Despite the recent spotlight on sustainable investing, the financial sector is still falling short, say experts. A new report by the World Wide Fund for Nature (WWF) warns that current practices of only integrating climate-related risks and impacts in existing mandates — and not including risks from nature loss — are insufficient to protect the world and its assets.
“The unprecedented rate of biodiversity loss — exacerbated by and contributing to climate change — is undermining key ecosystem services and natural resources on which the economic system depends, fuelling economic vulnerabilities and risks,” reads the WWF report.
Titled “Nature’s next stewards: why central bankers need to take action on biodiversity risk”, the report, launched on July 14, was compiled with contributions from a list of parties. They are: the Institute for Climate Economics (I4CE), Finance For Biodiversity (F4B), Ecofact, Council on Economic Policies (CEP) and International Union for Conservation of Nature (IUCN).
See: WWF: Seven tools to measure portfolio impact
Chiara Colesanti, fellow at the CEP, notes that central banks and financial supervisors have built up “significant expertise” to address climate-related risks. “They must now leverage this capacity to scale up their engagement and include further interrelated environmental dimensions into their decision-making,” she says.
Covid-19 a symptom
Covid-19, a zoonosis or an infectious disease that has jumped from an animal to humans, is a symptom of such nature loss, say experts. “The loss of biodiversity results in material financial risks for financial actors,” say Michel Cardona and Romain Hubert of I4CE. “In addition, it may create systemic risk stemming from a major economic and social disruption linked to the emergence of zoonoses.”
The WWF is putting its weight behind this claim, noting that nature loss is a “hidden part of the iceberg” and that its impact could be disastrous if we let it continue silently without action. “We are already seeing such impacts in the Covid-19 pandemic, which has caused the most difficult global economic crisis since 2008. This crisis is a direct consequence of the erosion of our ecosystem. The links between zoonoses and biodiversity loss are well documented and their economic and financial consequences are now visible to all,” it says.
See also: Chinese investors most keen on ESG, Singaporeans least aware: Fidelity
To that end, central banks and financial supervisors need to look beyond just protecting their managed assets from future risks and assess their portfolio’s current impact on nature, says WWF. “Unlike the important advances in the integration of climate-related risks in financial regulation, the understanding and integration of nature-related risks into the policies and practices of central banks and financial supervisors remains embryonic at best,” writes WWF.
“This report aims to address this gap by arguing that, like climate-related financial risks, biodiversity loss should also be within the scope of central banks’ mandates as a consequence of its impacts on financial stability,” reads the report.
The conviction of central banks
WWF outlines four pillars that are important to identifying nature-related financial risk. Central banks and financial supervisors should: integrate environmental risk into their supervision, address environmental risk on their own balance sheets, require enhanced disclosure from the financial sector, and prepare to adapt to new international financial standards that measure these factors.
The size of central bank balance sheets globally has doubled since 2010 to reach over US$30 trillion ($40.57 trillion) in 2020. The US Federal Reserve, the European Central Bank, the Bank of Japan and the Bank of England have added another US$4 trillion since the pandemic began. Central bank balance sheets now collectively account for roughly a third of global assets under management.
With growing balance sheets, central banks have an obligation to act responsibly, says WWF. “Central banks are becoming increasingly important investors in their own right. In most cases, central bank asset purchase programs seek to passively track the market to avoid introducing structural biases. Yet, due to the substantial size of their purchases, central banks have become significant active market players with considerable influence on the risk profile of different assets,” they add.
Dead and cleared trees from the Creek Fires in Fresno County, California, in June 2021. The unprecedented rate of biodiversity loss is undermining key ecosystem services and natural resources on which the economic system depends, says WWF
WWF wants the financial industry regulators to do a lot more. “Financial supervisors determine the rules governing private finance and, in doing so, decide which issues do and do not deserve scrutiny under risk management and compliance procedures. This position of influence means that without explicit measures to safeguard against systemic impacts such as biodiversity harms, financial regulators implicitly condone them.
“Financial governance by default will support the status quo and, in this case, the continued financing of widespread destruction of biodiversity,” writes WWF. Financial regulators have a duty on behalf of the private sector to examine long tail risks and ensure they are prepared to respond, says Charlie Dixon, portfolio manager at F4B. “Both policy and the market are moving towards disclosure of impacts through initiatives such as the EU’s proposed due diligence obligations and the Taskforce for Nature-related Financial Disclosures (TNFD).”
The TNFD is working on a reporting framework for private companies to better manage and act on their nature-related risks and impacts. The body has published a two-year work plan with the aim of putting its goal, principles and scope into action by 2023.
Based on the findings of the report, WWF recommends a paradigm shift: the burden of proof should be reversed. Central bankers must assume that environmental degradation, including biodiversity loss, poses macroeconomic and financial risks in their jurisdictions, unless shown otherwise.
“Climate and nature are two sides of the same coin,” says Maud Abdelli, initiative lead of WWF’s Greening Financial Regulation. “Central banks and financial supervisors today have a unique opportunity to utilise mechanisms designed to address climate change related risks and impacts to also tackle biodiversity loss.
“Only by addressing them together can they ensure a sustainable financial system, one that is resilient to the planetary and socio-economic shifts headed our way,” adds Abdelli.
WWF’s broad stance urging central bodies to do more is not an isolated call. On July 11, BlackRock CEO Larry Fink commented that the World Bank and International Monetary Fund are outdated and require a total overhaul before sustainable finance can be brought to the developing world.
See also: BlackRock’s Fink urges World Bank, IMF overhaul for green era
Fink proposes turning the two organisations, which were established 77 years ago in the final years of World War II, into “first-loss” guarantors. “We need global solutions and international organisations that are willing to mitigate the risks of investing in emerging markets,” said Fink, arguably the world’s most powerful investor with about US$9 trillion under management at BlackRock.
“We need more solutions like those used in mortgage-backed securities where some degree of losses is absorbed before they impact private investors,” he added in his speech at the Venice International Conference on Climate, part of the weekend meetings of the Group of 20 (G-20) in Italy.
“There is private capital that can be mobilised for the emerging markets, but we need to rethink the way the international financial institutions can support low-carbon investments at scale,” he said. “We need a financing system that isn’t built around bank balance sheets.”
Photos: Bloomberg
