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The transition teething process often means two steps forward and one step backwards
The development of frameworks and supporting policies to guide more finance towards the green transition (both into green projects and to enable energy transition in line with global Net Zero 2050) is a positive, but there remains uncertainty about which policies will be effective and which will be counterproductive. In addition to the policy uncertainty, there is also substantial doubt about whether the financial system as a whole – comprised of regulators, management and staff at financial institutions, investors, capital markets (domestic and international) and ratings agencies – is able to row in the same direction at the same time.
One recent example of the pitfalls that lie close to the surface under the structures being built to transform the financial and non-financial corporate sectors was when the Science Based Targets Initiative (SBTi) outlined a proposed change to its net zero targets that would allow companies to use carbon credits to abate Scope 3 emissions, which quickly sparked a significant backlash.
At issue is where to draw the line about responsibility for emissions within a value chain. One argument in favor of allowing offsets for Scope 3 emissions is that they are generally outside of a company’s control, and the requirement for offsets retains a financial incentive to do more than disclose Scope 3 emissions. The mechanism of carbon credits provides a way to direct finance towards projects that could reduce global emissions.
The challenge – which ties into the process of experimentation in the way financial systems are being adapted – is that although companies don’t usually have operational control of their Scope 3 emissions, it could still influence their behavior in sub-optimal ways.
Banks in the GCC region are tackling climate transition risk, but it remains a ‘work-in-progress’
Standard & Poor’s Ratings has this week addressed frequently asked questions about climate transition risk facing banks in the Gulf Cooperation Council (GCC) countries, describing banks’ efforts in measuring the risk to date as a ‘work-in-progress’. On financed emissions, like those covered by RFI Foundation’s financed emissions database, S&P highlighted that “banks' difficulties with measuring scope 3 emissions come up regularly in our discussions”. This is understandable because emissions measurement is an almost universal challenge for banks globally.
This context of data gaps was a motivating factor for the way RFI undertook its financed emissions work, which is catalogued in an open-access database with five years of data covering banks and financial markets in the six GCC countries and five other OIC markets. The financial sector plays a key role in financing the transition and will need substantial new capabilities beyond what they have now to understand the many types of climate transition risk they face from the activities they finance.
How transition finance could eclipse sustainability-linked financing
One of the consequential outcomes of COP 28 was the agreement to transition away from fossil fuels in order to reach the global climate goals of limiting warming to 1.5˚ C, which requires reaching Net Zero by 2050. After COP 28 ended there has been a widespread effort to determine the best way to achieve that transition, for which finance plays a key role.
Emerging markets need to be able to absorb much more climate finance than they do today
Following the COP 28 climate summit in Dubai, there will need to be a redoubled effort to drive finance in the direction of alignment with the transition. International private climate finance in particular will need to rise by 15 times from current levels. One of the major challenges in driving this growth is that it often relies on data to guide and assess whether financing flows are moving consistently with the Paris Agreement or inconsistently with these global objectives.
Funding Credible And Bankable Transition Finance After COP28
Following the conclusion of COP 28 last year, OIC financial institutions should now focus on how the final declaration points towards key risks and opportunities arising from climate transition risks, as well as the role they can play within the energy transition. One of the most important elements of financial institutions’ strategies across OIC countries will be the role of transition finance.
This has been a hotly debated issue, all but overlooked by binary green/not-green taxonomies. For emerging markets & developing economies it is a critical piece of amassing enough funding to be able to transform economies in a way that will over time promote economic growth while reducing emissions along science-based pathways.
OIC financial institutions need a comprehensive approach to align with COP 28 outcomes
Since the Paris Agreement was signed at COP 21, one of the most important issues has been defining how the world makes “finance flows consistent with a pathway towards low greenhouse gas (GHG) emissions and climate-resilient development”. The global stocktake released at the end of COP 28 provides updates on the activities the financial sector will need to align in order to mitigate climate change by 2030.