14 November 2022
Are regulators suffering mission creep at COP27, asks Peter Cripps
It was not so long ago that financial regulators and supervisors dedicated their time to matters such as the solvency of insurers or policing against insider trading.
But nowadays they seem to spend just as much time dealing with sustainable finance, a topic that was not on their radar a decade ago.
Arguably, the turning point came in 2015 when then-governor of the Bank of England Mark Carney delivered his Breaking the Tragedy of the Horizon speech. It was transformative because it made it clear that climate risk is financial risk, and that short-termism rendered financial markets incapable of properly assessing and mitigating these risks.
By arguing that climate risks had implications for financial stability, Carney put climate change firmly on the agenda of the regulatory community. And there has been no turning back.
In recent years regulators and quasi-regulators of all shapes and sizes have intervened in the sustainability debate. They have:
- Assembled a forum called the Central Banks and Supervisors Network for Greening the Financial System (NGFS) to discuss all manner of environmental issues.
- Turned their hand to devising climate scenarios.
- Run climate stress tests for banks, checking that banks are adequately assessing climate risk – and in some cases threatened higher capital charges for those that do not.
- Drawn up regulations or proposals for how funds can label themselves as 'sustainable', and looked at greenwashing risks more broadly.
- Prioritised buying debt from greener companies through their asset purchase facilities.
- Warned that they could start regulating ESG data providers.
- Called for more and better ESG data to be reported and contributed to initiatives to standardise sustainability reporting, such as the International Sustainability Standards Board (ISSB). The NGFS and IOSCO are both helping to set up the Net-Zero Data Public Utility, more details of which emerged in the first week of COP27.
- Explored other environmental risks, such as biodiversity.
This sprawling list of activities were in evidence at COP27, in Sharm El-Sheikh. Once the sole preserve of negotiators, carbon market wonks and activists, COPs nowadays have become part of the stamping ground for regulators. They were at large at COP27, and it seems their focus on sustainable finance is growing.
The NGFS hosted its own event, at which it announced it is launching an initiative to help encourage more blended finance, and this will produce a guidebook on the subject by the next COP, next year in Dubai.
"The reason that regulators are getting involved is that we, as a global community, have failed so spectacularly to address climate change"
Meanwhile, the International Organization of Securities Commissions (IOSCO), an association of regulators of the world's securities and futures markets, showed that carbon markets are now within its sights, as it produced reports on how to build credible mandatory and voluntary carbon markets.
Verena Ross, chair of the European Securities and Markets Authority (ESMA) and co-chair of IOSCO's carbon markets workstream, said in a press release: "Our recommendations build upon lessons learned from existing compliance markets, but more fundamentally draws on the experience of financial markets regulators in overseeing well-functioning securities, derivatives, and commodities markets."
What is interesting about the latest interventions at COP27 is that regulators' sphere of influence seems to be expanding. Regulators and supervisors, having ascertained that climate risk is financial risk, are beginning to expand their reach into all corners of the financial system, and are beginning to look at how they can boost solutions to climate change.
Blended finance is primarily the preserve of multilateral development banks and development finance institutions. And compliance carbon markets are the responsibility of governments, who set the rules.
Regulators now seem to be implicitly telling governments and development bankers that they are not doing a good enough job.
In fact, Ravi Menon, managing director of the Monetary Authority of Singapore and chair of NGFS, seemed to say as much in one of his numerous speeches at COP27. Arguing that better risk mitigation and risk transfer mechanisms were needed, he added: "We need catalytic and concessional funding from the public sector, multilateral development banks, and philanthropic sources, to improve project bankability and crowd-in additional multiples of private sector funding.
"This will mean re-looking the financing models and incentive structures of multilateral development banks."
Some, no doubt, will view this encroachment as 'mission creep'. Some market participants have already said to me that, when it comes to climate change, regulators are over-reaching themselves by stepping into the domain of governments/policymakers.
Personally, I think their focus on sustainability is to be welcomed. Their climate-related activities are not within their traditional list of activities. But the reason that regulators are getting involved is that we, as a global community, have failed so spectacularly to address climate change.
This poses systemic financial risks – as well as myriad other types of risks – and so regulators feel entitled to step in. I am glad that they are.
Arguably, regulators are set to play an even greater role. It was interesting that a recent report by the UN High-Level Expert Group on the Net-Zero Emissions Commitments of Non-State Entities called for more action by regulators. One of these recommendations was that "countries should launch a new Task Force on net zero Regulation to convene regulators across borders and across regulatory domains, alongside leading voluntary and standard-setting initiatives and independent experts, to drive reconfiguration of the ground rules of the global economy to align to the goals of the Paris Agreement".
It's a shame regulators are not able to regulate governments and their progress on tackling climate change, as this will be the real decisive factor as to whether we meet the goals of the Paris climate agreement.
Come to think of it, perhaps that is exactly what the COP process needs to set up next: a regulator for national governments with the power to sanction them if they fail to deliver on their nationally determined contributions (NDCs). The next step would also be to ensure their NDCs are sufficiently enhanced over time to ensure they adequately ambitious to meet the goals of the Paris climate agreement.
Peter Cripps is the editor of Environmental Finance.