Greening the economy

ARTICLE

Greening the economy

Ahead of The World Green Economy Summit in Dubai in October, Hanife Ymer, Head of Sustainability Services at KPMG in the Lower Gulf, explains how green finance can support the world transition towards a low-carbon future.

The world is finally waking up to the importance of sustainability and its emerging social, economic and environmental effects. You only have to look into the discussions regarding the threats and impacts already being felt with regards to climate change to appreciate the ever-increasing focus on sustainability-related issues.

Whether it is the global campaign to outlaw plastic straws and shopping bags, or the introduction of green building regulations and greenhouse gas emissions limits, every sector of the economy is going to be affected by the increase in sustainability-related issues and their impacts.
In December 2015, world leaders agreed to limit global temperature increases in this century to less than 2 degrees Celsius from pre-industrial levels, and make further efforts to cap this rise to 1.5 degrees Celsius. The agreement today is known as the Paris Agreement or COP 21 (COP stands for the Conference of the Parties, established by United Nations Climate Change Conference (UNFCCC)). Since the Agreement, there have been increasing calls for more action to be taken, with much of the evidence pointing to a 3-4 degree Celsius rise in temperature based on current activities.
The UAE was one of the first countries to ratify the Paris Agreement, and has been cascading its commitments under the Agreement throughout the economy, using regulations and other measures. The Government has, since ratifying the Agreement, launched the National Climate Change Plan, which targets ‘green’ energy (i.e. renewable, non-fossil fuel-based) to meet 27 per cent of the country’s energy needs by 2021 and 50 per cent by 2050.
It is also looking to develop a national climate change management system to measure and control greenhouse gas emissions. The UAE has chosen to approach climate change as not just a threat but an opportunity for growth and prosperity, making the development of innovative green products and services part of its broader economic diversification objectives.

International hub

Dubai has gone one step further and aims to be recognised as the global capital of the green economy. It has embarked on an ambitious programme involving initiatives to cut greenhouse gas emissions and to adopt cleaner sources of energy. The emirate plans to cut carbon emissions by 16 per cent by 2021, and have the world’s lowest carbon footprint by 2050. By this time, it hopes 75 per cent of its energy needs will be met from clean sources.
To achieve these objectives, Dubai Electricity & Water Authority (DEWA) is developing, in phases, the world’s largest single-site photo-voltaic ‘farm’, the Mohammed bin Rashid Al Maktoum Solar Park, with an expected ultimate capacity of 5,000 MW by 2030. It has also rolled out a distributed rooftop solar power programme and is working to cut the consumption of water and electricity by 30 per cent by 2030, through installing smart meters and grids, and retrofitting inefficient buildings, among other initiatives.
With the Dubai Green Mobility Initiative, the emirate is actively encouraging the use of electric vehicles. The target is for at least 10 per cent of all newly purchased cars to be electric or hybrid between 2016 and 2020. To encourage the take-up of electric vehicles, DEWA is allowing owners to charge their cars for free until the end of 2019, and the Dubai Roads & Transport Authority is providing free parking and exemptions from registration fees and Salik road tolls. The aim is for the proportion of electric and hybrid cars to rise to 2 per cent by 2020, and 10 per cent by 2030.
How sustainability fits within the financial services sector might not be immediately apparent but it has an instrumental role to play in steering the world towards a low-carbon future, because every initiative requires finance.

Green finance

A term you hear with growing frequency is ‘green finance’ and there is often confusion about what it means.
Green finance does not necessarily relate to new financial instruments, in fact many of the financing arrangements are the same structures as conventional finance, but instead focus funding arrangements around green activities. This might include water management, protection of biodiversity, environmental goods and services, climate change adaption and mitigation initiatives, and more commonly, activities related to solar, wind and alternative energy.
The most common green financing arrangement is a green bond, which is a bond in the conventional sense. Globally, about $160bn-worth of green bonds were issued in 2017, and the total for the first half of 2018 was $74.6bn, an increase of 4 per cent year on year. Since the emergence of the green bond market activity in 2014, there has and continues to be exponential growth. In 2014, $37bn was issued and by the end of 2017 issuances reached $162.5bn as detailed by the Climate Bond Initiative.

