Much of the public discussion surrounding the climate crisis has focused on the public sector’s role in driving the transition to a net-zero economy by mid-century. There is good reason for this emphasis: The tools available to public officials, such as state expenditures, the creation of investment and product standards, and adjustments to tax and regulatory environments are well-suited to overcoming collective action problems and ensuring markets do not work at cross-purposes with the health, prosperity and well-being of the general public. Many of the elements of President Joe Biden’s “Build Back Better” framework are designed with exactly this purpose in mind. From direct investment in resiliency to clean energy tax credits to green procurement policies, this framework seeks to set the United States on a course to meet its climate goals in a way that no private-sector actor could on its own.
While the public sector has an indispensable role to play, it cannot solve the climate crisis by itself. Various studies have estimated the total amount of global investment needed to reach carbon neutrality by 2050 at between $3 trillion and $6 trillion annually. Although the United States, the European Union, and other major actors are poised to vastly increase spending on climate solutions, their collective contributions are nowhere close to meeting this target. The process of “shifting the trillions”—ensuring that capital flows away from fossil fuels and carbon-intensive activities to investments in renewable energy—will necessarily involve the active participation from, and in some cases leadership of, the private sector.
The Net-Zero Banking Alliance (NZBA), an initiative under the broader Glasgow Financial Alliance for Net Zero (GFANZ), is the most promising private sector-led initiative to date aimed at decarbonizing the global economy. Unlike other climate-minded initiatives from financial institutions, such as environmental, social, and governance (ESG) investment, the NZBA has the potential not only to facilitate investment in climate-friendly activities but also to influence major private-sector greenhouse gas (GHG) emitters to cut their emissions. This article examines what the NZBA seeks to accomplish, how it works, and how it differs from other efforts by financial institutions to address the climate crisis.
Why action from financial institutions is important
Financing directed to fossil fuel companies from the world's 60 largest banks since 2015
Many of the economic activities that produce high greenhouse gas emissions are also capital intensive. Mining, fossil fuel extraction and refinement, transportation, and heavy manufacturing all entail large capital expenses
, such as replacing airline or rental car fleets, purchasing equipment, and securing concessions and land leases. These activities require financing, through instruments such as bonds and loans, that is facilitated by banks. Similarly, the transition to renewable infrastructure and electrified road transport will also entail major capital expenditures
, requiring substantial involvement by the financial sector.
The capital intensity of the energy sector and high GHG-emitting sectors means that banks are well-positioned to channel economic resources into climate-friendly activities. To date, however, global financial institutions have been at best ambivalent about using their immense influence to help set the global economy on a pathway to net-zero emissions. According to one study, the world’s 60 largest banks have supplied $3.8 trillion in financing to fossil fuel companies since 2015. In 2021 alone, banks arranged for $459 billion in bonds and loans to the oil, gas, and coal sectors. Beyond public securities, private equity funds are reportedly funneling billions of dollars into fossil fuel projects, including coal plants.
How the NZBA works
The NZBA is a bank-led international association convened by the United Nations under GFANZ, an umbrella group that also includes alliances of asset managers, asset owners, and insurers. Of these alliances, the NZBA represents the largest share of total assets under GFANZ, holding $66 trillion out of a total of $130 trillion assets represented by GFANZ and 43 percent of total global banking assets. The NZBA’s 92 members include some of the largest and most influential financial institutions in the world, including Goldman Sachs, JP Morgan Chase, and Bank of America.
By joining the NZBA, members commit to reducing emissions attributable to their operations and—much more significantly—to their lending and investment portfolios to net zero by 2050. Within 18 months of joining the alliance, banks are also expected to set intermediary targets over five-year intervals, starting with a 50 percent reduction in GHG emissions by 2030. Under the terms of the “commitment” document endorsed by participating banks, these reductions will be operationalized according to several key principles. First, banks will “take into account the best available scientific knowledge,” which includes the findings of the Intergovernmental Panel on Climate Change (IPCC). Second, banks will “use decarbonization scenarios from credible and well-recognised sources.” Third, in seeking to achieve emissions reductions targets, banks will identify and prioritize reductions in “the most GHG-intensive and GHG-emitting sectors” within their portfolios. Finally, banks will rely “conservatively” on “negative emissions technologies”—that is, carbon capture—in assessing net emissions reductions.
Given that some of the banks that have joined the alliance are the principal financial service providers to the world’s largest fossil fuel companies, these efforts are potentially transformative.
In practice, this means that NZBA members are tasked with identifying projects and firms to which they currently or prospectively provide financing that have significant carbon footprints and developing work plans and timelines for reducing those emissions to align with climate targets. These reductions will presumably entail a combination of reallocating capital to less carbon-intensive industries and working collaboratively with portfolio companies to develop emissions reduction plans. To the extent that banks are serious about meeting their emissions reduction targets, they will likely need to emphasize to these portfolio companies that failure to adjust their operations may lead to loss of financing. Given that some of the banks that have joined the alliance are the principal financial service providers to the world’s largest fossil fuel companies, these efforts are potentially transformative.
