Mark Carney has suggested environmental risk should be integrated into credit ratings, calling for greater standardisation of green bonds and climate disclosure, in a speech in which he declared Germany’s upcoming presidency of the G20 “decisive” for the green economy.
The Chair of the Financial Stability Board and Governor of the Bank of England gave the Arthur Burns Memorial Lecture in Berlin yesterday, saying that the transition to a low-carbon economy would require new markets to be built. Germany, he said, had an “historic chance to mainstream climate finance and turn risks into opportunities” under its leadership of the G20, which will commence next year.
Green finance “cannot conceivably remain a niche interest over the medium-term,” he said, adding that the Paris Agreement made at COP21 in December “brings forward the horizon”. This will “put a premium on the ability of private markets to adjust”.
After pointing to plummeting profits at coal firms and utilities – including a drop of more than 99% in the market capitalisation of the four largest US coal producers since the start of the decade – Carney turned his attention to what needed to be done to build new, mainstream green markets.
Green bonds have been a particular focus for Carney in recent months. The asset-class, he said, could shift borrowing to the capital markets from conventional bank lending. This “will also free up limited bank balance sheet capacity for early-stage project financing and other important infrastructure lending.”
He proposes a measure for “integrating environmental risk and green certification into credit ratings”. So far, the main credit ratings agencies do not automatically or explicitly include environmental factors in their assessments, although they say they will integrate any relevant risks, including climate change where deemed material. Moody’s earlier this year launched a separate service to evaluate green bonds, but this is as opposed to incorporating the assessment into the conventional credit rating of the notes. S&P is currently consulting on a similar service, and China’s Golden Credit Rating launched a green bond assessment in partnership with Trucost earlier this month. Both Moody’s and S&P are looking at ESG evaluations more broadly, too, but these are also expected to function as a separate service from the main credit rating.
To scale the green bond market, Carney called for public- and private-sector players to cooperate in order to create “common green bond frameworks and definitions”.
Standardisation has been one of the main points of division in the green bond market. Some argue that consensus is needed in order to ensure the market’s integrity and make it easier for mainstream investors – or those without in-house environmental analysts – to invest in labelled green bonds.Others argue that investors should be able to decide what they see as eligible from a green bond, rather than being told by a wider market – this would allow different mandates depending on the level of ‘greenness’ adopted by the investor, and would make it easier for nuances, such as the climate landscape of individual countries and regions, to be considered.
Carney said authorities were working with the private sector to develop a “green bond term sheet with standardised terms and conditions”. Interestingly, in addition to addressing expectations around earmarking and reporting, the process is also looking into “an appropriate dispute mechanism for when these conditions are not met”.
Other measures Carney proposed include:
- Creating voluntary definitional frameworks, certification and validation
- Developing green bond indices
- Assessing the scope for standardisation and harmonisation of principles for green bond listings
Carney also addressed climate reporting in his talk, saying an improved culture of disclosure may “help to make a market”. He launched the Financial Stability Board’s Task Force on Climate-Related Disclosure at the end of last year, which seeks to come up with voluntary global guidelines to help companies disclose climate information that will satisfy investors. He told the audience that, despite its ambitious timeframe, the taskforce was on track to report to the FSB later this year, with a final report expected early in 2017.
He reiterated plans for the taskforce to address “incomplete and fragmented” disclosure. “Companies do not know what to report or how to report it,” Carney said. “Investors – even well informed ones – cannot access the information they need to assess the risks in their portfolios.”
He criticised conventional carbon foot printing – which only takes a snapshot of current emissions intensity – claiming “investors and creditors need to know the strategic as well as the static”. The taskforce is, as a result, looking at guidelines on forward-looking data, including investment into research and development and management of risks.
Carney also pointed to the importance of scenario analysis for investors, looking at a company’s responses to plausible changes in policy and technology relating to climate change. One scenario he suggested in his speech was based on whether the business strategy of a firm aligned with the commitments made under the Paris Agreement by the countries in which the company operates.