Insurers told delivering internal net zero simply not enough

Sarah Breeden, executive director for financial stability strategy and risk at the Bank of England, has told insurers they cannot simply focus on their individual net zero journey rather they need pay their full role in greening the wider economy.

Speaking at the CityUK conference Sarah Breeden warned simply getting your own house in order in the face of growing external pressure to deliver greater sustainability was not an option for the financial services sector.

“The financial sector’s role in the transition is clear,” she added. “It must facilitate the flow of finance to support businesses and households in reducing their emissions and help smooth the adjustment in the real economy.

“But there is a problem. External scrutiny on firms’ climate actions is increasing, but this tends to focus on their individual actions and the greenness of their lending and investments today, rather than the aggregate outcomes which determine the climate future we face. This approach may lead to firms greening their own balance sheets today, not greening the future wider economy. And yet the latter is what is ultimately needed to reach net-zero emissions.”

She warned the “own balance sheet” approach may lead firms or their stakeholders to conclude that they should simply divest from emissions-intensive companies, assets and jurisdictions.

“While this balance sheet-greening, or paper decarbonisation, may reduce the direct risks firms face from transition, it will not reduce the system-wide risks we will all face, unless those actions mean that emissions are actually reduced,” Breeden added. “Put another way, anything one firm does to green its own balance sheet will be undermined where those emissions-intensive activities can continue to be financed by alternative sources that will not steward them toward net-zero.

“Finance needs to support an economy comprised of both green and greening firms. Importantly, it also needs to address not only energy supply, but energy demand through improved energy efficiency.

“Indeed this week’s IPCC report revealed that modelled finance flows for climate mitigation over this decade need to be as much as six times higher than current levels if we are to limit warming to 1.5°C. Many firms have recognised this and are increasingly adopting active engagement and stewardship strategies to finance the changes that are needed. Where this is managed well and there is accountability for delivering change, the results can yield real world impact above and beyond those that divestment alone can deliver.”

She conceded the shape and speed of the transition is for government to determine. But it is subject to uncertainty, and the need to recalibrate, given the long horizons involved. “Recent events, and the consequent volatility in energy prices, suggest that our path to net zero will be bumpier than we would otherwise have expected,” said Breeden.

However she added that the regulators would not tolerate financial firms simply looking to do nothing to support the wider economy.

“Uncertainty over climate policy cannot be an excuse for inaction by the real economy or financial sector,” said Breeden. “The calls for immediate action from experts to reduce our future risks get ever louder. So we must recognise the need to use climate scenario analysis to explore a range of possible futures as we determine our actions today. Our Climate Biennial Exploratory Scenario exercise – the results of which we will publish next month – is designed to do exactly that. We must use exercises like these to help us fulfil our collective responsibility to manage those bumps well.

“The particular size, mix and timing of policy actions, and how they vary across jurisdictions, will of course have different impacts on different economic sectors and households. Transition to net zero will create new winners and new losers; some will be better off and others will be worse. Addressing these distributional effects through a just transition is not the responsibility of central banks and prudential regulators. But through our analysis we can help shine a light on those impacts and so support others (government, industry and investors) in their actions.”

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