The NZBA is different from other private sector-led sustainability efforts
The NZBA and broader GFANZ are by no means the first or only private-sector initiatives attempting to “green” the financial industry. The past decade has seen a proliferation of financial products linked to sustainability criteria under the broad umbrella of ESG investing. In 2020 alone, new investment in ESG funds doubled relative to 2019, reaching $51 billion. Such rapid growth is an encouraging sign of increasing public demand for environmentally responsible investment vehicles and, in aggregate, likely has increased the availability of capital to noncarbon-intensive activities. But ESG investing has two obvious limitations: First, it is not yet governed by well-defined standards about what constitutes an environmentally sustainable investment; second, it does not seek to directly influence the activities of high-emitting actors or limit their access to capital. For these reasons, critics of this approach have raised concerns that ESG investing is an inadequate response by the financial sector to the climate crisis, and even a “placebo.”
By contrast, the NZBA, if implemented robustly, would provide a mechanism for catalyzing emissions reductions in carbon-intensive industries using targets and pathways derived from the “best available scientific knowledge,” which appears to include decarbonization scenarios identified in IPCC reports. Although this standard is broadly worded and will inevitably provide banks with room for interpretation, it nonetheless reflects the most concrete and measurable commitment to date by the largest, global financial institutions relating to climate action. If nothing else, a single, scientifically linked standard is preferable to a proliferation of vague net-zero commitments by banks, as witnessed over the past year. And unlike previous bank-led initiatives aimed at aligning the financial sector with the Paris Agreement, such as the U.N. principles for responsible banking and the science-based targets initiative, the NZBA includes some of the biggest heavyweights in the banking industry.
Addressing ‘greenwashing’ concerns
Of course, the more tangible, scientific, and climate-focused commitments of the NZBA are of little value if they do not translate into real-life emissions reductions or if they operate as a fig leaf for unsustainable investment practices. Moreover, it is hardly a foregone conclusion that the NZBA will deliver on its promises. Two concerns are worth flagging.
First, it is at present unclear how banks will be assessed for compliance with their commitments under the alliance and what sanctions will be applied if they are deemed noncompliant. The NZBA is governed by a 12-member steering group, which comprises representatives of 11 large member banks and Mark Carney, former governor of the Bank of England and the driving force behind GFANZ. The steering group should be prepared to impose serious penalties, including suspension and ejection, on noncompliant members. At a minimum, such penalties will create reputational incentives for member banks to meet their commitments and may also help facilitate shareholder action aimed at pushing the banks’ officers toward more meaningful decarbonization.
Serious enforcement requires a steering group that does not pull punches and has the institutional weight to drive compliance, even where it might jeopardize client relationships and longstanding revenue streams. Given the spotty history of industry self-regulation, this is far from certain. Furthermore, because the current steering group members are mostly sustainability officers, rather than bank CEOs or other executives who control key business decisions, it is difficult to anticipate NZBA members’ level of commitment when it comes to making the hard choices that decarbonization will invariably entail. It is easy enough to pledge emissions reductions on paper; it is quite another challenge to persuade a C-suite executive to give up a highly lucrative relationship that has direct implications for a bank’s bottom line.
Beyond enforcement, there is a valid basis for skepticism of the quality of the decarbonization models banks are allowed to pursue under the NZBA. In particular, as noted by the Financial Times, NZBA members previously rejected an explicit commitment to phasing out fossil fuel financing, preferring the targets set out by the IPCC to the ambitious decarbonization pathway proposed by the International Energy Agency in May 2021. Under IPCC modeling, banks can continue to finance fossil fuel projects, provided they are able to meet overall emissions reductions targets. Just as concerning, the NZBA permits the use of carbon offsets in determining emissions, which can have adverse impacts on local communities and which many experts and climate advocates view as an inadequate substitute for direct cuts in emissions. Additionally, it is unclear how banks should determine the baseline emissions in their portfolios—the starting point against which reductions will be measured—and what role the steering group will have in ensuring consistency and accuracy in those determinations.
How problematic these loopholes will be will depend in large part on how the steering group interprets the language of the NZBA commitment. The requirement that banks use “the best available scientific knowledge” and use “decarbonization scenarios” from “credible and well-recognised sources,” if applied in good faith, will necessarily place constraints on the financing of fossil fuel and other carbon-intensive sectors, even if such financing is not strictly prohibited. Likewise, the requirement that carbon offsets be used “conservatively” and only in situations where there are “limited” alternatives to cut emissions would, in principle, prevent banks from dubious carbon accounting schemes that rely more on planting trees than closing coal mines. Of course, “conservative” and “limited” are not precise terms, and the steering group should not assume that all NZBA members will adopt a good-faith interpretation.
The NZBA is the boldest, most promising initiative yet from the private sector to align financial markets—and by extension, much of the global economy—with the climate targets identified in the Paris Agreement. However, there remain many open questions about how the NZBA will work in practice, both in terms of the quality of the decarbonization models it promotes and its ability to force compliance with those models. Even so, the scale and influence of its membership and focus on emissions reductions mean the NZBA has the potential to catalyze transformative change and shift trillions in private capital toward a green energy transition.
Whether the NZBA succeeds in realizing that potential will depend both on its internal governance and on the scrutiny and pressure of external climate advocates in ensuring that the broad commitments of the alliance and its members translate into real and credible decarbonization plans. Regardless of how the NZBA pans out, the fact remains that there is no solution to the climate crisis that does not address the role of private capital, and any good faith effort by private-sector actors to facilitate decarbonization should be greeted with cautious optimism.