Sustainable finance 1 & 2

Question 1

What field study was done?

Answer 1

a field study in cooperation with a Dutch pension fund, that invests on behalf of its members. Higher contribution fees are paid when the fund doesn’t meet its performance targets. Participants faced the choice of whether they wanted to increase the investment focus on the UNs’ Sustainable Development Goals (SDGs) through engaging with companies that underperformed on the selected SDGs. The authors informed participants that implementing SDGs means financial returns are not the only factor to take into consideration.

Question 2

4 criteria for the field study

Answer 2

1. Participants should care about the outcomes
2. The authority can enforce payment by voters
3. The elicitation involves a yes or no vote on a single project
4. The prob that the proposed project Is implemented is weakly monotonically increasing with the proportion of yes vote.

Question 3

Study was conducted in

Answer 3

2 Surveys in 2018 and 2020

Question 4

Findings of 1st study

Answer 4

1. 2/3 of participants favor increasing the pension fund’s engagement to increase the sustainability of the companies in which it invests and choose 4 SDGs.
2. Only 10.8% are against the increase and chose 3 SDGs,
3. 21.2% has no opinion.
4. The results from a nonconsequential question show 74.4% of respondents also favor portfolio screening based on the four SDGs.

Question 5

Authors explore three possibilities that drive strong support for more sustainable investments:

Answer 5

1. Participants might have expected sustainable investments to financially outperform conventional investments.
2. Participants could have strong social preferences in favor of sustainable investments, in which case they support sustainable investments even when these investments are financially costly.
3. Subjects might not have taken their real choice seriously or they could have simply been confused.

Question 6

Second study

Answer 6

Authors let the participants know how the pension fund improved. The results show that time, the actual implementation, or the differentiation between engagement and portfolio screening do not let the strong support for sustainable investing crumble. Moreover, the support for extra sustainable investments has remained strong during the global COVID-19 pandemic. This finding highlights that participants still favor more sustainable investments when they see how the pension fund implemented its commitment.

Question 7

Support for sustainable investments is

Answer 7

Pro-cyclical. In other words, people support sustainable investing as long as they are doing well themselves. During the second study, the COVID-19 pandemic had caused a period of significant economic downturn, putting Dutch pension funds’ balance sheets under pressure.

Question 8

This belief distribution shows participants see the economic impact of the COVID-19 pandemic as

Answer 8

more than a minor, temporary economic recession. Strikingly, the support for portfolio screening is independent of the beliefs about the influence of the corona crisis for pension benefits. Even among the group that expects the COVID-19 crisis to considerably lower their retirement benefits, 61.8% support portfolio screening. This finding shows sustainable investing has significant support even during times of economic hardship

Question 9

Results 2nd study

Answer 9

• The majority of participants support extra engagement and portfolio screening, even if they believe the retirement benefits will be a bit lower.
• The support is much lower for those participants who expect engagement and screening to significantly lower their pension benefits.
• Women are more likely than men to support sustainable investments.
• Higher-income individuals are less likely than lower-income individuals to support engagement or screening.
• Social signaling can play a significant role when deciding whether to invest sustainably. It is the notion that people prefer to be seen as prosocial individuals.

Question 10

Conclusions

Answer 10

Most participants believe a greater focus on sustainability does not come at the expense of financial returns, or are at least uncertain about whether it does. But even among those who do expect a reduction in financial returns, the majority wants to put their pension money on the table to promote sustainability. A key reason is participants’ strong social preferences.

Question 11

EU commission defines sustainable finance as

Answer 11

the process of taking environmental, social, and governance (ESG) considerations into account when making investment decisions in the fin sector, leading to more long-term investments in sustainable economic activities and projects

Question 12

How does sustainable investment work?

Answer 12

1. ESG Integration
2. Exclusionary investing
3. Inclusionary investing
4. Impact Investment

Question 13

EU commission regulation

Answer 13

atm no regulation, only proposal that pension funds ask clients how they wish investments to be made

Question 14

What could regulators do?

