Fossil fuel financing is taking the global economy to the point of no return. There is a solution.

The world can’t afford another economic crisis, but banks and insurers continue to play with fire by financing unsustainable energy sectors. Regulators need to act to mitigate risks.

As world leaders gather at COP26, plans will be laid out to address climate risks and create a low-carbon economy. Yet even while this plan is clear, huge, polluting fossil fuel excavation projects are being financed across the world.

With the transition to net zero, fossil fuel assets of banks and insurers will rapidly diminish in value or become entirely worthless. This will lead to massive losses for financial institutions, which could result in them requiring bailouts, paid for by the public.

Already, more and more natural disasters mean that insurance companies face huge unexpected payouts, and financial institutions are exposed to financial losses through assets and business operations that are destroyed.

The truth is: we already have six times more fossil fuel reserves than we can afford to burn. Even the International Energy Agency (IEA) recently stated that if we want to meet the goals of the Paris Agreement, investments in new fossil fuels must stop immediately.

Therefore, the financing of new fossil fuel exploration and production is extremely risky: new fossil fuel assets will lose their value, and they are at odds with the Paris Agreement.

The finance sector needs to account for the reality of these transition risks to avoid a global economic meltdown.

Finance Watch believes that the financing of any new fossil fuel projects should be subject to one-for-one capital requirements: for each dollar that finances new fossil fuel projects, banks and insurers should have one dollar of their own funds held liable for the future losses. This will ensure that taxpayers aren’t left to pick up the bill when the assets lose their value and prevent financial institutions from seeking government bailouts.

We’ve been here before. The global financial crisis of 2008 resulted in bank bailouts, which eventually forced regulators to step in and increase capital requirements. We need to take action now to prevent history from repeating itself on a scale that dwarfs 2008.

Increasing capital requirements for financing fossil fuel would ensure that the risk is borne by the financial institutions financing those projects – and that public finances will not be drained in the eventuality of a fossil fuel industry collapse.

It would remove the incentive for financial institutions to finance fossil fuels which undermines the Paris Agreement goals. Current capital requirements do not take into account the climate-related financial risks of fossil fuels. This means that it is artificially cheap for financial institutions to finance fossil fuels.

We’re calling on world leaders to take action now and protect us from a potential financial crisis.

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Here are our proposals on how to tackle the link between climate change and financial instability in the banking and insurance sectors:

We need decisive action and coordination to help deliver this change at an international level. If you would like to join a working group to frame a plan of action, please contact:

Shonan Kothari

Convener of the Regulate Climate Risk coalition

Campaigns and Communications Officer, Finance Watch