Three pillars have been established
Mr. Tamaki also said that the green transformation of infrastructure will be a very long-term investment. The government sector, which is a major player in funding, is under extreme pressure in terms of finances because of the fight against COVID-19, so expectations are rising for pension funds, life insurance companies, and asset management companies that manage long-term funds to step up. Mr. Tamaki pointed out the need for these financial institutions to manage long-term funds in line with green transformation (or decarbonization).
He indicated that how well the engagement of institutional investors and financial institutions works is also an important factor. Engagement here means an effort by institutional investors to communicate with their borrowers and encourage sustainability. More and more European institutional investors tend to divest from borrowers who cannot draw a picture of business model conversion or are late in carrying out initiatives even after their engagement.
Japanese institutional investors such as life insurance companies and the Financial Services Agency are cautious of divestment, but the international trend inclines to Europe's leading initiatives. Japanese international companies cannot stall in responding to climate change, both for maintaining corporate value and for securing funds for growth.
To further enhance the flow of sustainable finance, it is necessary to develop and provide attractive financial products that will lead to investment results while responding to the large-scale and ultra-long-term financial needs for economic and social system changes. In doing so, both direct green and indirect businesses that support decarbonization must be covered by sustainable financing. Enriched financial products are expected to strengthen the flow of decarbonization funds.
To create the flow of transition funds, risk reduction measures such as security by the public sector are essential, and there is an urgent need to 1) develop human resources who can accurately assess the profitability and risks of businesses, 2) enhance information disclosure regarding ESG (environment, society, governance) management, and 3) arrange and enhance data for measuring and comparing the effectiveness of ESG activities.
At the symposium held by the Institute for International Monetary Affairs, Takejiro Sueyoshi, the special advisor to the United Nations Environment Programme Finance Initiative, cited the UN's Principles for Responsible Investment (PRI) that proposes it is within the trustees' responsible to take into consideration of issues surrounding ESG, and said that the three pillars of sustainable finance have been finally established after the PRI was agreed to by 1) institutional investors in Europe and the U.S. in 2006, 2) insurance companies in 2012, and 3) over 200 banks worldwide in September 2019.
According to Mr. Sueyoshi, it used to be a breach of trustee responsibility to take into consideration of ESG in asset management, but this is no longer the case because of PRI. The major shift was made, and "not taking into consideration of ESG is now a breach of trustee responsibilities," he said.
Thirty-one institutional investors in Europe and the United States, including Allianz, one of the world's leading financial groups, Zurich, an international insurance group, and the California Public Employees' Retirement System (CalPERS), the largest public retirement benefit fund in the U.S, have participated in an international initiative that promises to achieve an investment portfolio consistent with the net-zero GHG emission target by 2050.
Larry Fink, the CEO of BlackRock, one of the world's leading institutional investors, said in January 2020 that climate change is an investment risk, and then in October that "every decision will be made on the basis of sustainability within a decade." Mr. Sueyoshi cited the CEO's remarks, and said that institutional investors' efforts on sustainable finance have entered an irreversible stage.
In December last year, BlackRock launched Aladdin Climate, a tool for measuring price change risks and the credit status of individual names and operating assets as a whole with consideration for climate change elements. The world of international fund management is strongly aware of decarbonization.
On the other hand, the success or failure of responses to climate change issues have a significant impact on the rise and fall of individual companies. This is one of the reasons why international companies in Europe and the United States are accelerating their efforts to combat climate change. Last year, Microsoft announced it would reach net-zero GHG emissions by 2030. The company said that it would use 100% renewable energy by 2025 and invest $1 billion in the development of innovative green technologies. The company will also work to reduce GHG emissions by 2050 by an amount equal to the emissions the company emitted since its founding in 1975. Mr. Sueyoshi praised the effort as carbon negative.
IBM also said it would reduce its GHG emissions by 65% by 2025 from 2010, and achieve net-zero by 2030. It also promised to use renewable energy for 75% of its worldwide power consumption by 2025, and 90% by 2030. Apple, which aims to be net-zero by 2030, announced its vision this spring to produce all of its products using only recycled materials.
