Judson Berkey did not hold back.
It was early February and the UBS Group AG banker had WebEx-dialed into a meeting held on the 17th floor of the Japanese Financial Services Agency’s building in the Kasumigaseki district of central Tokyo. The closed-door gathering with representatives of the Federal Reserve, the European Central Bank (ECB) and public officials from around the world was billed as a “check-in” for regulators to ask key market participants how they were dealing with the growing tapestry of rules and guidelines around transitioning the economy away from high-carbon assets.
What might otherwise have been a staid conference took an unexpected turn as Berkey, group head of engagement and regulatory strategy at UBS, interjected.
Illustration: Yusha
The finance industry was being asked to align loans, investments and capital markets portfolios with a global warming trajectory of 1.5C, while the planet might in fact be hurtling toward a 2.8°C increase from pre-industrial times, he said.
The upshot: The world’s biggest banks cannot live up to the green regulatory ideal unless they start dumping huge numbers of clients worldwide at a reckless pace and also roil economies in large swathes of the globe that primarily rely on dirty fuels. Faced with that dilemma, many lenders are quietly reeling in their climate ambitions.
“Banks are living and lending on planet earth, not planet NGFS,” Berkey told the group in an impassioned speech, alluding to the Network for Greening the Financial System, a collection of central bankers that creates model scenarios for how the energy transition might evolve. Details of what transpired at the meeting hosted by the Financial Stability Board — a coordinator of global regulations — came from people who were in the room, but asked not to be named discussing private talks. Berkey confirmed his participation, declining to say more.
The UBS banker’s outburst, which got little pushback from those present, exposes the cracks emerging in a multitrillion-dollar transition finance project, and taps into what is rapidly becoming one of the most contentious issues in the global banking industry. In private, senior bankers in sustainable finance divisions in London, New York, Toronto and Paris grumble about unrealistic expectations from regulators, civil society and climate activists around the industry’s role in getting the planet to net zero.
The standoff that is brewing is setting the stage for a showdown at the heart of the green movement, where environmental, social and governance (ESG) considerations are being pitted against old-fashioned capitalism.
As the gatekeepers of capital, banks can play a central role as catalysts for cutting greenhouse gas emissions. Private capital would need to cough up the lion’s share of the US$5 trillion to US$10 trillion in annual commitments needed to pay for the green transition.
That would only happen if there is “a return on the money,” hedge fund billionaire Bridgewater Associates founder Ray Dalio said.
Climate change is “an economic externality, and you can’t expect a free market to deal with it voluntarily,” said Adair Turner, who ran Britain’s financial regulator during the subprime and euro-zone debt crises and is now chair of the Energy Transitions Commission.
Most of the transition away from high-carbon activities toward greener business models “will be financed by private institutions making, broadly speaking, profit-maximizing decisions,” he said.
Banks that had enthusiastically committed to align their entire operations with net zero goals are having second thoughts as the real-world ramifications of acting on those pledges become painfully apparent.
For instance, doing business in the energy sectors of coal-dependent countries such as South Africa, Poland and Indonesia would be off-limits.
Not only do the commitments make it harder for banks to serve commodities clients such as Glencore PLC, but even companies that are not always associated with heavy carbon footprints are ending up in the crosshairs. Nvidia Corp, the wildly successful tech colossus, has an implied temperature rise of 4°C and cosmetics giant L’Oreal SA is at an eye-popping 6°C, meaning their business models are currently aligned with a trajectory of devastating global warming, Morningstar Inc data showed.
“Our net zero commitments are about being our clients’ lead partner and are consciously taken around the idea that we need to be there with our clients and our clients need to succeed, not that we need to hyper select clients in order to get to net zero somehow faster or better,” Jonathan Hackett, Bank of Montreal head of sustainable finance, said.
Some of the world’s biggest lenders, including Deutsche Bank AG, HSBC Holdings PLC and Bank of America Corp, are adding caveats to their restrictions on financing coal, the planet’s most-polluting energy source.
BlackRock Inc CEO Larry Fink said he has stopped using the term ESG and emphasized the world’s largest asset manager’s work with energy firms in a letter to investors last week. The firm has scaled back its participation in international climate investing alliances.
In February, a string of financial heavyweights, including JPMorgan Asset Management, Pacific Investment Management Co and State Street Global Advisors, withdrew from Climate Action 100+, the world’s largest investor group formed to fight global warming. Lenders, including HSBC, decided to withdraw applications to get their climate goals certified by the UN-backed Science Based Targets initiative. Other such voluntary climate alliances have been shaken by similar walkouts of late.
Spokespeople for the firms said that the moves did not reflect a reduced commitment to climate finance. Behind the scenes, people close to the decisions to exit point to the inconvenience of continued membership, spanning everything from the risk of being sued by anti-ESG agitators in the US — especially in the event that former US president Donald Trump returns to the White House — to the growing mountain of paperwork associated with upholding climate targets. There is also lost revenue.
“For banks with substantial capital markets businesses, like those competing with the JPMorgans of the world, it’s fee income that’s on the line here,” said James Vaccaro, chief catalyst at Climate Safe Lending Network, a group that helps the finance industry figure out how to cut its carbon footprint. “Ditching clients off track from 1.5°C means losing major lines of revenue.”
