The climate crisis is unavoidable but can be mitigated if companies take the required action to keep rising global temperatures in check. Many of the major decarbonization pathways are relatively known, requiring a move away from fossil fuels to renewable energy as well as the use of new technologies in high-emitting sectors to reduce emissions. However, while pathways are laid out, it doesn’t mean that corporations are sticking to them. Lawrence indicated this was a point of discussion at yesterday’s IFRS Sustainability Symposium in New York. Absent voluntary corporate action, governments are likely to take drastic action resulting in stranded assets and higher chances of default among carbon-intensive companies. These risks manifest in the banking sector as lenders face the ultimate risk of such default. The European Central Bank recently issued a report on the risks associated with investment that are not policy-aligned. The report states that:
“The reduction in a corporation’s market competitiveness may result from higher carbon prices, greater dependency on energy prices, asset stranding, stricter environmental regulations and changing consumer preferences, ultimately leading to a rise in its default risk. The risk of default is highest in a delayed transition scenario, which would require abrupt government action and rapid adjustment by corporations.”
The report found that 50% of misalignment came from investments in corporations that are too slow in phasing out carbon-intensive technologies, while an additional 30% came from failure to sufficiently fund renewable energy. In addition to risks posed by stranded assets and loan defaults, the report also found an increase in litigation and reputational risk, particularly among firms that made pledges to be Paris-aligned, but are failing to meet those goals.
Last year was marked by several aspects of climate disruption beyond just physical risk. This year is shaping up to be similar. As major climate events continue to occur, pressure is mounting on lawmakers to take climate. Companies and financial institutions without alignment between policy and finance will see the worst effects of a rapid transition.
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