The finance world finally goes green?

When I studied finance and banking 15 years ago and at the same time was interested in environmental problems there seemed to have been no link between the two worlds. Some sprouting initiatives emerged before the 2008 crisis, but quickly got lost in the aftermath of securing financial stability. Yet 30 years after the Bruntland report there seems to be a mass awakening in the finance world to the challenges of sustainability. A notable exception is insurance – a business sector already dealing with the increasing physical damages related to climate change events and developing some of the most advanced climate risk modeling.

The pressures on the finance sector are mounting from all sides: government, society, and clients. The 2008 financial crisis and its aftermath with bail-outs and executive bonuses has impaired the public perception of the finance industry from which it still has not recovered. Questions are being asked if the measures taken in the aftermath of 2008 have been sufficient to ensure the stability of the financial systems in the future. In January 2018 Thomas Jordan, the chairman of the governing board of the Swiss National Bank, gave a speech that reminded a lecture on banking 101.

Moreover, the finance industry already finds itself to be in need of re-assessment of their risks in the context of decarbonization strategies. The banks report some of their clients responding emotionally on the need to contribute to sustainability transition. More and more shareholders raise carbon disclosure initiatives.

The voices of encouragement are mounting.

The tone has been set by the UNFCCC Paris agreement in 2015, which draws the attention to one important precondition success - “Making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development” (Article 2). In 2016 the UN has published a list of fixes needed to align the finance with the sustainable development goals. G20 summits are now being informed by the G20 Sustainable Finance Study Group in order to facilitate and speed up the emergence of green finance frameworks.

United Nations Secretary-General Ban Ki-moon stated that achieving sustainable development goals would cost trillions of dollars annually, but the financing challenge would not be insurmountable. As Mireille J. Martini from Finance Watch commented at the 2nd Finexus conference, it is not about finding this additional amount of money – it is about shifting the financial flows to different ends. For instance, the value of the blockchain currency bubble is large enough to change the humanity’s trajectory towards the Sustainable Development Goals.

A few initiatives are gaining speed and raising interest in this regard.

A global level initiative comprised of insurers, investors and lenders – Task Force on Climate-Related Financial Disclosures (TCFD) works to develop voluntary climate-related financial disclosures code.

Acknowledging that public financing is not enough to finance the sustainability transition we need, the European Union is starting to strategize on different frameworks to incentivize and divert private investment towards the sustainability transition enhancing projects. On January 31st, 2018 the EU’s High Level Expert Group on Sustainable Finance published the first report on how the European Union may proceed in steering towards the change needed in the finance sector.

A new ISO standard is in the process of development – ISO 14097 on assessment and reporting of climate change risks of investment.

California, a global pioneer in environmental legislation, has urged its public retirement funds to divest from coal (Senate Bill 185, 2015) and report on climate-related risk of their portfolios (Senate bill 560, 2017).

The French energy transition law (No 2015-992) has special globally pioneering provisions for the finance sector. Mandatory reporting on environmental and social issues has been introduced for listed companies, investors and lenders.

The Swiss Federal Government commissioned a study on the alignment of the Swiss pension funds and insurance companies with the global climate change agenda. Currently the Swiss pension funds and insurers are on a 6 °C pathway collectively. For now.

You know energy transition is happening, when the chairman of a major Central Bank speaks about climate change. Mark Carney outlined three risks to the financial actors and the finance system stability in relation to climate change. The first one is a risk of a physical damage due to climate change induced climatic events. The second one is liability risk – legal responsibility for climate change damages in case they get contested at some point. And lastly policy risk – the value of assets is at stake in the context of an emerging or changing climate change policy.

A smooth gradual transition is needed, because an “abrupt resolution to the tragedy of the horizons is in itself a financial stability risk. The more we invest with foresight, the less we will regret in hindsight”. Central Banks of Germany and the Netherlands seem to have also joined the effort of balancing 2% inflation with no more than 2 °C of climate change.

Last but not least, the most surprising to find is the unwillingness of the academic finance and business community to engage with climate change and sustainability issues.

To conclude, Graeme Maxton (Club of Rome) summarized well the two key areas of interventions needed:

 “When I studied economics there were two rules. One – resources are scarce. And we don’t think like that now. And second – to try to achieve Pareto optimum, to try to get the best possible outcome for the greatest number of people, so to think about welfare. And we don’t do that anymore. We need a reform of our economic system and I don’t think that is terribly difficult. But more than that we need to rethink the role of the state. For the last 30 years we thought the state should be minimized, but we can’t address the problems that we face through the market. So we need to have a strong state, we need to think much more carefully about the role of the state and how to have good people in the government” (Key panel session, 2nd Finexus conference, 1:08).

Post scriptum

Action point. Inquire your bank/pension fund about the use of your savings and how aligned it is with the global climate change and sustainability agenda.

Climate finance infographics at climatefinancelandscape.org

Thank you to the Finexus Center of University of Zurich for conference invitation!