SEB’s latest Green Bonds Report has placed a price of $4 trillion per year on the energy transition if the world is to reach net zero by 2050.
It warned that while we have not quite reached the panic stage yet, it was no longer possible to ignore or dispute climate change, and it was now time to start spending fast.
The good news is that the Swedish Bank concludes that this amount, equivalent to 5% of global GDP, is both cheap, when compared with doing nothing, and entirely feasible.
The report also said that traditional fears about taking on more debt to fund this transition have been swept away in 2021 because of two major developments that have helped to persuade governments and the international investment community that they will have to spend the money anyway.
“Over the past year we have started to see adverse effects like extreme heat, flooding and forest fires on a scale that threatens both personal and economic safety for larger population groups. The second [development is] that the pandemic taught them that rules can be broken if the danger is serious,” the report said.
Put simply, the climate emergency and the experience of the global coronavirus (COVID-19) pandemic have created an emergency situation and provided clearer proof that new investment is required.
“Reality is starting to bite as the cost of extreme weather events is rising, both in terms of property and human lives,” says Thomas Thygesen, head of research, climate & sustainable finance, at SEB.
“At the same time, soaring natural gas prices highlight the danger of reducing one energy supply without adding another. In the latest issue of The Green Bond – titled Floods, Fires and the IPCC: The Climate Crisis Gets Real – we ask ourselves if this means that it is time to panic. Our conclusion is that we certainly need to start spending, fast.”
For 2021, the report forecasts that global sustainable debt issuance will now exceed $1.5 trillion, driven by corporates and the public sector, up from the SEB’s previous forecast of $1 trillion.
The report forecasts that investment products that directly link to sustainability, reducing emissions, and funding renewable energy will have a central role to play.
The report stressed the IPCC has issued its sternest warning yet that climate was a scientific fact and was being driven by human activity, especially greenhouse gas (GHG) emissions. The report noted that such developments as rising LNG and gas prices, energy supply shortages and extreme weather events were persuading people and governments of the need for climate investment.
“Preventing more costly shocks in the future will require investment in adaptation measures and this is also likely to boost popular and political support for faster investment in decarbonisation, the cost of addressing the climate crisis,” the report said.
The report breaks down the total investment requirement of $4 trillion per year into $2-2.5 trillion per year to update energy infrastructure, including green generation, girds storage and transportation.
Another $0.5-1 trillion per year will be needed to pay the costs of reducing the economic, physical and social costs of climate change, such as floods, displacement of people and damage to buildings and food infrastructure. This process is called climate adaption, which aims to reduce societies’ exposure and vulnerability to these physical risks.
A final $1-1.5 trillion per year will be needed to promote electrification and to decarbonise industry and production value chains.
The report also warns that while the investment industry has the potential to find the cash, it will require a wholesale reform to ESG practices and stronger regulation of green investment in order to prevent greenwashing.
Sustainable investors will want stronger links between their cash and the actual long-term impact of their investment. The report warns that “the link from sustainable financial investment to investment that reduces CO2 emissions is not strong today.”
This is because at present, “if the focus is on making sure you fund ESG-compliant companies or governments or you just want a low average CO2 emission, then the link to actual investment in the real world is going to be indirect at best.”
This needs to change if sustainable investment is to expand to the levels needed, and investors are to have confidence in such things as green bonds are what they are, and do not threaten to damage an investors’ reputation through greenwashing.
“As the cost of extreme weather disasters, adaptation investment and transition investment start to soar, we believe that investors will demand a stronger additionality (or marginal impact) from their sustainable financial investment.”
Stronger and more obvious relations are needed between a green investment product and its impact on the energy transition in the real world.
“This suggests to us that there may be a need for a second strand in sustainable financial investment alongside ESG with a more direct focus on financing transition investment and a more pragmatic approach to the reputational risks of calling something green or sustainable. The challenge for the financial sector is to continue to innovate and develop funding tools that strengthen such a link from savings to real world action,” the report said.
The reported noted that growth in issuances had declined over the summer, with August 2021 seeing only an 11% increase over August 2020.
However, even when accounting for this, SEB expects total sustainable debt issuances to achieve or exceed $1.5 trillion in 2021.
The report found that green bonds issuance continued to grow, although more slowly than in 2020, with July and August issues reaching $55.9bn, up just 30% year on year. Total issuance in the year to August reached $352bn, almost double the $163.78bn issues in the same period of 2020. Growth was strongest in Asia and North America, while in Europe it was stagnant, perhaps as investors waited for the EU’s new Green Bond Standards, the report suggested.
Other types of bonds, such as social bonds with 155% growth to $18.9bn in July and August, and Sustainability bonds with 72% growth to $19bn, saw fast growth from lower bases.
Finally, the think-tank E3G wrote in the report that the COP26 conference in Glasgow in November was the first opportunity for global governments and investors to take the first steps on the road to meeting the targets set out in the SEB report.
In particular, developed countries must meet the goal of $100bn per year of annual climate finance invested in the developing world, after falling $20bn short in 2020., according to OECD figures.
E3G underlined that multilateral public finance has become an increasingly important component of overall climate finance. Indeed, the IEA has calculated that $1 trillion per year is needed by developing economies by 2030 for them to play a part on the global transition.
E3G stressed that such multilateral investment flows to leverage the higher risks faced by private finance of investing in developing economies.
It could be possible to reach net zero by 2050, the report concludes.
“It will require a very substantial increase in investment levels. It is realistic because renewable energy has all the hallmarks of a classic technology revolution, most notably the learning curve effect: prices are likely to continue declining as we use more of them. However, at the current investment pace it would take too long to complete it,” the report said.
The conclusions echo the warning of UN Secretary-General António Guterres in August, that the world faces a Code Red on climate change, and must invest in phasing out existing coal by 2040, ending all new fossil fuel exploration and production immediately and shifting fossil fuel subsidies into renewable energy.
If this is to be done, then it will require the emerging business of sustainable investment to reach maturity.
“The financial industry will play a crucial role in helping to raise funds for these investments, not least through sustainable financing solutions such as sustainability-themed bonds and loans,” said Gregor Vulturius, co-editor of The Green Bond report and advisor at Climate & Sustainable Finance at SEB.