Financial systems have a key role in move towards net-zero carbon economy
This week, world leaders are gathering in Dubai (COP 28) to coordinate action to tackle the climate emergency. A new report published today (6th December) highlights that the world has reached a pivotal moment as threats from Earth system tipping points, and progress towards positive tipping points, accelerate.
12/06/2023
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The Global Tipping Points Report says current global governance is inadequate for the scale of the challenge and makes six key recommendations to change course fast, including coordinated action to trigger positive tipping points. A tipping point occurs when a small change sparks an often rapid and irreversible transformation, and the effects can be positive or negative.
Based on an assessment of 26 negative Earth system tipping points, the report concludes “business as usual” is no longer possible – with rapid changes to nature and societies already happening, and more coming.
Emergency global action, however, can harness positive tipping points and steer us towards a thriving, sustainable future. The report lays out a blueprint for doing this, and says bold, coordinated policies could trigger positive tipping points across multiple sectors including energy, transport, and food.
The report was produced by an international team of more than 200 researchers, coordinated by the University of Exeter (UK), in partnership with Bezos Earth Fund.
Professor Hugues CHENET, a professor at IÉSEG School of Management and Honorary Senior Research Fellow of the Institute for Sustainable Resources at University College London, was one of the team of researchers that contributed to the work on the potential of financial systems to enable positive tipping points.
The financial system – a network of organizations including banks and insurance companies, markets and stock exchanges which enable the exchange of funds, and the allocation of capital, in our economies – has a central role to play in moves towards a net-zero carbon economy.
A successful transition to “net zero” will rely on financial markets adopting sustainable practices to ‘unlock low-carbon opportunities’ (for example by facilitating a massive reallocation of capital towards renewable energy, in particular in developing economies) and accelerate the reduction of emissions across all sectors and efforts to protect and restore nature. The report notes that the financial system needs to finance the “green (desirable) and stop financing the dirty” (undesirable) while ensuring it fulfils its duty of managing risk-adjusted returns. Finance must define a clear roadmap to get out of fossil fuels.
The need for financial systems to integrate sustainability
Financial markets tend to replicate our economies, which the researchers explain are often driven by short term profits, inadequate climate policy and unclear industrial priorities at national and international levels. To be effective in accelerating the transition, financial markets therefore need to be forced (by regulation) to change convention and integrate sustainability considerations into core practices across the financial chain (including investors, financial services, rating agencies and more).
Progress in this domain has started only recently and is encouraging, but the authors believe that we must move much faster and further, as the potential exists for “swift and nonlinear changes” that can drive transformative shifts within and beyond the financial sector.
By directly influencing the allocation of capital to different sectors or activities, the financial system has huge power to affect the evolution of the real economy. One way is by enabling and contributing to the advancement and implementation of innovative technologies. They are regularly involved in “the management of the innovation process, assuming the role of financial entrepreneurs and ‘picking winners’…”, the report notes.
Ensuring feedback between public and private finance
The researchers note that public finance has a pivotal role to play with its longer-term horizon and favorable repayment and support conditions – it can help mitigate market uncertainty, potentially attracting new financing for low carbon projects and assets. They stress the crucial role of public finance in the first stages of innovation.
The report notes that uncertainty about the prospects of low carbon assets (examples include offshore wind farms or negative emission techniques) or unclear information about climate policy can lead to conservative approaches from investors, especially private ones.
Clarity and certainty about climate policy schedules are key to sending a long-term signal for the economy and its trajectory establishing a link between macroeconomic performance and low carbon assets. Here also, finance needs governments and policy makers to clarify the way.
Strategic policy intervention – what tools can help the transition to net zero?
The researchers also suggest that prudent regulatory and financial supervision tools can also facilitate a managed decline in fossil fuel lending. One example is in terms of corporate disclosure: changes in accounting standards and disclosure requirements can significantly affect the value of fossil assets and therefore the transformation of the energy industry.
Accelerating renewables investment in the Global South
Financial constraints, including underdeveloped capital markets and limited capital stock, can prevent developing economies in the Global South from obtaining sufficient funds for low carbon investments -notably renewable energies. This creates a negative cycle where the perceptions of higher risk for investors delays the transition of these economies to cleaner energy systems. In turn, climate change negatively impacts production systems, output, and political stability in these economies.
Policies to reduce capital costs in the Global South can, therefore, potentially facilitate the low carbon transition at the global scale. The authors note that developing economies face a great challenge to mobilize sustained investment, in order to build a renewables track record that can attract private finance at scale.
Additional information and full report
The full report can be viewed here.
More information is also available here.
