How climate finance is helping unleash one of the world’s biggest sectors on our climate change challenges
The finance industry may not be the fastest to react to climate challenges, but it represents a powerful player when it comes to facilitating many of the solutions needed to slow the impact of climate change.
In 2015 the Governor of the Bank of England, Mark Carney, presented a speech on the “tragedy of the horizon,” addressing financial risks for banks and insurers caused by climate change. It was a very public, and needed acknowledgement of the impact of climate change, and a call to action globally. Not long after, the Task Force on Climate-related Financial Disclosures (TCFD), a working group of the G20 that addresses climate change and financial risks, came up with a report on how the financial sector could address climate change related risks through establishing standardized indicators that measure the risk to their borrowers and investees.
This was the reawakening of climate finance, a burgeoning industry approaching the risk to our planet in two ways. First, it addresses risks and opportunities for the financial sector resulting from climate change.
These risks might be physical risks, such as extreme weather events, that affect the financial sector directly. Furthermore, there are regulative risks, such as carbon taxes that might affect the financial performance of borrowers and investees. Then, there are reputation risks for the financial sector resulting from financing activities that have negative effects on climate change. Finally, there are systemic risks. These risks occur because of the change to a low carbon economy that might affect the financial sector as well.
Second, climate finance addresses positive impacts, the financial sector might have on climate change resilience, mitigation and adaptation. Billions of dollars are needed to address climate change, but this money cannot exclusively come from public funding, such as governments. Private finance is needed as well. The financial sector could invest in climate change related projects through loans, project finance and investments. Furthermore, the industry might develop products and services that enable other stakeholders to invest in climate change resilience.
Green bonds are an example for a new financial product that addresses climate change. Green bonds are financial products that are issued to finance climate related projects, such as sustainable infrastructure, low-carbon energy projects, climate change adaptation and more. These bonds are often subscribed by institutional investors, such as pension funds, that need fixed income investments with a green flavour, because they want to mitigate climate related investment risks or because their stakeholders have asked for green finance.
Other climate-related products and services that are also accessible for retail clients are green and socially responsible mutual funds. These products enable private retail clients such as individuals, families and small businesses to invest in climate change resilience as well though a detailed view on the investments made by the funds is needed to guarantee positive impacts.
The change is also being seen in other finance-adjacent industries. Insurance for instance is making efforts to include extreme weather into their risk forecasting. Colleagues of mine here at Waterloo, Jason Thistlethwaite, Blair Feltmate, and the organizations Partners for Action (P4A) and the Intact Centre on Climate Adaptation are working close with industry and government to bring climate awareness and practices to multi-billion-dollar industries.
Overall, it looks like the financial industry has started to address climate change, both from a risk and opportunity perspective. Nevertheless, the total ratio of climate finance compared to all other finance is still very low. Therefore, a consistent climate strategy is needed for the financial sector that accounts all positive and negative impacts of financial products and services on climate change in a transparent way. This enables clients and other stakeholders to invest in climate change resilience and to avoid climate related financial risks.
Olaf Weber is a professor at the School for Environment, Enterprise and Development (SEED), Faculty of Environment, University of Waterloo. His research interests focus on the connection between financial sector players, such as banks and sustainable development, and the link between sustainability and financial performance of enterprises. The research addresses both, risks and opportunities for banks connected with environmental and societal issues. Current research questions he is working on are current and potential impacts of banks on sustainable development and activities that banks may pursue to influence sustainable development in a positive way, the role of voluntary codes of conducts and financial sector regulations on the sustainability performance of banks, how banks are affected by climate change risks, and how social banks and impact investors contribute to sustainable development.