Answer 14

1. Make sustainable investment mandatory
2. Set high standards
3. Rely on industry self-control

Question 15

2 narratives that show the link between environmental sustainability and fin reg

Answer 15

1. Financial institutions as facilitators of the greening of the economy - Ensuring that econ activity to which funds are available are aligned with EU’s env policy
2. Financial institutions are themselves subject to risks that are generated by climate change - climate change has an impact on the stability of fin institution

Question 16

Environmental sustainability

Answer 16

includes all man-made
environmental risks (not only climate risks) identified
by some scientists as the nine planetary boundaries

Question 17

Carbon intensive activities lead to

Answer 17

global warming,
rising sea levels and ocean acidification (longer term
effect) and volatile weather patterns, intensified
flooding etc. (more immediate effects)

Question 18

There are linkages between the environment and

Answer 18

financial stability (e.g., Hurricane Katrina)

Question 19

UN 2030 Agenda for Sustainable Development (2015)

Answer 19

Sustainable Development Goals (SDGs) cover three pillars of sustainability: environmental,
social and economic/governance (ESG)

Question 20

Paris Agreement on Climate Change (2015)

Answer 20

• Limit global warming to well below 2°C and purse efforts to limit it to 1.5°C above pre-industrial levels, acknowledging that this would reduce the risks and impacts of climate
change
• Acknowledgement that the financial sector has a central role to play in enabling the
transition to an environmentally sustainable economy in line with these climate targets
(‘finance for transition’)

Question 21

Environmental considerations:

Answer 21

might include climate change mitigation and adaptation as
well as the environment more broadly, for instance the preservation of biodiversity, the
prevention of pollution and the circular economy

Question 22

Social considerations:

Answer 22

could refer to issues of inequality, inclusiveness, labor relations,
investment in human capital and communities as well as human rights issues

Question 23

Governance considerations

Answer 23

typically include management structures, employee relations

and executive remuneration.

Question 24

Risk of “greenwashing”

Answer 24

• Limited disclosure of carbon footprint (let alone other ESG factors) by non-financial and financial
firms.
• There is still a lack of common understanding as to the precise contribution an investment must
make with a view to ESG factors to qualify as sustainable.
 It is difficult for investors to verify whether an investment is truly sustainable

Question 25

Climate change as source of fin risk: | Sources of risk => transmission channels =>Financial risks

Answer 25

Sources: 1) Physical: directly linked to climate change 2) Transition: not directly linked to climate change Transmission channels: 1) Impacts on sovereigns 2) Impacts on corporations 3) Impacts on households 4) Macro: lower growth and productivity Fin risks: 1) Credit 2) Market 3) Liquidity 4) Operational 5) Underwriting losses

Question 26

Green swan events

Answer 26

Potentially extremely financially disruptive events that could be behind the next systemic financial crisis

Question 27

Market failures and impediments in reducing exposure to risks

Answer 27

1. Serious over and underestimation of risks (mispricing of risks) 2. Asymmetric information (substantial data gaps) 3. Financial stability is a public good 4. “Tragedy of the Horizons” (Mark Carney):  The current generation has no incentive to act since the disastrous impacts of climate change will be felt beyond the tradition horizons of many stakeholders: business cycle, political cycle and cycle of technocratic authorities.  Mismatch between the need for policy measures in the short term to mitigate the impacts of climate change on financial stability in the long term.

Question 28

The role of the banking sector: Banks are key

Answer 28

facilitators of the transition to a low-carbon economy  Mobilizing and reallocating capital away from unsustainable economic activity to more sustainable sectors of the economy  channeling funds into “green” investments and sectors

Question 29

The role of the banking sector: Banks are themselves exposed to

Answer 29

significant financial risks caused by climate change and climate change mitigation policies  Building financial resilience to environmental risks  Recognizing risks and incorporating sustainability factors into risk management models and governance frameworks

Question 30

The role of central banks: Activist approach

Answer 30

Active support by Central Banks is needed to reach Paris climate goals. Central Banks’ monetary policy instruments are currently exacerbating climate change. These instruments should, in fact, incorporate environmental sustainability criteria.

