What to watch next year in climate finance

This year, the climate finance industry grew rapidly. The trend is unlikely to slow down in 2022, having survived COVID-19 and been at the center of COP26.

But what can finance — whether public or private — do about climate change? How can finance drive action and not just reflect the power structures? The trillions in assets under a climate-related mandate must have some effect. How, exactly?

These are the top issues to be aware of in 2022.

Beyond the label

The specter of “greenwashing” hovered even closer over the endless array of products and services rolled out this year aimed at climate-conscious customers. Yet, few companies seem able or willing to solve the problem.

Two former sustainable investment executives, Tariq Fancy from BlackRock Inc. and Desiree Fixler from Deutsche Bank AG’s DWS, separately went public this year with accusations that their ex-employers were only paying lip service to environmental, social and governance metrics, known as ESG.

Fixler said that DWS didn’t have a robust way to evaluate companies’ ESG standings and implement that across their investments — contrary to what the asset manager claimed publicly. Her claims are now being investigated by Germany’s financial regulator. Fancy said BlackRock marketed its sustainability-labeled investment products as a force of good for the world, while internally recognizing that they don’t make much of a difference.

Making changes from within

Fancy’s criticisms are somewhat more philosophical than Fixler’s. They’re based on the assumption that doing good is the goal, rather than simply managing the ESG risks of a portfolio. After all, clients tend to expect that financial products marketed as “sustainable” or “climate-focused” should actively be promoting greener corporate behavior. Greenwash fears will be more popular than concerns over fees. REUTERS

At least some investment managers are in agreement. CREATE Research published a large survey showing that most asset owners feel a duty make the world better because they invest across the markets. They also think it’s at least as important to try and compel companies to be better on climate change as it is to sell out of polluting businesses altogether. This work, known as “stewardship,” is quite different — and more difficult — than simply buying and selling shares, respondents said.

It’s far from clear if investors can do this at scale. It takes a lot of effort to make shareholders change, and it can be difficult to engage with governments and companies.

Regulation gets left behind

A few years back, there was hope that financial institutions could make some progress in climate action where public policies had failed.

The Task Force on Climate Related Financial Disclosures will be turning five in the middle of 2022. This initiative, which provides a framework for reporting on emissions, has prompted financial regulators to look at how they can address the climate crisis. Chairman of TCFD is Michael Bloomberg, founder and majority shareholder of Bloomberg LP.

Many of these policy makers have become engrossed in lengthy data searches and stuck by narrow interpretations of their mandates. For example, central banks still believe they should only respond to current risks and not explore preventative policies to address an accelerating threat to monetary stability and financial stability.

Some are moving towards a more proactive approach. The European Central Bank is currently reviewing collateral frameworks and the Bank of England is examining whether capital requirements should be adjusted to climate risks. It’s some progress, but nowhere near enough to halve carbon dioxide emissions by the end of the decade — the planet’s best chance for avoiding catastrophic global warming.

The same politics and vested interest that have stymied domestic and international climate action for decades are still holding back stronger climate regulation. The starkest example yet is attempts to water down the EU’s sustainable finance taxonomy by Germany and France to protect their gas and nuclear industries. Other countries could take the same path, with South Korea’s draft taxonomy also allowing for unabated gas-fired power.

It will be much harder for the global economic system to end its dependence on fossil fuels if similar arrangements are made around the world.

Where are the green funds?

Trillions of dollars are required to fund the global transition towards green energy and to deal with more extreme weather. It is crucial to figure out how to channel money to developing nations that are most in need of it.

There is a big question about how much should be financed by governments. The private sector should also play a role, but it could leave it up to the market to pick winners and losers. While investors are amenable to clean energy projects and electric vehicle companies, they’re less enthusiastic about measures that don’t fit so neatly into existing asset classes and financing structures, such as boosting residential energy efficiency or scaling up new technologies. Most “adaptation” measures — needed to protect against effects of climate change — have no revenue stream and thus no obvious appeal to investors.

A global financial system that can’t be accessed by the poorest countries can’t support the rapid changes necessary to limit warming to 1.5°C. Leaders and decision-makers will need to embrace disruptive approaches that are not tied to the past in order to make a difference. Otherwise we’re headed for the start of a painful reckoning about what can really be achieved with finance.