life: it is never as perfect as you would wish (but on the other hand, if it reaches the perfectionism that you have imagined, you’ll probably find out that it is also not perfect…and you’ll strive for something even more perfect, and then…well, you know).

My mentally refreshing summer was in the midst of a record-breaking summer. We are becoming desensitized to this kind of news; for the past 13 months, each month has set a new record for global temperature . There’s a fair chance that we will exceed the 1.5C threshold outlined in the Paris Agreement by the early 2030s. We should all feel the urgency of a warming planet to expedite the energy transition. However, heat stress appears to be leading to inaction.

I will discuss climate finance in this newsletter. Despite the growing crisis, we still need to mobilize the necessary capital to achieve the energy transition. And there is a lot to do: fighting climate finance distractions, understanding how we can mobilise capital in the right direction and, more importantly, stopping financing what should be phased out.

We need to heat the debate but keep our heads cool.

Enjoy

Distraction

I notice a shift in the conversation. Call it a distraction. Instead of discussing divestments from fossils, climate pledges and all other complex stuff (that hurts business), we have two considerable ways in finance to say that you do a lot on climate finance or expand your business. In the run-up to COP29 not a good sign (and some are already predicting that it will be a failure ). The two strategies that I see are transition finance and sustainable (or climate) finance innovation:

• Transition finance: In mainstream terms, this is everything that smells less brown at a company level. I tried to show it in a so-called transition curve (see below). If a high-emitting company goes from A to B, it is called ‘a transition’. However, it is not near the goal that should be reached. Client Earth has an excellent paper about Transition-Washing. Transition-washing occurs when transition finance is provided to entities that are not, in fact, or have no meaningful intention to transition their business to net zero greenhouse gases at the pace required to achieve the Paris Agreement temperature goals.

This transition finance is different from financing a transition. You start scaling a societal transition by funding companies or projects contributing to that transition (from C to D). And I mean genuinely contributing with clear ideas on becoming entirely sustainable. This can sometimes go from highly polluting to sustainable, but there are few transitions where the winners of the old regime were also the champions of the new one. So, for a large part, it is a distraction.

• Innovative climate finance: Climate finance encompasses various financial instruments to address climate challenges. These include grants and loans from public institutions like governments and multilateral funds, green bonds, carbon taxes, and private investments. All these financial resources are directed either toward mitigating the impacts of climate change or enhancing resilience and adaptation to the new realities we face. This seems good. However, there are two problems with it: it is, in general, very, very small, and you can question if it, in the end, helps the transition enough. Below, you’ll find my more elaborate analysis of this.

So, if financial instruments and a new term (transition finance) do not work, how can we progress? The answer is (as always) a more fundamental shift. We have to look at the structure of the financial system to make it work in favour of an energy transition.

This article on the World Resources Institute website already gives some clues. A quote:

There’s no formal governance relationship between climate finance and the global financial system. But climate finance, whose principal objective is to address the impacts of climate change, must use the global financial system, which facilitates the flow of climate finance and allocates resources for climate-related activities. Whether it’s a loan made by a development bank to build a solar farm, or a hurricane-battered country seeking payment for damages through sovereign insurance , these “vehicles” travel through the global financial system.

The trend in the last few years was that supervisory authorities (championed by the ECB) have done much on climate risks. The better risks (physical and transition risks) are recognized, the more capital would be directed towards the energy transition, is the idea. But that is probably not enough; mitigating risks differs from contributing to a solution. What many of us know in sustainable finance is that if you want to build a low-carbon equity portfolio or a low-carbon business banking portfolio, you’ll be more likely to end up with sector biases to services and tech and not a bias towards climate tech or a protein-transition portfolio or circular economy.

So, more is needed. Many look at financial institutional governance, with post-war representatives still at the International Monetary Fund and World Bank.

For example, the Bridgetown initiative , which makes good points:

• Stronger Representation: Increase the voice of developing countries in global financial institutions.
• Debt Sustainability: Reform the IMF and World Bank's Debt Sustainability Assessment to include climate investments.
• Credit Rating Overhaul: Revise credit rating methodologies to address biases against vulnerable countries.
• Concessional Financing: Expand eligibility beyond GDP per capita to include climate vulnerability.
• Global Carbon Pricing: Develop a just global carbon pricing framework.
• Liquidity Support: Enhance access to early intervention liquidity and extend IMF financing options.
• Debt Resilience: Incorporate natural disaster clauses in all debt instruments by COP29.
• Increased Financing: Mobilize $1.8 trillion annually for climate action and SDGs, with significant private sector involvement.
• Innovative Funding: Establish new financing sources, including levies on fossil fuel profits, and fully capitalize the Loss and Damage Fund.

I think this will not be agreed upon in Baku…

Ultimately, it is more about transforming the financial sector to mobilise capital to finance the energy transition.

For a longer version, read my substack

Thanks for reading,

Be kind

Hans