When climate consciousness erupted onto the financial stage in 2021 at the UN Climate Change Conference in Glasgow, major western banks clamorously committed to reduce their carbon footprints. Financed emissions — those that arise from lending and investing — would fall in line with a pathway to achieve net zero by 2050, they pledged. In tandem, most of them promised to pour a big chunk of money — anywhere between US$750 billion and US$2.5 trillion per bank — into green and sustainable deals by the end of this decade.
However, all that was before they had rolled up their sleeves and done the math.
Declarations of intent on slashing greenhouse gas emissions “over projected” what the industry could do, Church of England Pensions Board chief responsible investment officer Adam Matthews said, adding that there is now a “gradual peeling away of flaky members as the penny has dropped that this is much harder than a photo call and press release.”
Inside the finance industry, irritation hit a new level after the publication of an ECB paper in January, which stated that 90 percent of the eurozone banks it analyzed are “misaligned” with the goal of limiting global warming to 1.5°C. The central bank called this a “staggering” outcome.
Many banks depend largely on clients in energy-intensive sectors for revenue, the ECB said. It looked at six industries — power, automotive, oil and gas, steel, coal and cement. On average, these exposures amount to 15 percent of their highest-quality capital, although the ECB cited “significant variation among banks.” In other words, widespread losses on loans to high-carbon sectors would probably wipe out a large chunk of banks’ financial reserves.
Defining what can go under the rubric of the green transition remains a work-in-progress, even as lenders including Barclays PLC, BNP Paribas SA and Citigroup Inc create new investment and corporate banking teams for it.
In some cases, banks are even placing the financing of coal plants under an ESG banner. Lenders are looking for ways to hold on to clients in an array of high-emitting industries spanning cement to shipping and aviation. HSBC has made clear that many clients within these industries would only reach net zero if nascent carbon-reduction technologies can be sufficiently scaled up.
Coal has tended to face the tightest financing restrictions of all fossil fuels, and international packages to help developing countries transition away from coal have struggled to attract western bankers, concerned that their involvement would breach their climate policies.
Now, some banks are testing the waters.
A January request for proposals from banks to help finance a coal deal linked to one of the so-called Just Energy Transition Partnerships in Indonesia received a “strong response,” an Asian Development Bank spokesperson said.
HSBC, Standard Chartered PLC and Bank of America are among the lenders that have pitched for the deal that would finance the early closure of Cirebon 1, a coal-fired power station in West Java, Bloomberg said. The only way the banks can do that is by expanding their exposure to coal in the medium term.
Cirebon is one of hundreds of coal-fired plants that power homes and industries across Asia. Unlike in the US or Europe, many coal plants in Asia are still just a few years into an estimated lifespan of roughly four decades. They are also locked into long-term power agreements and have investors who expect the returns they were promised when they allocated funds to the plants. So, shutting them early comes at a significant financial cost.
“Getting to net zero in time won’t be possible unless we all work together to find ways to finance the credible early retirement of Asia’s relatively young coal power assets, even if it looks like our coal-related emissions go up in the short term,” HSBC chief sustainability officer Celine Herweijer said. “This is about avoided real world emissions.”
The bank published an updated coal policy in January, which shows it now applies a “risk-based approach” to coal projects that might otherwise have been excluded.
There is work under way in the industry to separately account for coal-related emissions if they are the result of financing credible early coal retirement initiatives, Herweijer said.
However, some global banks and investors say that continued ties with coal are just not worth the risk.
“It’s a bit of a slippery slope,” BNP Paribas Asset Management climate lead Thibaud Clisson said.
The world needs to “get rid of coal as soon as possible, so at this stage, we don’t want to take this opportunity to be less strict,” he added.
“Financial institutions don’t really want to do these kinds of [early coal retirement] transactions presently, because we need the right guardrails and there’s a lot of reputational risk if you don’t get them right,” said Alice Carr, executive director of public policy at the Glasgow Financial Alliance for Net Zero, the world’s biggest climate finance coalition. It is co-chaired by Mark Carney, chair of Bloomberg Inc’s board and a former Bank of England governor, and Michael R. Bloomberg, the founder of Bloomberg News’ parent Bloomberg LP.
For Vaccaro, it is how banks go about it that is important.
The opportunity to pivot to green financing is “big enough” to offset some of the lost revenue of dirty clients, but banks are unlikely to seize it if they continue with their “doublespeak” on both embracing sustainability and maintaining business as usual, he said.
Climate activists are worried.
Experience suggests that banks and investors “love nothing better than a good policy loophole,” said Paddy McCully, senior energy transition analyst at Reclaim Finance, a French climate nonprofit. “If one exists, the chances are high they will pour some money through it.”
Meanwhile, investors sticking with carbon-heavy assets say that those staying away risk ignoring the real issues in the wider economy.
Many current policies restricting investment in such companies “create a bias” that hurts emerging markets, Prudential PLC chief sustainability officer Diana Guzman said.
“Divestment isn’t going to be the solution,” said Fumitaka Nakahama, group head of global corporate and investment banking at Mitsubishi UFJ Financial Group Inc. As they balance the needs of their clients against their green commitments, veterans of global finance say that they want regulators to be honest and acknowledge that progress on climate is slow, and that without the right incentives, bankers would not play the role expected of them.
“It was always convenient for finance to be projected as the savior on climate, when in reality, finance can only go so far if the enabling policy environment isn’t there,” Matthews said.
That was the point UBS’ Berkey made during the Tokyo meeting, and according to those who were in the room, when he had finished speaking, everyone could see “the wheels turning” in the regulators’ heads.
With assistance from Nicholas Comfort
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