It’s the hottest debate in climate finance: whether to divest high-emitting industrial assets or fund them until they can be shut down.
A global coalition of 500 banks, asset managers and insurers has released its plans and procedures for dealing with assets such as coal mines, oil fields, steel mills and cement plants that don’t fit into the objective of getting to net-zero carbon emissions by 2050, but still may be in use. It’s called managed phase-out.
The Glasgow Financial Alliance for Net Zero, or GFANZ, has set out an extensive list of guidelines financial institutions will use to transform their businesses so they fit with the goals of the Paris Agreement on combatting climate change. The net-zero transition plans comprise a series of recommendations for lenders and investors that have committed to using their financial might to accelerate the shift to a low-carbon economy.
Mark Carney, the former governor of the Bank of Canada and Bank of England, led the formation of the group of financial institutions from 45 countries. The proposed framework represents the start of real work with the GFANZ signatories – which include Canada’s major banks – and the group is seeking public input.
The section involving managed phase-out of polluting assets could be the trickiest to nail down.
There’s no question this needs to be dealt with. In a business-as-usual scenario, emissions from fossil fuel infrastructure in operation today would exceed the goal of keeping the global temperature increase to 1.5 degrees Celsius by almost a third, according to the Intergovernmental Panel on Climate Change. If currently planned infrastructure is added, it would exceed that target by two-thirds.
Banks and other institutions are under intense pressure from environmental and shareholder activists to pull their financing from high-emitting industries such as oil and gas. As the argument goes, cutting off access to capital will force environmental laggards to transform their businesses so the operations no longer emit greenhouse gases, or are forced to shut down in the name of staying within the world’s carbon budget.
The GFANZ managed phase-out working group, which included representatives from BlackRock, Goldman Sachs, Citigroup, HSBC and other major institutions, warns of unintended consequences. Chief among them is that high-emitting assets get sold to entities that have no interest in meeting net-zero goals, and those entities keep operating the assets while doing nothing to reduce emissions.
“Many high-emitting assets need to be operated and financed in the near term while technologies to replace them are deployed,” the group said. “These consequences may be particularly pertinent in emerging markets and developing economies.”
Indeed, high-emitting assets tend to be built more recently in those regions than in developed economies. That makes them much further from the end of their planned economic life, and pricier to wind down.
But the problems don’t just exist there. European consumers have been under severe strain since Russia invaded Ukraine, and Western allies responded with sanctions, sending energy prices skyward. It has shown how dependent economies still are on fossil fuels, despite an ambitious drive to adopt renewable energy sources.
Mr. Carney told The Globe and Mail in April the crisis will necessitate funding more oil and gas production to make up for Russian supplies, and new and expanded fields will eventually be added to the list of stranded assets that need to be dealt with.
Managed phase-out offers a number of benefits, according to GFANZ. For one, it allows companies with solid transition plans to deal with their high-emitting assets. It keeps financial institutions involved with the companies as they shift away from high-carbon operations. It will also draw in other stakeholders to support the retraining of workers and keep critical services operating, the group said.
According to GFANZ, the phase-out of an asset would start with identifying how the plan fits with a company’s net-zero strategy, and how workers and communities will be affected. The financial institution will assess the risks, spell out how its plan is financed and describe the incentives for early shutdown.
The group prescribes having a backup plan should emissions reductions or timelines for retirement fall short. There are also governance considerations, including determining who in the organization is in charge of the phase-out and linking compensation to its targets.
The difficult part for companies and their lenders is weighing it all against the option of divesting, when selling could provide more immediate value, or when returns from operating through to early retirement don’t measure up. GFANZ also said some institutions may not have the capacity to finance an asset to early retirement, so that could require partnerships.
Public money could be required in some cases, given the shortened economic life or when private money has gone into public assets.
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Jeffrey Jones