EY’s lofty net zero pledge gets a rethink

Welcome back.

We’re all in favour of ambitious climate plans. But what happens if an eye-catching pledge is left adrift by rising standards?

That’s the subject of our first item. Also in today’s edition, our FT colleague Zehra Munir looks at the central banks setting the pace in green financing operations. Enjoy. — Simon Mundy

CORPORATE CLIMATE TARGETS

EY climate plan hit with a dose of reality

As businesses rushed to roll out long-term green targets in the run-up to the COP26 climate summit, the Big Four accounting firm EY decided it wanted to make a bigger splash.

While other companies pledged to reduce their carbon emissions to net zero by 2030 or 2050, EY grabbed headlines in 2021 by saying it would achieve this milestone within just four years.

Now, a year away from its 2025 deadline, EY is reconsidering its climate plan — a move that reflects rising standards and scrutiny around such green corporate pledges.

When I asked EY if it could confirm its commitment to achieve net zero status next year, it declined to do so. Instead, it gave the following statement:

EY remains committed to a net zero target. We are currently working on the next phase of our science-based decarbonization plan, integrating new and emerging standards. At this time, we cannot confirm the timeline for that plan, but we will provide a substantive update later in the year.

If EY ends up dropping its 2025 net zero target in this year’s strategy update, this might actually demonstrate a more serious approach to climate action, rather than a lowering of ambition.

Part of EY’s net zero strategy has involved cutting carbon emissions across its business. EY says it has more than achieved its goals on this front, cutting emissions by 43 per cent since 2019.

But its strategy has also included heavy use of carbon offsets linked to projects that reduce or avoid emissions, for example by preventing deforestation. The market for these offsets has been ravaged by controversy over the past three years, with allegations that many avoidance-based offset providers have hugely overstated the impact of their projects. Media investigations have raised specific concerns about South Pole, EY’s main offset provider, as well as the Kariba project in Zimbabwe, one of the offset schemes used by EY.

Meanwhile, the Science Based Targets initiative — the non-profit that is the main standard-setter for corporate climate plans — has issued new guidance that seems to blow a hole in EY’s strategy.

To claim net zero status, the SBTi says, companies must make big reductions in their operational emissions, as well as those from their supply chains and the use of their products. Crucially, it says, the emissions that remain must be neutralised by active removal of carbon dioxide from the atmosphere — not by the emissions avoidance projects that EY has been relying on.

So EY’s rethink, which it says is partly due to evolving standards for corporate climate plans, reflects some welcome progress. Back in 2021, these standards were less clear, and some businesses approached this space largely as a marketing opportunity. Today, companies with hastily conceived net zero strategies risk looking ridiculous.

This is not to take EY’s talk of “new and emerging standards” entirely at face value. No other major business, before or since, has got quite as carried away as EY did in October 2021 when it declared it was “carbon negative”, because it was buying mainly avoidance-based offsets that supposedly more than cancelled out its emissions. (Confusingly, EY said it was not yet “net zero”, because — according to the firm’s own definitions — that would require big cuts in the emissions from its business, whereas the “carbon negative” claim could supposedly be made without such cuts.)

Virtually any services company with a few million dollars to spend on offsets could have made the same carbon negative claim — and it’s telling that none has. (Others, like Microsoft, have promised to become carbon negative in the future, but using carbon removal, not the far cheaper route of avoidance-based offsets.) After the latest guidance from SBTi and others, EY’s claim looks even more starkly removed from best practice in the space, and arguably counter-productive for the effort to reach net zero at the global level.

EY can do itself a service by dropping its carbon negative boast as part of a far more rigorous climate strategy. Given EY’s substantial revenue stream from advising other companies on their own sustainability plans, this should be an especially urgent priority. (Simon Mundy)

central banks

Green shoots for green interest rates

In December 2023, French President Emmanuel Macron wrote in a newspaper column that his country “needs a green interest rate and a brown interest rate”.

But what does the term actually mean?

The concept of a green interest rate, which has been floating around in think-tank circles for a few years, is that a central bank sets a “green” rate that is lower than the benchmark rate, for certain loans to commercial banks. These funds are provided on the condition that banks will pass them on, along with the lower interest rate, in their own loans to green initiatives, thus providing an incentive to climate-friendly economic activity.

In theory, it means that however high the benchmark rate climbs, green projects are assured of preferential access to credit.

Macron is not alone in expressing interest in the policy. Less than two weeks after his remark, European Central Bank policymaker Isabel Schnabel said on X that green interest rates “could be considered when monetary policy needs to become expansionary again”.

Policymakers’ interest in green interest rates has continued to grow in the past few months, says Lydia Prieg, head of economic research at the London-based New Economics Foundation. This is because the scheme has the potential to boost the green economy without spending government money, she said.

Central banks providing targeted green loans is an interesting idea — but to date, only a handful of countries have trialled the policy.

In 2021, China’s central bank said it would provide one-year loans of funds “worth 60 per cent of the principal at the rate of 1.75 per cent” to banks lending to companies that are cutting their carbon emissions. By way of comparison, China’s one-year key interest rate is currently 3.45 per cent.

That same year, the Hungarian central bank announced that it would provide cheap green loans to banks for the purpose of lending money to customers purchasing or constructing highly energy-efficient homes.

Japan also introduced a green lending programme in 2021, which has so far disbursed ¥8.2tn ($54bn), according to a Bank of Japan official. Until last month’s much-anticipated benchmark rate rise, it provided one-year loans at a zero per cent interest rate for many Japanese financial institutions’ green investments. March’s benchmark increase was accompanied by a bump in its green lending operation’s interest rate, to 0.1 per cent.

The theory behind the programme is that it encourages banks and their clients to make long-term green investments with the security of a fixed interest rate. The one-year loans can be rolled over every year until 2031.

According to Yuma Morisawa, credit strategist at Mitsubishi UFJ Morgan Stanley Securities, the majority of the banks involved in the programme are regional banks — which Morisawa says “implies a wide spread of green investment”.

Yet there is a catch. Given that Japan doesn’t have a green taxonomy, what counts as green investment is left up to the banks’ own judgment. The scheme does, however, recommend that banks check whether decisions comply with “international standards or the Japanese government’s guidelines”.

A BoJ official says the central bank “thinks” the money tends to be used by banks to buy financial instruments, such as green bonds, rather than loaned to individuals. While the banks are required to disclose which guidelines they are following to gauge whether an investment or loan is green, details on where the money is going are scarce.

In Europe, the parameters for green lending in the EU would be more straightforward since the bloc already has a green taxonomy in place. But there are other questions around a potential green interest rate mechanism.

One concern is about whether such measures are covered by central banks’ mandate (yes, advocates would say, because it would contribute to long-term economic stability). Relatedly, critics worry about its impact on inflation. But Prieg, who is in favour of the idea, says that because the European Central Bank and the Bank of England are “going to be cutting rates in the not-so-distant future, it feels like an opportune time [to introduce a green rate]”.

Pressure to introduce an adjusted rate is premised on the fact that green infrastructure schemes, such as renewable energy and retrofitting projects, require serious investment. In the past two years, for example, several European wind farm developers have cited increased financing costs as one reason they have had to cancel projects and contracts. A solution is clearly needed. Whether the answer involves central banks remains to be seen. (Zehra Munir)

Smart read

Are some barrels of oil “better” than others, and should financiers treat them accordingly? Here’s an interesting piece from Nolan Lindquist of the Center for Active Stewardship, digging into the International Energy Agency’s influential model of a net zero world economy, and its implications for investors.