Reforming Financial Regulation: An Overlooked Solution to the Climate Crisis
When we think about UK-based solutions to the climate crisis, many ideas spring to mind. We picture wind farms, cycle lanes, and locally-grown food – all of which are indispensable in a decarbonised world. But there’s also a less obvious lever that the Treasury could pull to restore the UK’s climate leadership: reforming financial regulation. Because there’s no solution to the climate crisis without the financial sector pulling in the right direction.
With a number of courtroom wins under our belt, ClientEarth has seen first-hand how the law can hold some of the world’s biggest polluters to account. We have spent 16 years litigating and advocating for legislation to drive the change we need – and we believe that UK corporate and financial law are critical to the transformation required for a green economy.
The emissions of the UK’s financial sector are huge. In 2021, the financed emissions of the UK’s largest banks and asset owners globally were found to be almost double the UK’s domestically produced emissions. Once the entire sector is taken into account, the total would be far greater still.
However, despite a roll-out of net-zero pledges, UK businesses and the financial sector are still dragging their feet on climate action. The UK’s banks, pension funds, and other financial institutions continue to offer financial lifelines to the fossil fuel industry: both for production and – crucially – expansion.
According to the most recent findings in the Banking on Climate Chaos report, UK-based banks Barclays and HSBC bankrolled fossil fuels to the tune of more than $300bn combined from 2016 to 2022 alone. Meanwhile, Make My Money Matter reported in June that UK pension funds invest approximately £88bn into the fossil fuel industry.
So many financial institutions are announcing their “net zero” ambitions while simultaneously bankrolling new fossil fuel production. This is despite the fact that the International Energy Agency, the leading authority on climate change and the energy sector, has said that no new fossil fuel expansion can go ahead if we are to limit global warming to 1.5°C.
In 2021, the then chancellor Rishi Sunak announced that the UK would become the world’s first net-zero-aligned financial center and that companies and financial institutions would be required to publish transition plans, setting out how they will decarbonize across their operations. But crucially, company-level commitments to net zero were explicitly not made mandatory.
Since then, the UK’s Transition Plan Taskforce was formed with the task of developing the “gold standard” for private-sector transition planning, which would supplement existing UK rules on climate-risk disclosures, published in 2021. The draft standards go beyond current rules, setting out the detail of what businesses and companies must disclose about their transition plans, but still fall short on legally requiring transition plans to align with net zero. So not really a “gold standard” at all.
On their own, even together with existing climate-risk disclosure rules, these standards are not going to cut it to drive an economy-wide transition to net zero – and they’re taking too long. These new standards are unlikely to take effect in regulation before 2025 – almost four years after the government’s original commitment. This timeline only delays climate action and ramps up the financial risk companies face if they continue to pursue an unsustainable, fossil fuel-heavy business model.
And they risk falling short of international standards. As UN experts have stressed, transition plans must show how the company plans to be a part of a net zero economy by 2050, in line with the Paris Agreement temperature goals, with emissions halving by 2030. Demonstrating this alignment must be mandatory, and the rules need to be implemented as soon as possible. Transition plans need to be credible, must not rely on carbon offsets, and must be enforceable with a clear path for holding companies to account in court if they stray from their targets.
UK company law requires board directors to protect the company’s long-term interests. For most companies, this will mean planning effectively for the transition – but many companies are failing to do so. Current climate-risk disclosure rules and the Transition Plan Taskforce’s draft standards are a step in the right direction. But they must be accompanied by an explicit legal requirement to develop transition plans that are aligned with global net zero.
To deliver the net-zero financial center promised in 2021, the Treasury and regulators must work together to introduce and enforce clear legal obligations so that the finance sector helps, rather than hinders, the drive to net zero.
The UK has a proud history of climate leadership – from its trailblazing Climate Change Act to its Cop26 presidency in 2021. But recent decisions to approve new oil and gas licenses and allow a new coal mine in Cumbria undermine the UK’s climate leadership credentials.
It doesn’t have to be this way. The UK can regain the advantage by making a truly net-zero-aligned financial sector a reality. But we can only get there with the support and backing of the Treasury, which must act decisively in this critical decade and legislate to ensure the financial sector plays its part.