UN Greenland Climate Change

The melting of ice sheets is accelerating in Greenland. UN Photo/Mark Garten.

This article is brought to you based on the strategic cooperation of The European Sting with the World Economic Forum.

Author: Sonia Hierzig, Project Manager – Banking, ShareAction

Banks are exposed to a number of climate-related risks through the diverse range of sectors they finance. Across the world, they continue to fund high-carbon industries, thus enabling a range of activities that undermine efforts to keep global temperatures rises well below 2°C. Almost all global banks continue to finance coal mining and coal power plants to this day – despite it being increasingly clear that there is no space for new coal in a world aligned with the Paris agreement. A high-carbon future would lead to increased physical risks across most industries due to trade disruption from extreme weather events. At the same time, if the goals of Paris are met, high-carbon assets are at risk of becoming much less profitable very quickly.

However, banks are able to play a positive role by actively financing the low-carbon transition. They have already started to focus attention on the commercial opportunities associated with lending and financial services that facilitate cleaner energy. This needs to accelerate. In fact, it is estimated that in total the world needs to spend $359 trillion by 2050 to avoid catastrophic climate change. Current outlays are still very far from this total.

ShareAction’s latest survey ranks Europe’s 15 largest banks based on how they manage climate-related risks and opportunities. Since the survey, ShareAction has been engaging in follow-up discussions with the surveyed banks. Here is what we’ve learned.

The need for better disclosures from banks is clear and widely accepted …

When it comes to disclosure, few banks would disagree that the climate-related information provided in their financial filings needs to be improved. Following the publication of the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD), and amid mounting investor pressure, there has been little pushback on the demands made around banks’ own disclosures.

Many of the banks surveyed by ShareAction have already made considerable progress in this area – for instance, by publishing sector breakdowns of their loan books or climate strategies. It is expected that all of these banks will include more disclosures in their upcoming annual reports, in line with the TCFD recommendations – although it will likely take several years until full disclosure is achieved.

… but there’s less consensus around concrete actions to take

When it comes to taking concrete action to manage climate-related risks and opportunities, many banks have been more reluctant. This is not to say that there have been no positive developments. Certainly, banks have begun to develop innovative low-carbon products and services – ranging from green bonds and green mortgages to green deposits. Most European banks have also begun to mitigate some climate-related risks by, for example, refusing to provide financial services to high-carbon companies, such as those involved in coal mining or tar sands.

Despite this, the measures taken so far are still not enough to enable us to meet the goals of the Paris Agreement. The reasons banks provide for their inaction are manifold, but the key arguments touch on the legislative and regulatory landscape, a lack of data availability and, most importantly, the ongoing profitability of financing high-carbon companies and projects.

Residents cross the road on a heavily polluted day in Nanjing, China.

Residents cross the road on a heavily polluted day in Nanjing, China.
Image: Reuters

Regulation is important

The right legislative and regulatory measures can support banks in their low-carbon transition. For example, one of the survey’s key findings was that innovative legislation on climate-related disclosures in France was a primary reason for the leadership of French banks on climate-related issues.

At the same time, banks highlighted a lack of such measures in other regions as a considerable obstacle towards that transition. In countries where governments are still supportive of the coal industry, many are claiming that it is difficult for them to distance themselves from the sector.

Some data is still lacking

At present, there is still insufficient data for banks to be able to accurately assess the exact impacts of various climate scenarios on their businesses. This is the case both on a macro-level, in terms of the level of detail within the models used for scenario analysis, and on a micro-level, in terms of the information provided by individual clients on their climate strategies.

Short-term incentives are a challenge

Most of the loans banks extend to their clients are of a relatively short duration – usually less than five years. Within that short timeframe, profits can still be made from providing financial services to high-carbon companies, as in most cases the effects of the low-carbon transition will not yet be felt sufficiently to affect their creditworthiness.

Banks have a central role to play

None of these arguments justify the current lack of action. Large global banks are powerful actors able to influence policymakers across the world. While problematic in many ways, the green supporting factor, which is currently being discussed at EU-level and proposes to lower capital requirements for environmentally friendly investments, is one example of bank-lobbying leading to climate action by those in power.

We do not have time to wait for perfect data and methodologies

Waiting until we develop perfect methodologies, based on perfect data, before taking any action would almost certainly mean failing to meet the Paris Agreement. Even if carried out with imperfect data, an analysis based on the 3-4°C scenario we are currently on track for should highlight how the physical impacts of climate change might affect global banks – and be serious enough to make it obvious that bold action needs to be taken imminently. The lock-in of high-carbon infrastructure, even if still profitable today, has to be avoided.

Continuing to lend money to high-carbon industries in the short term ignores the fact that there will, at some point, be a top to this market. Even if a bank currently has significant exposure to fossil fuels, a forward-looking strategy should recognise that the low-carbon transition will render these sectors much less profitable in the future. What matters are the steps taken today to ensure bank balance sheets are in the best possible shape for the years to come – particularly so, bearing in mind that it takes time to develop and embed processes for balance sheet decarbonization.

While many loans might have quite a short duration, the relationships banks develop with their clients are intended to last for much longer. It is important that banks question which clients are going to remain profitable in the long run, and therefore which relationships are worth developing and maintaining as we head into a low-carbon economy.

The case for banks to go beyond disclosure and take bold climate action has never been clearer or more urgent. The time for making excuses is over – banks now need to step up to their responsibility and use their significant influence over the global economy to create a sustainable future for us all.