Banks could hold the key to an equitable climate transition

The climate transition is a vital global endeavour but its benefits and costs must be equitably distributed throughout society. In addition, unintended environmental consequences as a result of climate action must be mitigated. The achievement of this is a just transition and banks are uniquely positioned to enable it.

Banks have a significant responsibility for financially fuelling net-zero progress, which will require an estimated annual investment of $3.8 trillion. This central role also means that banks are positioned to help ensure equitable climate transition.

As well as the widespread positive social impact banks can make in this role, a just transition also has important business implications for financial institutions. These include maximizing the positive dividends of the transition, reducing regulatory and reputational risk, accessing government incentives and funding and unlocking new business opportunities.

There are many ways a well-intentioned climate action by banks can result in unintentional negative social impacts. For example, when a bank incorporates climate risk into credit risk models, low-income communities in climate hazard-prone areas can be severely disadvantaged.

With limited access to the necessary finance, making homes more resilient and energy efficient would become harder. This setback also negatively impacts a bank’s net-zero plans, as they will have higher carbon footprint mortgages on their books. New guidance, regulation and policy are now beginning to emerge worldwide to prevent such outcomes.

The Inflation Reduction Act in the United States and the EU’s Green New Deal, a €17.5 billion just transition fund, are key policy examples incentivizing the contribution of social benefits through climate action. New just transition guidance is also expected from the UK, with the Transition Plan Taskforce announcing that details will be shared this year. Meanwhile, just energy transition partnerships have arisen in markets like Indonesia, South Africa and Vietnam.

Industry groups such as the Glasgow Financial Alliance for Net Zero (GFANZ) are also joining forces to support a just transition and are putting forward a framework for net-zero transition planning. This resource directs organizations to address foundational principles, implementation, engagement, metrics and governance.

Based on a recent BCG survey, 90% of banking executives believe it is extremely important to consider the social impacts of climate activities. However, just 33% stated that it currently impacts their decision-making process. With so many yet to take targeted action, we have identified the key areas where bank activities can support a just transition.

Using the comprehensive GFANZ framework as a basis, banks can make a concerted start by addressing key questions associated with each category. This approach will ensure that the critical social considerations are addressed and integrated into climate transition plans.

To effectively utilize the strategies within the GFANZ framework, banks must deploy them at the level of individual business units. In the case of wholesale and capital markets, incorporating social considerations into climate financing is a key responsibility. This effort will involve ensuring that the recipients of their financing services are also acting on just transition principles.

Retail banks and SMEs have a major part to play in providing access to offerings like green mortgages and loans and preventing low-income borrowers from becoming disadvantaged.

The likelihood of this negative outcome can increase as climate risk is factored into credit processes. Asset and wealth managers will be tasked with influencing how large companies and public sector organizations integrate the just transition imperative into operations.

Putting people and communities at the heart of climate policies actually has the potential to drive greater climate action momentum and buy-in. Doing so ensures that the climate transition is ambitious enough to hit net-zero targets and human-centred enough to deliver a positive social impact.