Seizing A Trillion Dollar Opportunity

Private sector banks, insurers, investors, asset managers engaged with Multilateral Development Banks, Development Finance Institutions, governments, and Sovereign Wealth Funds, joining consultants, data providers, climate tech innovators, and entrepreneurs in a complex web of intersecting conversations about the need to mobilise trillions in climate finance. One speaker emphasised that ‘we need trillions, not millions, not billions’ for climate mitigation, adaptation, and loss and damage.

The final agreed COP28 text noted that climate finance will ‘need to increase manyfold’ without requiring any specific undertakings by countries. However, it did highlight the need to removing barriers to greater financial flows to climate action and exploring new sources of funds.

New sources of funds

As part of the effort to explore new funding sources for climate action, an interesting development that may have flown under the radar was the launch of the Taskforce on International Taxation to scale-up development, climate, and nature action. This taskforce, led by France and Kenya, is looking into the role of targeted international taxes to find green and climate-resilient investment in developing countries. Under consideration are windfall taxes on fossil fuel companies, taxes on aviation and maritime transport, as well as an international financial transactions tax. The aim is to develop concrete proposals for formal adoption at COP30 – scheduled to be held in Brazil. So, its notable that taxation was specifically referenced in the COP28 final Global Stock Take agreement.

Global Climate Finance Framework

Discussions about how to reduce the cost of capital for climate mitigation and energy transition rehashed longstanding conversations about investment in emerging markets: conducive investment climates, currency risk, and technical assistance for project development. And while market-rate returns are required, in a higher interest rate environment, the climate finance gap is likely to widen unless there are shifts in the current financing paradigm: business-as-usual is simply not going to meet the challenge. A report published at COP28 found that only 16% of global climate finance needs are being met, and to meet those needs, climate finance would need to increase by at least 590%! Despite the pressing need for and intense focus on climate finance in Dubai, only 13 countries signed-up to the ‘UAE Leaders’ Declaration on a Global Climate Finance Framework’ which seeks to make ‘finance available, accessible, and affordable’.  Those 13 countries are the UK, Ireland, France, USA, UAE, India, Barbados, Kenya, India, Germany, the Philippines, Senegal, Colombia, and Ghana. The framework tackles the need to unlock the investment opportunity of climate action, mobilise domestic resources, free-up fiscal space for climate action, unlock ‘a highway of private finance’, broaden concessional finance, and deliver high-integrity carbon markets. Governments are urged to remove obstacles to and incentivise private sector finance in emerging markets.

Unlocking transition finance with credible transition plans

The unprecedented agreement to transition away from fossil fuels in energy the COP28 agreement is a strong signal that all players need to ramp up their transition plans. Credible transition plans are seen as key to unlocking the finance needed for decarbonisation, especially in the hard-to-abate sectors like steel and cement. Banks were urged to have tougher conversations with their clients about their transition plans and to disclose the nature and extent of these engagements – banks need to look to the asset management sector and its approach to stewardship as a model. One climate risk expert described current client engagement as a dietician noting how many cheeseburgers a patient was eating every week, but not telling them to cut back because of the harmful health effects. Another climate risk expert likened the current approach to transition risk as the children’s ‘pass-the-parcel’ party game: who will be holding the stranded assets when the music stops! More regulation can be expected on transition plans with the formation of the Taskforce on Net Zero Policy. This new taskforce will ensure the credibility and accountability of 1.5°C-aligned net zero emissions commitments by non-state actors – such as companies, banks, asset managers, etc – are underpinned with coherent policies and regulatory certainty. Supportive regulatory frameworks are seen as a critical ingredient in pushing private sector climate action by providing a level playing field for companies. Regulation is also considered vital in eliminating greenwashing and ensuring corporate accountability for commitments and conduct.

An orderly energy transition

There were several prominent commitments to accelerate the energy transition with concomitant opportunities for financial institutions. These include the Global Renewables and Energy Efficiency Pledge and the Mutual Recognition of Certification for Renewable and Low-Carbon Hydrogen and Hydrogen Derivatives. More controversial is the Declaration to Triple Nuclear Energy by 2050 which encourages the inclusion of nuclear energy in energy lending policies: it remains to be seen if private finance has the risk appetite for exposure to an expanded nuclear energy system. Financial firms will continue to direct capital into renewable energy projects to accelerate decarbonisation. There will be associated opportunities in critical transition minerals, distributed energy systems, and e-mobility. The final wording in ‘the UAE Consensus’ agreement recognising the role of transition fuels, while subject to controversy and criticism, will provide cover for firms with an appetite for financing LPG and LNG fuels.

Addressing the trust deficit in voluntary carbon markets

A great deal of attention was paid to unlocking voluntary carbon markets to mobilise climate finance, particularly how to overcome the trust deficit the market faces amongst many stakeholders. Whilst no agreement was reached on key rules to trade offsets bilaterally and kickstart a global market (article 6.2 and 6.4 respectively of the Paris Agreement), a process to develop a new ‘end-to-end integrity framework’ was announced by a partnership including the Voluntary Carbon Market Integrity initiative,  the Integrity Council for the Voluntary Carbon Market, the Science Based Targets initiative, CDP, and the ‘We Mean Business Coalition’. In addition, the leading independent carbon crediting standards setters also came together in a new collation to exchange best practice, improve climate mitigation effects of projects, ensure community benefits, and support countries implementing state-led carbon offset programmes under Article 6 of the Paris Agreement. This grouping includes the Global Carbon Council and Verra, amongst others. The overall aim of this collaboration is to have clear standards for project developers, intermediaries and buyers of carbon credits to promote environmental integrity, protection of human rights in projects, and addressing double-counting (where both the buy-side and sell-side count the carbon credits against their own climate targets).

Insurance has joined the climate finance conversation

Former U.S. Secretary of State Hillary Clinton called for a insurance sector reform at COP28, to ensure businesses, communities and nations are protected against the extreme weather events. And a senior leader in the insurance sector claimed that up until COP28 the insurance industry had been ‘missing-in-action in the climate finance ecosystem’ despite its central role in assisting empowering vulnerable communities to build financial preparedness against climate disasters and enabling and de-risking the transition by deploying insurance tools to help speed and scale the flow of capital.  A group of leading of re/insurance solutions providers stepped-up at COP28 with support for a new global taskforce on Credit Enhancement of Sustainability-linked Sovereign Financing for Nature and Climate’. These re/insurers will work with governments to reduce borrowing costs for developing countries through ‘blended insurance’ products. Discussions also highlighted the mispricing of climate-related risks and debunked the myth that climate risks in vulnerable countries in the Global South were uninsurable. The potential for new types of climate insurance products like parametric insurance were highlighted too. Nevertheless, expect more pressure on the insurance industry in 2024: the fallout from the implosion of the Net Zero Insurers Alliance, rising insurance premiums and losses, and improvements in the ability to attribute extreme weather events to climate change.

Looking towards Baku and COP29

In summary, COP28 was ‘a rolling-up our sleeves’ COP for the financial sector. Fewer headline announcements; more practical work on removing the obstacles to climate finance. Looking ahead to COP29 in Baku, Azerbaijan, financial institutions will be expected to demonstrate that they have further shifted their activities to be aligned with the transition away from fossil fuels and the ‘UAE Consensus’. Successful firms will be those that approach this task as an unprecedented commercial opportunity bringing the ingenuity, risk management, and deal-making acumen to the climate finance challenge.