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Dr Ben Caldecott

How private finance can deliver net zero

The net zero transition underway is the most capital intensive in human history and the financial services sector has all to gain. Net zero alignment for the financial services sector will create demand for new financial products and services to help companies transition to net zero.

The UK is hosting the next major UN climate change summit (COP26) in Glasgow in November 2021. This must be a tipping point for greening the global financial system. New commitments at COP26 should amount to the most significant ever from financial institutions on climate and demonstrate the collective intent for massive material change in future financial flows, as well as the widespread adoption of financial practices that actively support the transition to net zero emissions. What should we do to achieve this?

First, we should lock-in and build on critically important work to enhance climate-risk management by financial institutions. This includes the Task Force on Climate-related Financial Disclosures (TCFD), that has created a framework to help companies and financial institutions consistently measure, manage, and report their climate-related risk exposures. The TCFD should be made mandatory, but we should also focus on other aspects of climate risk management that are even more important, including: updating risk-based capital adequacy frameworks so they take account of climate-related risks; spurring the next generation of data and analysis capabilities required to properly measure and manage such risks; and changing supervisory expectations globally so all supervised firms, from asset owners to insurers, need to action climate-related risks at the board and senior management levels or suffer censure or worse from their supervisors.

Second and in parallel, we need to urgently open up new frontiers that proactively help align investor portfolios and bank loan books, as well as the provision of financial services, with tackling climate change. Perhaps the single most important thing we can do to spur rapid climate action by financial institutions is to make net zero targets and transition plans mandatory.

COP26 provides a unique opportunity to do this. In 2021, in the same way that governments will have to make new climate targets under the Paris Agreement, financial institutions (as well as companies and other non-state actors) could be asked to do the same. This would be voluntary for all, but there is a strong case for the UK as host to take the lead by making net zero targets and transition plans mandatory for UK financial institutions prior to the summit.

The destination, net zero by 2050, is already law in the UK. The challenge is getting all parts of society to contribute to and think constructively about how we get there. Getting financial institutions to do this systematically will shift capital in the right direction and spur the companies they finance to adopt net zero transition plans. It will also accelerate UK leadership in sustainable finance. The EU - which now also has agreed a net zero target and an active policy agenda on sustainable finance - should be encouraged to follow suit.

The net zero transition underway is the most capital intensive in human history and the financial services sector has all to gain. Net zero alignment for the financial services sector will create demand for new financial products and services to help companies transition to net zero.

Mandatory net zero targets and plans for financial institutions can help the UK lead the way, while also helping us deliver domestic climate targets. The UK is also uniquely placed to help green the global financial system. As the world’s largest international financial centre, if the City of London moves, others will follow. Mandatory net zero targets and transition plans would be a sensitive intervention point, where a modest change can create disproportionate benefits for and non-linear growth in climate action. This is exactly the sort of thing the UK should be doing as a world-leader on climate change and the time to consider this is now in the build-up to COP26.