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How Financial Institutions Can Plan for Net Zero by 2050

Jorge Martínez-Blat
Apr 23, 2021

Guidehouse Insights

This blog was coauthored by Angélica Afanador and Giel Linthorst.

The Race to Zero has started. The COP26 Private Finance Agenda is building up momentum with the Glasgow Financial Alliance for Net Zero (GFANZ) under Vice Chairman and Head of Impact Investing at Brookfield Asset Management Mark Carney. It brings together the Net Zero Asset Owner Alliance, Net Zero Asset Managers Initiative, the Net Zero Investment Framework, and Net Zero Banking Alliance. Early 2021 has seen several major global financial institutions in the headlines for their commitments to net zero, though little is widely understood about the steps required to make those targets a reality.

What Does Net Zero Mean for Financial Institutions?

The planet will reach net zero when anthropogenic emissions of greenhouse gases (GHG) in the atmosphere are balanced by anthropogenic removals over a specified period. According to the Paris Agreement, this should be the case in 2050. Climate science tells us that achieving net zero by 2050 will help humanity avoid the most catastrophic effects of climate change and huge financial risks. Achieving net zero requires two primary components:

  • Deep decarbonization in energy, urban, infrastructure, industrial, and land use systems.
  • Permanently removing the residual GHG emissions that are unfeasible to reduce or avoid.

Financial institutions can help in this transition by lending and investing capital into activities that drive deep decarbonization and by lending and investing in technologies and nature-based solutions that could remove residual emissions in the future. Avoided emissions and carbon offsets must be treated with caution because they cannot substitute emissions reductions or removals urgently needed in the short term.

As the world’s largest banks have invested more than $3.8 trillion into the fossil fuel sector since the Paris Agreement was signed, financial institutions pledging to achieve net zero emissions by 2050 need to start transitioning their financing sooner rather than later. This urgency is critical because the pathway to net zero by 2050 defined by climate science requires that global GHG emissions decline by 50% by 2030. Failing to meet this interim target will significantly reduce the possibility of reaching net zero by 2050.

How Can Financial Institutions Achieve Net Zero by 2050?

For banks and investors, the process of achieving net zero consists of five discrete non-linear steps. When combined, these steps make up the Strategic Framework for Paris Alignment (see figure).

Strategic Framework for Paris Alignment

Paris Accord

(Source: Strategic Framework for Paris Alignment, Partnership for Carbon Accounting Financials)

The Partnership for Carbon Accounting Financials (PCAF) recently published the Strategic Framework for Paris Alignment, a report developed by Guidehouse as the PCAF Secretariat and written in collaboration with the Coalition of Finance Ministers, FC4S, and The World Bank. The Strategic Framework enables financial institutions to achieve alignment with the Paris Agreement through two vital resources:

  • A process of defined, actionable steps to start acting immediately.
  • An overview of the numerous initiatives, methodologies, and tools available to support financial institutions in their climate journey to net zero by 2050.

The steps to achieve net zero are summarized as follows.

Measuring and Disclosing

To verify emissions reductions, financial institutions must measure and disclose the financed emissions of loans and investments in their portfolios. This can be done with PCAF’s Global GHG Accounting and Reporting Standard for the Financial Industry. PCAF’s Standard is the only universal, standardized, and transparent methodology for financial institutions to measure and disclose financed emissions that is built on and marked by the GHG Protocol.

Measuring financed emissions helps banks and investors establish a baseline of emissions from which they can then set targets for emissions reductions in line with what the latest climate science says is necessary to meet the goals of the Paris Agreement. One of the most well-established initiatives that helps firms with this step is the Science-Based Targets initiative, which has guidance specifically for financial institutions.

Strategy Development
Once targets are set, financial institutions can begin to develop strategies to achieve them. These strategies will vary considerably depending on the size, sector, and current levels of financed emissions of a financial institution.

Scenario Analysis
Target-setting and strategy development are developed through the parallel use of scenario analysis, a process for identifying and assessing a potential range of outcomes of future decarbonization pathways under conditions of uncertainty. Useful initiatives commonly used for scenario analysis are 2DII’s Paris Agreement Capital Transition Assessment (PACTA) and the Transition Pathway Initiative. These initiatives provide frameworks and tools to measure alignment of sectors in the portfolio with climate goals.

Taking Actions

Lastly, financial institutions need to take actions to deliberately implement measures designed to align a financial portfolio or asset class with the goals of the Paris Agreement. This emphasizes active rather than passive steps, such as engaging the world’s emitters to set science-based emissions reduction targets (e.g., the Climate Action 100+). This step also supports financing and enabling the technologies and business models of the future through new types of financial products and services.

Achieving net zero by 2050 will be a difficult task, but with a coordinated effort and the right guidance, financial institutions can help catalyze the transition to net zero and keep the world on track to reach this ambitious goal.