Financing the green transition

Recent events such as volatile weather and the war in Ukraine have put the spotlight on energy markets. COP26, the 26^th United Nations Climate Change Conference, focused very much on the role of finance in helping to transform and decarbonise the economy, especially the energy sector, and recent events should not distract us from those goals.

COP26 – The role of the financial sector in reaching net zero

COP26 was held in Glasgow last November, and it brought together governments, the private sector and civil society in an attempt to secure binding commitments to slow global warming.

In Glasgow, the World Leaders Summit of the first two days was followed by a ‘Finance Day’. The Finance Day was deliberately placed ahead of thematic days on the energy transition, transport, shipping etc., as it is acknowledged that without finance, the wider economy transition cannot function. We welcome that the incoming Egyptian COP27 Presidency will also include a Finance Day as one of the thematic days for focused discussions.

Participants agreed the way forward was for governments to partner with the financial and professional services eco-system, including the International Monetary Fund. The banking, insurance and asset management sectors committed to $130tn of private capital to finance the steps needed to reach net zero by 2050. For its part, the finance industry had already set up the Glasgow Financial Alliance for Net Zero, GFANZ, bringing together a wide range of globally leading firms committed to making this financing happen.

Maintaining momentum to COP27

Keeping momentum on financing decarbonisation is clearly critical, especially in light of recent events. So the Net Zero Delivery Summit in London in May, halfway between COP26 in Glasgow and COP27 in Sharm El-Sheikh in Egypt in November, marked an important milestone.

Hosted by us at the City of London Corporation, working with the COP26 UK Presidency and GFANZ, the summit focused on the delivery and implementation of key priorities for finance agreed at COP26. Senior international policymakers and private sector leaders were present, including the US Special Presidential Envoy for Climate John Kerry, GFANZ Chair Mark Carney, Vice Chair for GFANZ Public Policy Mary Schapiro, COP26 President Alok Sharma, Egypt’s Minister of International Cooperation Dr. Rania Al Mashat, and Permanent Representative of the UAE to the International Renewable Energy Agency Dr. Nawal Al-Hosany. Discussions covered the current geopolitical challenges to energy security and how the financial sector is supporting net zero delivery across the wider economy. The summit also focused on the vital question of how finance is being mobilised to support transition in emerging markets and secure a just transition to net zero.

Challenges facing the financial sector - how to regulate green finance

As the Summit noted, there is no doubt that the funds to finance decarbonisation exist. Banks stand ready to help their clients build new greener factories and greener supply chains. Insurers are ready to invest in long-term green infrastructure projects.  And asset managers know that investor demand for green investments, such as ESG (environmental, social and governance) funds, is high. But attention is now turning to the regulatory challenges. I see four main threads to this.

• The first is how to ensure financial stability in the face of climate change. For example, insurers may face greater claims for flood and fire damage. This is an issue being looked at by prudential regulators, for instance, by stress testing the capital held by banks and insurers against extreme climate events.
• The second is how to protect investors who want to invest in ESG, for example in green bonds or low carbon funds. Regulators are concerned about so-called greenwashing, or mis-selling, and many of them are working on product labelling rules and disclosure by financial firms. This is really important to maintain investor confidence.
• The third thread is disclosure by corporates, particularly disclosure on carbon use. Many firms do this already, but accounting regulators are now working on mandatory disclosure rules. Both the EU and US have for example recently issued draft proposals. Common standards here would be a massive breakthrough in facilitating the flow of investment to where it is most needed. But a particular challenge is whether emerging markets will be able to handle the more complex reporting standards needed to satisfy these new rules. It would be ironic and catastrophic if new reporting rules ended up deterring investment in emerging markets. To meet international investors' needs for transparent and comparable reporting on climate and environmental matters, the creation of the International Sustainability Standards Board (ISSB) was announced at COP26. In May, the ISSB outlined the steps required to establish a comprehensive global baseline of sustainability disclosures.
• The fourth and final thread is the regulation of ESG data and the ESG rating agencies that provide this data to investors. They play a similar role to that of credit rating agencies in the traditional bank lending markets. Again, common standards could help increase transparency and facilitate investment in decarbonisation. The International Regulatory Strategy Group (IRSG) recently issued a paper on how best to do this (ESG Ratings and ESG Data in Financial Services – A view from practitioners).

Preparing the course for future COPs

The unprecedented level of private sector engagement we saw in Glasgow was helpful and should not be lost, but official negotiations are also of high importance. At COP27, the Egyptian presidency will seek to accelerate global climate action through emissions reduction, scaled-up adaptation efforts and enhanced flows of appropriate finance. The importance of a 'just transition' is growing globally. The G7 and G20 will need to keep all this wave of future regulation under review to ensure that it does not simply increase the costs of investment in green finance. Let us not lose sight of the bigger picture. $130tn can make a real difference.

About the author

Nick Collier joined the City of London Corporation as Managing Director of the Brussels office in March 2019. He was previously Global Head of Government Relations at Refinitiv (Thomson Reuters). Before that he worked at a range of organisations in the financial services sector, including Morgan Stanley and the Bank of England and, until recently, served as Chair of TheCityUK’s Public Affairs Group as well as Deputy Chair of the International Regulatory Strategy Group. Nick is chair of diplomatic engagement at the International Business and Diplomatic Exchange. He holds a MSC in Economics and Finance from the London School of Economics and a BA from Oxford.