The destruction caused by natural disasters, which is becoming more frequent and severe due to climate change, is graphic and frightening. However, there is a significant impact on the financial system as well when insured losses increase in the aftermath of such events. Additionally, there is a risk of stranded assets when countries transition to low-carbon alternatives. Yet, the financial sector does little to reduce such risks from climate change by not investing enough in risk mitigation or building climate resilience.
The financial sector can be a partner in fighting climate change, but so far that is not the case in Asia-Pacific. In 2019, ESCAP estimated that the region needs to invest an additional $1.5 trillion annually to implement the 2030 Agenda for Sustainable Development, requiring financial contributions from the private sector, to build resiliency in infrastructure, energy needs and social safety nets. The Economic and Social Survey of Asia and the Pacific 2020 further points out that instead of increasing, the market share of renewable energy declined from 17 per cent in 1990 to 12 per cent in 2017. This is despite a growing interest by investors in seeking sustainable investments.
So what’s keeping green investments in Asia-Pacific out? The basic hurdle is the missing knowledge in the general public about what “green” means and what counts as sustainable and what does not. Definitions differ by industries, making this challenging to know for an individual. Moreover, the practice of Greenwashing, using misleading labels and advertising material to create a self-image of environmental responsibility without actually becoming more responsible, further complicates the understanding of “green” and “sustainable”. Lastly, not every investor is interested in green investments because they typically reach long into the future.
Changing the status quo will require concerted efforts from all stakeholders in the financial system:
To start off, central banks and financial regulators must harmonize standards and step up their regulatory efforts in green finance. The enforcement of harmonized standards will boost investor confidence and ease decision-making processes related to green investments. One approach is to nudge the financial sector to follow the United Nations’ Principles for Responsible Investment guidelines when making investments decisions, and encourage businesses to align with Taskforce on Climate-related Financial Disclosure recommendations when making climate-related disclosure. Financial regulators can also establish knowledge platforms which support regulatory efforts by sharing country experiences, learnings, development of practical tools and capacity building. Two prominent platforms are the Central Banks and Supervisors Network for Greening the Financial System and the Sustainability Banking Network.
Governments must incentivize greening of finance. This includes increasing the level of private sector investment by making green finance investments more attractive. Investors seek investments which are less risky with reliable rates of return. For example, Governments can provide financial incentives such as tax reliefs or tax credits and lower the risk by giving guarantees. Government efforts should not only be focused on banks, but also pension funds and insurance companies, which hold long-term financial resources suitable for green investment.
Businesses themselves must choose the sustainable path, by following the environment, social and governance factors in their operations. Businesses need to be held responsible for the real costs of their operations on the environment. Internal carbon pricing can internalize these costs and disclosure of carbon footprints will provide much-needed transparency. Investors with a clearer understanding of which businesses are following ESG, are more likely to invest in their stocks. Possible steps that businesses should take are to adhere to UN PRI guidelines, decarbonize their operations, and improve climate-related disclosures by following TCFD guidelines.
We are facing a climate emergency. The threat of climate change is real and imminent. All agents in the financial sector- central banks, financial regulatory agencies, institutional investors, and businesses- must act urgently and swiftly; timid policies and inconsequential actions will not be enough to outrun the significantly more catastrophic- future impacts of climate change. The current COVID-19 induced economic shock is a wakeup call for the devasting effects of failing to look beyond short-term.