The race to net-zero

Have you heard about the Pareto Principle? Also known as the 80/20 rule, it merely states that roughly 80 per cent of consequences come from 20% of the causes for many outcomes. Can this principle apply to what we are currently observing in the number of countries and companies setting up science-based emissions reduction targets to reach net-zero status? (A net-zero status means we are absorbing as much emissions as we are emitting).

As of November 2020, six countries had enacted laws to reach net-zero status by 2050. These are Sweden, United Kingdom, France, Denmark, New Zealand and Hungary. Another six ( European Union, Canada, South Korea, Spain, Chile and Fiji) have tabled legislation to achieve net-zero by 2050. Two countries Suriname (in South America) and Bhutan(in South Asia) have already achieved net-zero status in 2020. Altogether these countries represent about 12 per cent of global carbon emissions. A lot more action is needed.

While some countries evaluate their options, businesses, on the other hand, are moving fast. Five years ago, 52 companies had science-based emissions reduction targets. By 2020, this number grew to 1106, a twentyfold increase. A back of the envelope calculation indicates that the number of companies setting net-zero targets could reach 1800 by the time of COP26 in 2021 and almost 5500 by the time of COP30 in 2025. And these are conservative estimates. Could companies start to tip the scale and drive 80% of the emissions reduction for a net-zero global economy? We shall see.

Source: Science Based Targets initiative (SBTi), Authors’ calculations.

Effective coordination, collaboration as well as innovations will be required to keep this momentum going. There is much good work in the pipeline. The International Institute of Finance’s Task Force for scaling up voluntary carbon markets is one example. Launched by Mark Carney, Bill Winters and Tim Adams in September 2020, the Task Force anticipates an explosion in demand for carbon offsets to meet companies’ net-zero targets. This initiative will help to unleash private capital flows, particularly to developing economies. We may not have reached the tipping point yet. We must keep going. That 20 per cent is within reach.

Consumers: the sleepy giant of the sustainable finance revolution.

How many of you know where your pension money is invested?

Sustainability information for consumers
Photo by fauxels on Pexels.com

You are not alone.

In my last blog, I mentioned the USD 2.5 trillion annual investment gap that is hindering achievement of the UN sustainable development goals. Pension funds assets amounted to almost USD 33 trillion in 2018. A reallocation of less than 10 per cent of the pension assets towards sustainable investments will go a long way towards reducing the investment gap. Why is this not happening at a faster pace?

Governments and businesses have a critical role to play to reduce the financing gap. But so do consumers! Yet consumers are not pulling their weight. Most consumers are unaware of where their money is invested. A 2018 study by the Defined Contribution Investment Forum(DCIF) found that two-thirds of pension savers in the UK have low levels of knowledge of where their pension money is invested, and they are not confident in making investment choices.

Part of the problem is that information is not available in an easy to understand format to help consumers make decisions. There are thousands of mutual funds in the market. It is costly for consumers to search and identify the sustainable investment funds they want. A recent study by the Cambridge Institute for Sustainability Leadership showed that the availability of sustainability information does influence investment choices. Interestingly, the study found that savers are willing to sacrifice financial returns and choose sustainable funds when they are presented with clear sustainability information. Researchers at the European Corporate Governance Institute recently demonstrated in a comprehensive study that sustainability information increase money flows into high-rated sustainable funds.

In short, consumers, when presented with the right information, can dictate where their hard-earned savings are invested. That said, consumers should take a hard look in the mirror and use their wallet power. Consumers are at the core of the upcoming sustainable finance revolution. It’s time to wake up!

O Finance, where are you?

UN sustainable development goals took decades to develop

Getting a consensus to achieve global cooperation on any issue is challenging. It took several decades for the United Nations(UN) to get its members to adopt the 17 sustainable development goals(SDGs) in 2015. The process started years earlier with the Earth Summit in 1992 in Rio de Janeiro where 178 members agreed to an action plan to protect human lives and protect the planet. Eight years later, in September 2000, the UN adopted the Millenium Development Goals with the explicit goal to reduce extreme poverty by 2015.

Fifteen years later, in September  2015, the UN 2030 Agenda for sustainable development was adopted by the UN General Assembly.  A few months earlier in July 2015, the Addis Ababa Action Agenda was formally launched by the UN. The plan stressed the importance of long-term investment and the need to align all financing with sustainable development.

No sense of urgency

During the 2008 financial crisis, almost 426 billion dollars were mobilised within two years to ‘save’ the US  financial system.  There is no sense of urgency to mobilise funds to implement the UN sustainable development goals. Yet the investments required are huge.

Recent OECD estimates indicate that around USD 6.9 trillion of infrastructure investment is needed each year to 2030 to meet the sustainable development goals and meet the goals of the Paris Agreement. The current annual spending on infrastructure is between USD 3.4 – 4.4 trillion, depending on the measurement metrics used. An investment gap of between 2.5 to 3.5 trillion dollars per year exist today.

There is clearly a large and significant investment gap to reach society’s desired sustainable development goals. The availability of capital does not seem to be the problem. According to the Financial Stability Board, global total financial assets stood at  382 trillion dollars as of 2017. Pension funds and insurance corporations’ assets were close to 65  trillion dollars. The core challenge is to incentivise the flow of a bigger share of this capital towards sustainable investments. To do this, strong leadership is a must.

EU leads the way

To address some of these issues, the European Union High-Level Expert Group on Sustainable Finance produced a set of recommendations to accelerate the flow of capital towards sustainable development objectives. The European Commission(EC) adopted an action plan on sustainable finance in March 2018. Among the various actions, the Commission highlighted the limitations of existing sustainability benchmarks. Accordingly, it proposed an initiative to create a designated category of benchmarks comprising low-carbon issuers.

To prepare for the creation of these benchmarks, the European Commission had to clarify what exactly constitutes sustainable investments.  In June 2019, the European Commission produced a taxonomy of sustainable investments.   According to the European Union,  the Taxonomy is an implementation tool that can enable capital markets to identify and respond to investment opportunities that contribute to environmental policy objectives.   In October 2019, the  European Union launched the International Platform on Sustainable Finance(IPSF) to strengthen international cooperation and scale up mobilisation of capital towards environmentally sustainable investments.

There is hope that the development of the EU Taxonomy, the new carbon benchmarks and the IPSF will enable the private sector to increase their capital allocation towards sustainable investments. The result could be substantially more funds to achieve the UN sustainable development goals. And Finance will finally show up.