Question 31

The role of central banks: Passive approach

Answer 31

Maintaining stable nominal prices is the best a Central Bank can do to support the low-carbon transition. Central Banks must clearly separate themselves from politics (Central Bank independence). Central Banks must take a neutral stance towards markets (‘market neutrality’).

Question 32

Commission Sustainable Finance Action Plan (2018)

Answer 32

1. Redirecting capital flows towards a more sustainable economy 2. Mainstreaming sustainability in risk management 3. Foster transparency and long-termism

Question 33

Commission Sustainable Finance Action Plan (2018) | 1. Redirecting capital flows towards a more sustainable economy

Answer 33

* Classification of sustainable activities (Taxonomy Regulation) * Standards and labels for green financial products (e.g., Green Bond Standard) * Incorporating sustainability when providing financial advice (e.g., revision of MiFID II) * Developing sustainability benchmarks (Benchmark Regulation)

Question 34

Commission Sustainable Finance Action Plan (2018)

Answer 34

Clarifying institutional investors’ and asset managers’ duties (e.g., Disclosure Regulation) • Integration of sustainability in ratings, and in prudential requirements of banks and insurance companies

Question 35

Commission Sustainable Finance Action Plan (2018)

Answer 35

* Strengthening sustainability disclosure and accounting rule-making (review of the Non-financial Reporting Directive, NFRD) * Enhancing corporate governance and tackling short-termism in capital markets.

Question 36

Enhanced EU sustainable finance strategy (2021)

Answer 36

1. Financing the transition of the real economy towards sustainability 2. A more inclusive sustainable finance framework 3. Improving the financial sector’s resilience and contribution to sustainability: the double materiality perspective 4. Fostering global ambition

Question 37

Three main areas of regulatory action

Answer 37

1. Create an EU classification system of what is a ‘green’ / ‘brown’ investment 2. Make sustainability transparent through disclosure 3. Prudential treatment of sustainability risks

Question 38

The Taxonomy Regulation – A EU classification system

Answer 38

• Purpose: Establishes uniform criteria for determining whether an economic activity is environmentally sustainable and whether and to what extent an investment is environmentally sustainable (Article 1(1)) • Scope: Criteria apply when • the EU or a Member State sets out requirements on market actors in respect of financial products that are marketed as environmentally sustainable; or • financial market participants offer financial products as environmentally sustainable investments

Question 39

The Taxonomy Regulation – A EU classification system: | Economic activities are considered green when

Answer 39

1. Significant contribution to at least one environmental objective 2. No significant harm to any of the other environmental objectives 3. Compliance with certain social minimum safeguards

Question 40

The Taxonomy Regulation – A EU classification system: | Sustainable "dark green" activities

Answer 40

Activity in and of itself produces very small or no GHG emissions Example: forestation

Question 41

The Taxonomy Regulation – A EU classification system: | Enabling activities

Answer 41

``` Activity directly enables other activities to contribute to the environmental objectives Example: manufacture of windmills ```

Question 42

The Taxonomy Regulation – A EU classification system: | Transition activities

Answer 42

``` Activity supports the transition to a climate-neutral economy and there is no feasible low carbon alternative Example: production of cement and steel ```

Question 43

Disclosure: Sustainable Finance Disclosure Regulation Aim

Answer 43

Harmonized rules for financial market participants and financial advisers on transparency with regard to (1) the integration of sustainability risks and (b) the consideration of adverse sustainability impacts  making sustainability and its risks transparent

Question 44

Disclosure: Sustainable Finance Disclosure Regulation Scope of the Regulation:

Answer 44

 Covers a large group of financial market participants and products: AIFM, UCITS management companies, Insurance companies, pension product providers, etc. and their associated products.  Disclosure required for two types of information: disclosure at the level of the financial market participant or financial advisor AND product specific disclosure.