The Paris Agreement targets: what’s finance got to do with it?
The invisible hand of finance in our climate crisis
In the wake of the Paris Agreement in 2015, and the rise of the global environmental movement, financial institutions around the world have made public statements on their recognition of the climate crisis and the efforts that they are taking to address climate change.
Some large global banks have made bold commitments to align with the Paris Agreement. JPMorgan Chase announced in October 2020 that it would work with “clients, policymakers and advocates to transition our economy and turn the goals of Paris into a reality”.1 That same month, HSBC reported that it will be aligning its finance emissions to “the Paris Agreement goal to achieve net zero by 2050 or sooner”.2 While Singapore’s local banks have been less ambitious, their sustainability strategies and frameworks still make reference to the Paris Agreement.3,4
What does it mean for financial institutions to align with the Paris Agreement?
The familiar goal of the Paris Agreement is to keep a global temperature rise this century well below two degrees Celsius above pre-industrial levels, and to pursue efforts to limit the temperature increase even further to 1.5 degrees Celsius. A cornerstone of the Paris Agreement is for each respective nation to voluntarily declare their own targets, known as nationally determined contributions (NDCs), that they intend to achieve. Together, these NDCs determine whether the world achieves the long-term goals of the Paris Agreement.
What is less known is the role that financial institutions play. Article 2.1c of the Paris Agreement calls for “making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development”.5 Hence, there is an imperative and considerable pressure on financial institutions to play their part for the world to achieve Paris Agreement goals. But specific targets are not laid out, and neither is it clear yet how these financial institutions relate to the long-term goals of the Paris Agreement. What does alignment with the Paris Agreement mean for a financial institution?
“Despite financial institutions’ invisible hand guiding financial flows to other sectors, their involvement does not feature alongside industries notorious for being carbon intensive polluting sectors in reporting.”
On their own, financial institutions produce few greenhouse-gas (GHG) emissions directly. Most of their reported emissions come from their electricity generation and consumption. This is known as Scope 1 emissions. Scope 2 emissions include emissions from purchased or acquired electricity, steam, heat and cooling. While Scope 1 and 2 emissions are not insignificant, they are not the most contentious either.
Where the actual carbon footprint of financial institutions’ materialises is when we account for “financed emissions”. Financed emissions are emissions associated with a financial institution’s lending and investment activities. This falls under Scope 3 emissions, which are the indirect emissions throughout the value chain of a company. Presently, Scope 3 emissions reporting is not mandatory and generally done on a voluntary basis.6 As a result, these financed emissions are largely unreported. For instance, most banks presently only calculate and report indirect emissions related to purchasing goods and services and employee commuting under Scope 3 emissions.7 Limited data from financial institutions suggest that financed emissions are 100 to 1,000 times greater than operational ones.8 This is a major gap in the current reporting framework, given that it is these financial activities that are the bread and butter of any financial institution.
Accounting for these financed emissions becomes difficult once we consider the way in which the Paris Agreement seeks to achieve its targets through NDCs. As NDCs are provided by each country, their emissions are accounted for in terms of each territorial nation-state. These emissions are segmented into neatly divided territorial units. However, financial flows are often not confined within nation-states, and instead occur between them. Allocating emissions to one particular territorial unit overlooks the ways in which financial flows often traverse across national borders. Compounding this matter is the fact that financed emissions do not feature in cities’/countries’ emissions accounting and reporting practices.9
For this reason, most emissions reporting frameworks only require direct emissions to be reported. It prevents double counting the same emissions to more than one different country, and reduces complexity.
The path for a financial institution to be aligned with the Paris Agreement is therefore far from clear. Despite financial institutions’ invisible hand guiding financial flows to other sectors, their involvement does not feature alongside industries notorious for being carbon intensive. Yet, their role in transitioning to a low-carbon and Paris-aligned economy cannot be understated.
Finance: the path ahead
Advocacy groups have attempted to set guiding principles for financial institutions to be Paris-aligned.10 This includes ensuring that the projects and companies they support are themselves Paris-aligned. For example, coal financing and new fossil fuel financing have to be halted and rejected. Project finance for projects that involve degradation or loss of natural forests or ecosystems should be prohibited. Instead, funds should be directed to green finance, such as renewable energy projects and new technologies to reduce or capture emissions. Similar to country targets, financial institutions should commit to halving their financed emissions by 2030 and achieving net-zero by 2050.
"According to the Science-Based Targets Initiative, only 14 financial institutions have set science-based targets to align their lending and investment activities in line with a 1.5 degrees celsius future, signalling how difficult it is on the part of financial institutions to police their clients."
