Climate action is at the heart of financial institutions’ business

Twenty six-year-old Kenyan climate and environment activist Elizabeth Wathuti (second right) during a global panel discussion on climate action alongside leaders at the World Economic Forum ‘Davos 2022’ in Switzerland. 

There is growing focus on mainstreaming environmental and social impact considerations in finance and investments. This spells a considerable shift in the way business is conducted going forward, with the attendant need to reorient investments to create positive, measurable social and environmental impact, alongside financial returns.

Environmental considerations are stemming from the global drive to mitigate the effects of climate change. It is estimated that continued emission of greenhouse gases will cause further warming of the earth by above 2° Celsius relative to the pre-industrial period, which could lead to catastrophic social and economic consequences.

The so-called Paris Agreement – signed by nearly 200 governments – agreed to strengthen the global response to the threat of climate change by “holding the increase in the global average temperature to well below 2°C above pre-industrial levels and to pursue efforts to limit the temperature increase to 1.5°C above pre-industrial levels”. The pact seeks to enhance the ability of countries to deal with the impacts of climate change, and to deliberately refocus financial flows to be consistent with low greenhouse gas emissions.

In Kenya, climate change has led to perennial droughts on one end and floods on the other – both with devastating effects on lives and livelihoods. Kenya enforced the Paris Agreement in 2017, and in line with the prescriptions of Article 2(6) of the Constitution of Kenya 2010, the Paris Agreement now forms part of the laws of Kenya. The Climate Change Act, 2016 is the main legislation guiding Kenya’s climate change responses.

While this law is welcome, it has the potential to trigger a radical shift in resource allocation and financing of economic activities, with far-reaching implications for financial institutions and markets the world over. As a banker, therefore, it is a matter of critical interest to discuss.

Climate change is increasingly being recognised by financial institutions and corporates as a source of financial risks. This risk can manifest in three ways. First, climate change poses physical risks emanating from weather-related events that can destroy investments. Second, there would be risks in the transition from ‘brown’  to ‘green’ investments, which are generally associated with the process of adjusting towards lower-carbon economy as would be required by climate change laws and a shift in market and investor sentiment.

Third, liability risks can also be generated by the possible emergence of legal suits associated with non-green investments, including those seeking compensation from financial institutions that are held responsible for loss and damages resulting from the effects of climate change, or those directed at financing of companies engaged in activities with negative environmental impacts.

Kenya is highly vulnerable to climate change and already feels the effects of a notable increase in climate-related disasters due to heavy reliance on agriculture, energy and tourism. It is estimated that arising from climate change-related events, approximately 2.0 per cent to 2.8 per cent of the country’s GDP is lost every year. To this end, the need to mobilise resources to avert the effects of climate change cannot be overemphasised.

Financing gaps

An assessment of the financing of climate change adaptation and mitigation initiatives in Kenya shows sizeable climate financing gaps. It is estimated that close to 80 per cent of available financing is channelled as debt and for climate change mitigation, leaving very little for adaptation. Still, close to 60 per cent of these flows are vulnerable to global shocks. Available statistics show that in 2018 alone, Kenya received climate-related investments amounting to about Sh243.3 billion; just about a third of the country’s annual requirement.

With adaptation finance lagging behind mitigation finance in the country, adequate mobilisation of adaptation finance should remain a key policy priority. However, this exercise would be constrained by three main categories of barriers. First, the policy and regulatory barriers, which range from inadequate budgetary allocations to  absence of regulatory incentives for mobilisation of adaptation finance by the private sector.

Second, are the market barriers that comprise limited capacity to collect and analyse relevant climate data, complexity of conducting project due diligence, lack of harmonised and robust metrics and standards for measuring climate risk and perceived limited commercial viability of sustainability solutions that disincentivise investment in adaptation activities. Third, there exist implementation and coordination barriers, which spring out of limited data and technical capabilities of assessing sustainability.

While recognising these limitations, we have taken some bold steps as an industry to support climate-friendly or sustainable finance initiatives. Since 2016, for instance, Kenya Bankers Association  (KBA) through its Sustainable Finance Initiative (SFI) e-learning platform, has positively impacted more than 36,000 commercial banks staff by sensitising them towards ensuring that financing decisions create long-term value for the economy, environment and society, besides generating financial returns for banks. Out of these staff, about 27,000 have completed all the 10 modules on the e-learning platform.

The KBA also initiated the Green Bond Programme Kenya in collaboration with FSD Africa, FMO- Dutch Development Bank, Climate Bonds Initiative and Nairobi Securities Exchange. The programm supported Acorn Holdings to issue the first ever green bond in East and Central Africa. The bond, which was heavily oversubscribed, raised Sh4.3 billion, which was channelled to the development of environment- friendly accommodation; enough to cater for 5,000 students.

Other ongoing initiatives include partnerships with organisations such as IFC and FSD Kenya to bolster banks’ environmental and social impact performance, support banks’ compliance with the regulator’s guidance on climate-related risk management, sensitise them on the value of various sustainable finance instruments such as Gender Bonds, Social Bonds and Sustainability bonds while also supporting potential green bond issuers with advice.

Dr Olaka is  the CEO, Kenya Bankers Association.