There is no denying that human activities have impacted the planet drastically, especially in the last few centuries. The impact of social and human activities has led to such fast and irreversible changes that scientists have proposed a new geological epoch to define it. The Anthropocene is the epoch in which human activity has been the dominant force on climate and the environment. In this context, one of the fundamental ways proposed to tackle climate change is by transitioning to a low carbon economy. Economics and finance, thus, emerge as the key drivers of modern societies, by setting the roadmap that humanity will take. They influence spheres of policy, social life, and businesses to shape the growth and development trajectory.
Most businesses consider the environment simply as a means to an end, the end being profit. This ‘tragic reality’ in the age of the Anthropocene is what Shrivastava et al. reflect on. They suggest that the ways of conducting business activities should be heavily scrutinized under the lens of the environment. The age of Anthropocene is a reminder to re-envision economic principles and reinvent ways to transition to an economy that is not built at the cost of destruction on life processes.
“This reflects an explicit disinterest from the academic finance community towards the impact of climate change on financial risks.”
However, despite having the importance of finance and economics in climate change, there is little attention from researchers in this area. Diaz-Rainey et al. conducted a study in 2017 and learnt that leading finance journals, from 2000–2017, viz Journal of Finance, Journal of Financial Economics and Review of Financial Studies, failed to publish a single article related to climate finance over the 17.5-year period. The authors called this neglect of attention as ‘stranded research’. This reflects an explicit disinterest from the academic finance community towards the impact of climate change on financial risks.
The implications of the lack of attention transcend the limits academia and also enter the practitioners’ realm, with businesses prioritizing profits over the environment. Having said that, Henriques and Sadorsky note an interesting observation. Their study showed that portfolios which divested from fossil fuels, because of climate change issues, outperformed conventional benchmarks. Doing business and doing good to the environment need not be considered mutually exclusive events, they can coexist in harmony.
“There are bound to be challenges, since this transition to, what I like to call ‘better finance through better environment’, is complex.”
As Kate Raworth notes in her book Doughnut Economics, this coexistence and prioritization of nature would require us to rethink the systems on which the world economy is currently built. There are bound to be challenges, since this transition to, what I like to call ‘better finance through better environment’, is complex. Three potential challenges are short-termism, mitigation over adaptation and the strengthening role of development banks.
Short-termism refers to financial returns measured in a short-term view, which is currently the case more often than not. The integration of climate risks in investment decisions is overlooked, because it is considered unnecessary since the investments are rather short. However, incorporation of climate risks in lending and operations will help them avoid being exposed to these very risks. In addition to this, financial institutions should establish a dialogue with the investees, to better understand these climate risks and suggest them ways to mitigate them.
“It is a case of treating the symptom rather than the cause.”
Most private investments focus on financing mitigation initiatives, rather than adaptation. They prioritise reduction in emission sources or try to offset their greenhouse emissions rather than adjusting entire systems in alignment with expected climate risks. It is a case of treating the symptom rather than the cause. For a successful transition to a low carbon economy, governments, central banks, the financial sector (e.g., banks, the securities markets, institutional investors, and rating agencies), and the real economy sector needs to work together in synergy.
Finally, development banks play a crucial role towards the transition to a low-carbon economy as they provide credit on more favourable conditions, in comparison to commercial banks. Development banks also offer technical assistance to help improve the feasibility of the projects. In India, the Union Budget of 2021 saw the introduction of a new Development Financial Institution (DFI) that is aimed to improve credit enhancement towards social and physical infrastructure. DFIs do not work on the idea of maximizing profits, so their goal is to combine profit making with meeting developmental objectives. Having the advantage of looking beyond the binary of profit and loss, DFIs have the ability to deliver on a broader societal level. On the climate front, DFIs should work in a coordinated way with local communities, NGOs, academia and citizens to ultimately contribute to reducing carbon emissions.
Shrivastava et al. have put forth a powerful argument about making a sustainability case for business and finance, instead of making a business case for sustainability. The Financial Crisis of 2008, coupled with the pandemic have been fitting lessons in how overlooking systemic societal and biological constructs can lead to a financial upheaval. If climate change is not taken seriously, a similar crisis awaits.