Banking in a Time of Climate Crisis

By Lauren Compere, Managing Director

Back in 2014 when Boston Common first launched its Banking on a Low- Carbon Future engagement climate change was an issue associated mainly with high-carbon sectors such as energy and utilities. It was relatively new to throw the spotlight on banks and make climate about financial stability.

A lot has changed since then. The Paris Agreement has given investors the regulatory framework they lacked back then and, unfortunately, the deterioration of our natural environment has seen global discourse turn from ‘climate change’ to ‘climate crisis.

How has the banking sector responded?

Stronger climate governance is a positive

If we reflect on the last five years we can certainly take some encouragement from the step change in climate governance at banks.

In 2014, unsurprisingly, global banks across all regions failed to adequately assess the carbon risk of their lending and underwriting portfolios. This year we found that two-thirds (67%) of banks have adopted a group-wide climate strategy and over 80% disclose information on progressive climate-related public policy engagement. Moreover, nearly three quarters (71%) are standardizing their climate governance and strategy under the framework set out by the influential Taskforce on Climate-related Financial Disclosures (TCFD).

But we are not seeing the action required

However these improvements in the internal management of climate risk are not translating into the scale of action needed to cope with the growing climate emergency.

For instance, although 78% of the 58 banks engaged this year carry out climate risk assessments, 40% of them have failed to develop any new financing or investing exclusions or restrictions on high-carbon clients as a result of their risk assessments. And only seven banks have asked high-carbon clients to adopt TCFD guidelines themselves.

The findings indicate a systematic reluctance by banks to demand higher standards from high carbon sector clients, despite the fact that doing so could vastly reduce a bank’s climate risk.

Last year’s IPCC report highlighted that avoiding dangerous climate impacts requires limiting global temperature rise to a maximum of 1.5C, in contrast to earlier targets of 2°C. The IPCC’s most recent report on land use also made clear that halting deforestation is key to preserving vital carbon sinks.

Yet Boston Common found that less than a third (29%) of banks have adopted an explicit 1.5 or 2°C target in risk assessment or sector level criteria, and just 16% of banks require clients to have no-deforestation policies.

Just 14% are asking clients to adopt time-bound certification standards associated with key soft commodities (palm oil, soy, cattle and timber products).

It should not come as a surprise then, that banks’ investment in fossil fuels continues to grow each year. From 2016 to 2018 investment in fossil fuels totalled $1.9 trillion, equal to the GDP last year of Brazil, the world’s ninth-largest economy.[1] And while the growth of the green bond industry in the past decade has been impressive, rising from just $1 billion a decade ago to over $200 billion alone in 2019, this figure is still dwarfed by investment in fossil fuels.

The failure of the banking sector to change its lending and investment practices is not only a problem for the climate; it is also a missed opportunity for the sector. A new report issued by the Adaptation Commission calculates that investing $1.8 trillion by 2030 could reap $7 trillion in benefits, while the UN Environment Finance Initiative found that delays in tackling climate change could cost investors $1.2 trillion over the next 15 years.

A call to action

What more should the banking industry be doing?

Boston Common’s initiative backed by a group of investors and organizations including Australian Ethical Investment, SHARE and Ethos have a clear call to action for the sector. We want to see banks:

· Set explicit targets to increase the proportion of sustainable finance commitments relative to their overall financing activities.

· Publicize their definitions of ‘low-carbon’ and ‘green’ investment to ensure that green finance commitments are not merely re-allocations or rebrandings of existing commitments.

· Set concrete timelines for restrictions and phase-outs of financing for fossil fuels and require clients to adopt no-deforestation policies in line with best practice (NDPE “no deforestation, no peat and no exploitation”) and have these commitments certified by third-parties such as RSPO.

Most importantly, we must see a cultural shift from the Board all the way down to front-line bank managers. This includes the adoption of group-wide climate strategies linked to explicit decarbonisation and sustainable finance targets and metrics which are integrated into performance goals and compensation payouts. This needs to include a willingness to walk away from clients who are not performing on climate metrics. We know this is possible as Japanese banks have moved away from fully endorsing coal to adopting coal restrictions in less than two years.

The time for incremental change is over. We need to see rapid transformation in the banking sector and the much wider adoption of systems-level thinking if we are serious about solving the climate conundrum.

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Read: Banking on a Low-Carbon Future: Finance in a Time of Climate Crisis

[1] https://data.worldbank.org/indicator/NY.GDP.MKTP.CD?year_high_desc=true