Can finance beat climate change?

My professional life consists mostly of working with central bankers, financial regulators, finance ministers, large investors and those who work for international institutions such as the International Monetary Fund (IMF).

As one might suspect, my social life also revolves around these people – perhaps far too much.

In the evenings, many central bankers and their ilk wax lyrical about impending climate change and how worried and depressed they are about the failure of political leaders to tackle it.

Finance ministers express frustration with the United Nations and long-term investors such as pension funds, and in turn investors such as sovereign wealth funds blame the lack of policy guidance for a lack of progress on tacking climate change.

Financial regulators worry for their grandchildren, and staff at the IMF fret about the need for climate action.

But come 9am the next morning, these worrywarts and concerned citizens forget about climate change.

For most part, these diligent professionals – finance ministers, central bankers, regulators and investors do not consider climate change to fall within their job description and mandate.

This remarkable compartmentalisation has been reinforced by the failure of climate activists to reach out to financial policymakers.

Things are changing

However, there are signs that things are changing and changing fast.

Mounting evidence of climate change and increasing estimates of how large a financial, economic and human development impact this will have is making it ever harder even for the most conservative central bankers so forswear responsibility.

Financial regulators have begun to seriously think through the financial impact of stranded assets. Finance ministries are waking up to the extensive cost of fossil fuel subsidies and the tremendous opportunity offered by carbon and other environmental taxes.

Long-term investors such as sovereign wealth funds are waking up not just to the financial risks posed by exposure to fossil fuel investments, but also to the tremendous financial opportunities offered by renewables and energy efficiency.

An increasing number of central bankers, finance ministers, regulators and long-term investors are beginning to understand why incorporating measures designed to tackle climate change into their thinking is a core part of their day job overseeing and running the financial system.

Equally, environmental activists have belatedly seen the urgent need to engage financial policymakers in their work and have built up financial expertise. Carbon Tracker is a good example of such an approach.

Given the huge in-built bias the financial system has against the green economy due to its short-term perspective and failure to account for externalities, any improvements on how it is regulated and overseen can unlock huge investments for the green economy.

Simultaneously, more focus on the huge financial risks posed both by climate change and the policy actions designed to mitigate it can help significantly reduce the hundreds of billions of dollars that are still being sunk into fossil fuel investments every year.

It is now clear to all that without proactive action by central bankers and regulators and those making investment decisions, funds for the green transition will not materialise. Carbon Tracker’s work on the “carbon bubble” has been influential in putting the financial risks of fossil fuel investments on the agenda of financial policymakers.

This report highlighting the inherent biases of the financial system against renewables and energy efficiency has caught the interest of financial regulators and central banks in the EU. Carbon stress tests are now in the pipeline in several places. Our work has triggered a debate on how sovereign wealth funds should divert investments away from fossil fuels towards renewable investments, particularly in the developing world.

How to join the dots

But by far the most important work in connecting the normally disconnected worlds of financial policymakers and environmental activists is being done by the two-year United Nations Environment Programme Inquiry on a Sustainable Financial System, launched in 2014.

The Inquiry has already made rapid progress in working simultaneously with central banks, financial regulators and finance ministries on the one hand, and investor groups, banks and environmental activists on the other. It has also helped drive climate change up the agenda of the IMF amongst others.

The Inquiry’s work has helped fossil-fuel importing countries such as India reach the conclusion that the central bank cannot deliver on its inflation and financial stability mandate unless it champions renewables to reduce fossil fuel addiction.

The recent promising action by India’s government to rapidly scale up renewables is the direct result of such analysis and efforts to raise awareness.

The Inquiry’s unique approach of combining cutting-edge intellectual work on policy ideas to make the financial system more friendly to green investments, with case studies grounded in a number of developing and developed economies, holds great promise.

The launch of working groups at the People’s Bank of China to improve green credit guidelines, develop environmental stress tests and encourage green bonds is a demonstration of the potential of such an approach.

This work is complementary to the on-going efforts to reach a globally binding deal to curb greenhouse gas emissions under the aegis of the United Nations Framework Convention on Climate Change.

The kind of tweaks to financial oversight and investment paradigms being developed by the Inquiry will help catalyse a greening of the financial system and could help mobilise the hundreds of billions of private capital needed annually to meet any binding commitments that are agreed in Paris at the climate negotiations this year.

That is why this interim UNEP report on ‘scalable actions to green the financial system’, launched in Davos last week, is essential reading for everyone involved in financial policymaking or climate negotiations, and also for the rapidly expanding army of those involved in both.

Sony Kapoor is a World Economic Forum Young Global Leader, Managing Director of Re-Define, and Special Adviser to the UNEP Inquiry.

Republished from Re-Define.