Green QE theory
There is still a lot of room for sustainable finance with Japanese companies accelerating their efforts to reduce carbon emissions. Japan is also making a sharp turn toward sustainable financing, as three megabanks have indicated a policy to suspend financing for new coal-fired power generation.
However, the efforts of European and US financial institutions are far ahead; BNP Paribas (France) will stop accepting new customers with 25% or more earnings from coal-related businesses. Citigroup (US) also announced a zero-loan policy for companies with 25% or more earnings from fuel coal businesses. Britain's Royal Bank of Scotland will gradually stop investment and financing for energy companies that do not have a clear plan to lower their carbon footprint.
As the trend of sustainable finance continues to gain traction, decarbonization is the important theme among financial regulators and central banks in countries. In June of last year, the Network for Greening the Financial System (NGFS), which includes the Financial Services Agency and the Bank of Japan, estimated that up to 25% of global GDP will be lost by 2100 if responses to global warming are delayed. This estimate is considered to be the base for countries to analyze and forecast the impact on financial systems, and will have a significant influence on the policies of countries including Japan.
The Bank of England has conducted a stress test (financial health review) to measure the resistance of banks against climate change risks, and will publish the results in 2021. Other central banks in Europe including France are also looking forward to conducting stress tests.
According to Mr. Sueyoshi, Financial Conduct Authority of the United Kingdom, a regulatory authority for financial institutions' soundness, decided on a policy that requires listed companies to disclose climate change risks in accordance with the Task Force on Climate-related Financial Disclosures (a framework for information disclosure regarding companies' efforts and impacts on climate change). It will be applied to some major companies listed on the London Stock Exchange from January 2021, and to all companies in 2025.
Japan's Financial Services Agency has also established an expert meeting to examine the way investment and financing are operated toward sustainable economic growth, and has started to examine the efforts by financial institutions and companies. It will require three megabanks and other banks later to analyze the effects of climate change on finance. It also considers demanding banks to offer consulting and financing to companies that want to transform their business structures for decarbonization. The Bank of Japan is planning to take climate change factors into account in its examinations to check the risk management of financial institutions.
Meanwhile, Sweden's Riksbanken sold Australian and Canadian government bonds, which it had held as foreign currency reserves, in 2019 because of high GHG emissions, and has announced that it will exclude non-environmentally friendly corporate bonds from its potential purchase assets from 2021.
The Bank of England will also consider replacing its purchased bonds on the basis of climate change risks. The efforts made by central banks in Europe are significant and occurring swiftly. Christine Lagarde, the President of the European Central Bank (ECB), expressed a strong desire to work on solving climate change problems from a monetary policy standpoint. The ECB is considering introducing "Green QE" for purchasing green bonds as one of the quantitative relaxation measures to provide funds to the financial markets.
As a former director of the Bank of Japan said, "excessive involvement in climate change risk is contrary to the neutrality required for central banks," and there are strong beliefs that financial authorities should be separated from climate change risks. There is no denying that the Bank of Japan will be forced to take green responses, including green QE, however, following the flow of sustainable finance in Europe accelerating in both the private sector and central banks such as ECB.
* This paper was published in the May 13 2021 issue of Kinyu Zaisei Business. After the publication of the issue, the Bank of Japan announced its policy on climate change.
writer：Visiting Fellow of Jiji Research Institute Yoshio Hori
Yoshio Hori joined Jiji Press in 1981 and was assigned to the Economic Department. He covered the Ministry of Finance, Ministry of Economy, Trade and Industry, the Bank of Japan, the business community, and trading companies. He was a correspondent in London from 1993 to 1997, and has been the vice director of the Economic / Industrial Departments, director of the Industrial Department, and full-time chief of the Editorial Department. He now works as a commentator. He has been a visiting fellow of Jiji Research Institute since April 2021.