(Bloomberg) -- If banks and investors are going to finance the transformation of high-carbon companies into the green corporations of tomorrow, there needs to be a greater acceptance by policymakers and the public that this will make financiers’ portfolios look dirtier.
That’s one of the findings from an independent report on so-called transition finance that was commissioned by the UK government and published on Thursday. The Transition Finance Market Review, which gathered input from banks including JPMorgan Chase & Co., Barclays Plc and HSBC Holdings Plc, determined that a disproportionate focus on already-green companies and net zero targets has discouraged some financial institutions from investing in high-emitting assets or activities, even when “there is an opportunity to support long-term decarbonization.”
Vanessa Havard-Williams, who chaired the review, said in an interview that despite the pressing need to finance the decarbonization of such assets, she has witnessed a “paralysis” among bankers who fear they would face public criticism for providing money to major polluters.
The idea behind the review is to help create credible transition finance structures and “get over some of the unease” bankers feel with regard to defining transition deals, she said.
Already a buzzword in climate finance, transition is supposed to convey the notion of transforming an asset from brown to green. And with trillions of dollars needed to decarbonize everything from heavy industry to airlines and real estate, the low-carbon transition represents a potentially lucrative new business for financial firms. However, without clarity from regulators, the flow of transition finance has been limited.
A key reason for this is the way the market assesses banks’ climate credentials. In recent years, disclosures of financed emissions, which is the greenhouse gas-pollution enabled via loans and investments, have become more prominent, with banks and investors pledging to reduce them to reach a net zero objective. This, in turn, has led to “a singular focus” on that one metric, which has crimped “the financing of high-emitting companies” that could help reduce emissions, according to the review.
“I’m hopeful that by articulating the problem and also the case for financing transition strategies and transition activities, there is more willingness to look in the round at more than financed emissions,” Havard-Williams said.
The transition review, which has backing from the UK Treasury, the Department for Energy Security and Net Zero and the City of London Corporation, provides a framework to scale the market for transition finance and to position the UK as the leading financial hub for such deals.
It makes several recommendations such as requesting that the UK government develop clear decarbonization pathways for industry sectors. “Transition finance will struggle to scale if the real-economy transition isn’t incentivized,” according to the report.
Additionally, the review proposes a move towards “entity-level transition finance,” whereby instead of issuing bonds that fund specific transition projects, companies with credible transition plans can secure “general-purpose transition finance.”
What the 160-page reviews doesn’t provide is a precise definition for transition finance, even though it remains a muddled concept. In broad terms, transition finance constitutes activities that “facilitate an economy-wide transition to net zero consistent.” But its exact parameters are “dynamic” and change over time as technology and understanding evolves, according to the report.
Havard-Williams said the overwhelming feedback from investors and financiers was that they want “a principles-based approach” that can work within existing sustainable finance frameworks, rather than start from scratch in devising a new taxonomy.
As such, the review has devised a Transition Finance Classification System that builds on strategies developed by the Glasgow Financial Alliance for Net Zero. GFANZ is co-chaired by Mark Carney, who is chair of Bloomberg Inc. and a former Bank of England governor, and Michael R. Bloomberg, the founder of Bloomberg News parent Bloomberg LP.
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