Singapore, as one of the signatories to the Paris Agreement, submitted its updated NDC in 2020.11 As with other NDCs, these included no specific targets for local financial institutions. While the Singapore government has acknowledged the importance of the financial sector in tackling climate change, and the central bank has published guidelines on environmental risk management12 and implemented measures encouraging the growth of green finance,13 alignment of the financial sector and its actors with the Paris Agreement leaves much to be desired. Furthermore, none of the three major local banks (DBS, OCBC, and UOB), have made a public commitment to align with the targets of the Paris Agreement, nor do they report financed emissions.
While Singapore’s three major local banks’ commitment appears to be insufficiently Paris-aligned, they are hardly alone. Though some financial institutions have committed to all the Paris-aligned principles proposed by advocates, most have decided to pick and choose instead. According to the Science-Based Targets Initiative, only 14 financial institutions have set science-based targets to align their lending and investment activities in line with a 1.5 degrees celsius future, signalling how difficult it is for financial institutions to police their clients.14
The Paris Agreement relies on whole economies to curb greenhouse-gas emissions. Financial institutions, with their significant lending and investments, are critical in influencing industries' and companies’ strategies and investments. In the absence of binding targets, the commitments made by financial institutions may not be adequate for the transition towards a low carbon economy. Unless financial institutions collectively commit to stringent Paris-aligned principles, the economic transition may not happen fast enough to meet our sustainability goals.
footnotes
1 JPMorgan Chase (2020), JPMorgan Chase Adopts Paris-Aligned Financing Commitment, https://www.jpmorganchase.com/news-stories/jpmorgan-chase-adopts-paris-aligned-financing-commitment
2 HSBC (2020), HSBC sets out ambition to build a net zero economy, https://www.hsbc.com/media/media-releases/2020/hsbc-sets-out-ambition-to-build-a-net-zero-economy
3 Natalie Choy (2020), DBS rolls out sustainable and transition finance framework, taxonomy, https://www.businesstimes.com.sg/companies-markets/dbs-rolls-out-sustainable-and-transition-finance-framework-taxonomy
4 UOB (2020), Sustainability Strategy, https://www.uobgroup.com/investor-relations/sustainability/index.html
5 United Nations Framework Convention on Climate Change (2015), Paris Agreement, https://unfccc.int/sites/default/files/english_paris_agreement.pdf
6 Greenhouse Gas Protocol and UNEP Finance Initiative (2013), Guidance for the financial sector: Scope 3 accounting and reporting of greenhouse gas emissions, https://ghgprotocol.org/sites/default/files/standards_supporting/New%20York%20Scoping%20Workshop%20Summary%20-%20GHG%20Protocol%20Financial%20Sector%20Guidance.pdf
7 ADEME - the French Agency for Ecological Transition (2016), Understanding the issues around quantifying GHG emissions in the financial sector (Volume 1), https://www.banktrack.org/download/understanding_the_issues_around_quantifying_ghg_emissions_in_the_financial_sector_1/fichier_v_1_eng_understanding_the_issues_around_quantifying_ghg_emissions_in_the_financial_sector.pdf
8 The Economist (2020), Making sense of banks’ climate targets, https://www.economist.com/finance-and-economics/2020/12/12/making-sense-of-banks-climate-targets
9 See: the GHG Protocol for cities, which is the globally-accepted framework for cities and local governments to consistently identify, calculate and report on city greenhouse gases, https://ghgprotocol.org/sites/default/files/standards/GHGP_GPC_0.pdf
10 Rainforest Action Network (2020), Principles for Paris-Aligned Financial Institutions, https://www.banktrack.org/download/principles_for_parisaligned_financial_institutions_climate_impact_fossil_fuels_and_deforestation/ran_principles_for_parisaligned_financial_institutions.pdf
11 MSingapore Government (2020), Singapore’s update of its first Nationally Determined Contribution (NDC) and accompanying information, https://www4.unfccc.int/sites/ndcstaging/PublishedDocuments/Singapore%20First/Singapore's%20Update%20of%201st%20NDC.pdf
12 Monetary Authority of Singapore (2020), Guidelines on Environmental Risk Management for Banks, https://www.mas.gov.sg/regulation/guidelines/guidelines-on-environmental-risk-management
13 See e.g.: https://www.mas.gov.sg/schemes-and-initiatives/sustainable-bond-grant-scheme , see also: green finance action plan, https://www.mas.gov.sg/development/sustainable-finance
14 Science Based Targets (2020), Companies taking action, https://sciencebasedtargets.org/companies-taking-action?sector=Banks%2C%20Diverse%20Financials%20and%20Insurance&ambitionToggle=1#table