As business risks go, they don’t come much bigger than climate change.
This week, the banking regulator APRA issued draft guidance to the finance sector, warning of the “unprecedented” and “far-reaching” impact of climate risks to all parts of the financial system.
So pressure is now building on the big end of town to clearly identify the threats it faces from global warming, and what boardrooms intend to do about it.
APRA’s Chair Wayne Byres told PM he wants to ensure Australia’s big financial institutions are taking the risks seriously.
“From our perspective the biggest risk for financial institutions is simply being caught unawares by the changes that are happening,” he warned the banks, insurers and super funds he regulates.
“The climate is changing, government policies around the world are changing, that’s impacting economies and industries that are changing, investor expectations are changing, and in some cases all of that change is happening quite quickly.”
A quiet word
Since the federal government signed up to the Paris Agreement, the Australia Prudential Regulation Authority has been raising awareness of climate-related risks to the financial sector.
Now, warned APRA Chair Wayne Byres, big financiers need to assess, measure and respond to risks posed to their business from global warming.
Crucially though, APRA’s draft prudential practice guide — which outlines what boards should do — does not direct or prevent organisations from generating, or funding the generation of, even more emissions.
Mr Byres said that’s not APRA’s role.
“That is a business decision every financial institution has to make.
“What we want, and the guidance is designed to help them in this regard, is we want to make sure when they’re making those decisions, they’re doing so in a well-informed manner.
“[We want them to] understand those risks, and they understand the opportunities as well, because there are opportunities that will come from a changing climate.”
Will a gentle nudge work?
So where does this leave us?
Scientists warn that, because of humanity’s carbon emissions, the average global temperature is rising.
This in turn contributes to unprecedented weather events.
These weather events have the potential to cause deep and severe financial disruption through damage, insurance claims and economic interruptions locally and to wider supply chains.
In other words, as the Reserve Bank has put it, global warming presents a financial stability threat.
Former Liberal leader John Hewson is now a professor at the ANU’s Crawford School of Public Policy.
He’s written to both the Reserve Bank and APRA to express his concerns on climate risk, and has offered up possible policy responses for the business community.
He argued that the next logical step — after providing guidelines to assess, measure, and put plans in place to mitigate climate change risks — is to actually force big business to move away from association with fossil fuels.
“Of course there’s always that longer-term threat that maybe they’ll seek to regulate [action on climate change] if institutions don’t respond,” Dr Hewson told PM.
Action on climate change is risky
When big companies do forge ahead with action on climate change, that itself can be risky and hurt their business and stakeholders.
Late last year, ANZ pledged to stop funding new coal mines and power stations, announcing plans to fully exit thermal coal by 2030.
But the policy was criticised at the time by senior National Party politicians who said the bank was giving in to activist pressure.
The regulator is now making clear its desire for boardrooms to proactively respond to risks of climate change with measurable actions.
Within the Prudential Practice Guide, APRA said that where financial institutions can’t resolve climate risks with a customer or business partner, they may also need to consider their “ability to continue the relationship” with the customer.
This does, in effect, provide moral support and some additional cover for financial firms to take controversial actions to mitigate climate risks.
But Kobad Bhavnagri, the head of economics and policy with Bloomberg New Energy Finance, doesn’t think the guidance goes far enough to encourage change.
He said that APRA’s guidelines fall short of international best practice, and fail to consider the impact of political hurdles to action on climate change.
“The problem in Australia is that very common-sense measures on climate get political pushback,” he told PM.
It leads him to argue that businesses and their boards need greater protection to take action on climate change, even when it may hurt some of their stakeholders or the company’s bottom line in the short term.
APRA’s Wayne Byres said he’s keen to keep the regulator out of politics, which may explain the absence of more binding requirements for climate risk mitigation on the financial sector.
Regulate or perish
In Adam Smith’s Wealth of Nations he introduced the idea of free trade and the free market.
His thesis centred around the idea that human selfishness or self-interest would work together collectively to boost overall economic growth.
What APRA says it’s noticed recently, and is evident by investment decision taken by big corporations including ANZ, is that the big end of town is moving big money in response to the threat of climate change.
That may mean limiting their financial exposure to investments earning income from fossil fuels and/or growing their investments in renewable energy.
Left alone this may help the move towards net-zero carbon emissions, but government also has a role to play.
One former US Treasury secretary once observed that risks of a climate-induced global financial crisis dwarfed those posed by the sub-prime mortgage crisis in America.
Australia’s financial markets regulator ASIC stepped in during the 2020 coronavirus stock market crash to limit losses generated by automated trading, demonstrating the scope for direct intervention by a statutory authority to protect us from ourselves.
APRA is an independent statutory authority that has significant power to not only guide, but direct, major financial institutions.
A disappointing aspect of its draft guidance issued this week is that the chair himself noted that it didn’t contain “anything specific … that is new.”
So will it make any difference at all to the actions Australia’s major financial institutions are already taking off their own bat to address the risks of climate change?
APRA is seeking stakeholder feedback on the draft guidelines by the end of July and will no doubt receive plenty.