Funding gap

Although green financing is on the rise, the amount of funds being made available still falls short of what is needed. It has been estimated that the total investment costs of meeting the United Nations’ Sustainable Development Goals (and therefore the transition to a low-carbon future) by 2030 is between $5 trillion and $7 trillion each year (United Nations Development Programme).
It is clear that global markets have the power to unlock the necessary capital to support a low carbon transition, but they have to be motivated to do so. To date, much of the debate regarding the Paris Agreement has been targeted at governments and the financial services sector. In focus, here is the ‘investment gap’ between existing levels of green finance and what is required to meet the Paris Agreement commitments, estimated to provide $23 trillion in opportunities for climate-smart investments between now and 2030 (IFC Climate Investment Opportunities).
Actions driving the increased green financing activities include policy development such as emissions reduction targets, renewable energy targets, changes to fiscal and tax policies (i.e. tax benefits which favour green products and services), increasing understanding as to the benefits of green financing, and the increasing focus on long-term value creation by investors. All of these together are driving greater focus by investors, shareholders and pension fund members, where they are actively channelling their investments to greener and more socially responsible investments.
Further, there are the likes of stock exchanges and other bodies – such as the Financial Stability Board Taskforce of Climate Related Financial Disclosures – which are pressuring for the private sector to do more in the area of sustainability, including ways to support a low carbon economy. Finally, increasing transparency and better disclosures are driving confidence and integrity of green financing activities, allowing investors to better understand and price risk, which in turn is informing investment decisions.
Here in the UAE, the government is leading the effort: the country has launched two important initiatives to stimulate green financing.
In 2016, the Dubai Declaration on Sustainable Finance was unveiled, under which leading UAE banks agreed to provide finance to projects, businesses and customers with sustainable purposes. Over 30 lenders have signed up to the initiative; First Abu Dhabi Bank has committed $10bn for sustainable financing over 10 years, while Emirates NBD has launched a financing programme to support the purchase of electric and hybrid cars.
In the same year, DEWA launched the AED100bn ($27bn) Dubai Green Fund to finance investments in green projects, including renewable schemes and energy efficiency initiatives, in collaboration with local banks. The Dubai Green Fund has been established as the investment arm of DEWA and offers loans with favourable interest rates to companies in the clean energy sector, while also investing directly into green projects, acting like a traditional fund. The hope is that, eventually, the Dubai Green Fund will attract institutional investors.

Driving change

The financial services sector and capital markets have always been identified as the enablers and the catalysts needed to bring funding at a large scale to address the problem of climate change and other sustainability-related concerns. Traditionally, institutional investors have had a short-term, profit-driven focus, but we are now starting to see a change. We are now witnessing the emergence of longer-term investment decisions; the embedding of environmental, social and governance (ESG) considerations in investment decisions; and increasing thematic investments such as sustainable and / or responsible investment funds.
With the ever-expanding landscape of climate change policy, and in considering the statements being made by financial services regulators and central banks, financial services institutions are being forced to reassess the level of risk across their investment portfolios and the potential impact on asset values against the backdrop of environmental policy changes. If not considered, these investors run the risk of being left holding impaired or stranded assets.
Community activism is another driving force. As we have seen, the millennial generation can quickly turn against a company or abandon a product deemed unethical, damaging share prices in the meantime.
The convergence of financial and non-financial risks and how it is informing strategic intent is fascinating, especially the idea that banks, pension funds and corporates in general could be deemed negligent if they don’t factor into their investments forward volatility risk linked to environmental and social issues and impacts. This is driving a gradual move towards the greening of investments across the financial sector.
Already we have seen some of the world’s biggest institutional investors and banks rethinking their funding of fossil fuel-related activities. Some European banks are no longer willing to finance Arctic drilling or coal-fired power plants in developed countries. Others have committed specific sums to green finance. For example, HSBC has pledged to provide $100bn over the next seven years to green funding, and a Dutch pension fund has promised to reduce its listed-company carbon intensity by 50 per cent by 2020. 

Snowball effect

Green investments still only make up a small part of the global market, but it has the potential to be transformative. As demand for green assets grows, the private sector will be forced to ensure their activities take into account sustainability considerations. Companies who do so, may well benefit from access to capital at lower costs and increased consumer preferences, for example.
Stock exchanges around the world are now taking steps to encourage and support sustainability disclosures and / or are making sustainability reporting a listing requirement.
In time, as governments continue to put in place the necessary policy levers to create market incentives for green investments, and as stakeholders continue to demand greater responsibility in their investments and of enterprises, we will likely start to see the momentum and scale needed to truly address climate change. Having seen the efforts and focus that the UAE government continues to apply in its push for diversification of the economy, and the need to balance that with social and environmental responsibility, there is renewed hope in bringing solutions to the climate change challenge.

Topics

  • Sustainability
  • Green Economy
  • Finance