Welcome everyone.

My name is Sarah Light.

I'm an Associate Professor of Legal Studies and Business
Ethics at the Wharton School of
the University of Pennsylvania,
and I'd like to take a moment to go over
my goals for this class.
My goal overall is for all of you to understand
climate change as a source of risk and
opportunity for business firms,
and to generate actionable steps to move
forward in the transition to a net-zero economy.
What does that mean? First what I'd
like to do is provide you some context,
what do we mean when we say
the transition to a net-zero economy?
What is a net-zero economy,
and what has to change?
Second, I want everyone to understand
the concept of what's driving climate governance,
both public laws and
regulations and private stakeholder action.
Third, I would like for everyone to understand risks and
opportunities arising from climate change and
the transition to a net-zero economy for business firms.
To give you a little bit of my background,
I'm currently an Associate Professor
of Legal Studies and Business
Ethics at the Wharton School at
the University of Pennsylvania.
I am also a faculty
co-leader of the business climate and
environment Lab at the Wharton risk Center,
which is the go-to place at Wharton for research and
teaching as well as convening stakeholders
on issues related to
business climate and the environment.
Prior to coming to Wharton,
I spent 10 years as
an Assistant United States Attorney
in the Southern District of New York,
the last four of which I served as
the Chief of the Environmental Protection Unit,
so I bring experience as well as research to this work.
Why focus on climate change?
One only needs to pick up the newspaper
these days to see stories and images that
demonstrate that climate change is
not something happening in the future,
but climate change is happening now.
It's happening now in ways that affect individuals,
households, and business firms.
You can read articles in The Wall Street Journal
about show downs over the future of oil,
stories in The New York Times
about wildfires in the American West,
announcements from business firms like Ford
and General Motors about their plans to change
their entire line of business from
internal combustion engine vehicles
to electric vehicles,
and ways in which government regulators are
considering and forcing
new climate rules and regulations.
In my own city of Philadelphia,
just weeks ago you can see
a major downtown highway flooded
as the remnants of hurricane Ida passed through.
This caused chaos in the city for days,
and while some people chose to
swim in these dirty waters,
you can see that everyone needs
to be thinking about the impacts of climate change.
A recent study by AXA,
as well as the Eurasia Group,
found that when 3,500 experts from over 60 countries and
20,000 members of the general public were
asked what issues are the biggest emerging risks,
the number 1 answer globally was climate change.
Now, you can see from the chart on
the right that this differs by region,
for example in Europe people
list climate change as
the most significant emerging risk,
whereas in the United States,
it is not necessarily the number 1 risk,
but it is certainly among the top few.
What I'd like to do now is give you
a bit of background and context on
the concept of the transition to
a zero carbon or net zero economy.
This is a term that's very frequently used and it's
very important to understand where we are now,
where we need to go,
and how we can get there.
In 2015, nations around the world came
together and signed
the Paris Agreement on Climate Change.
This was a commitment of almost 200 nations to
avert the worst effects of climate change by holding
global warming to no more than two degrees
Celsius above pre-industrial levels.
But the Paris Agreement contained
an aspirational goal that it would be even better to
pursue efforts to limit
the temperature increase to 1.5 degrees Celsius
above pre-industrial levels in order to
avert the worst effects of climate change.
Many organizations around the world have adopted
models that look at
the current state of the global economy
where global greenhouse gas emissions
are coming from and what needs to change
between now and the year 2050
in order to get to net zero.
Net zero by 2050 is what is
needed according to the Intergovernmental Panel on
Climate Change as well as
the International Energy Agency to
limit warming to 1.5 degrees Celsius or less.
In 2021, under the terms of the Paris Agreement,
the United States has pledged to reduce
United States greenhouse gas emissions by
between 50-52 percent as compared to
a 2005 baseline by the year 2030.
If all nations' commitments under
the Paris Agreement are strictly adhered to,
it is still likely that we would
exceed the two degrees Celsius goal.
However, the Paris Agreement provides for
every country to continue to ratchet up its goals.
But this is an all hands-on deck situation
in which not only governments and regulators,
but also private sector,
business firms, financial organizations,
and others need to work together to
reach a net zero economy by the year 2050.
It's really important first to understand what we're
talking about when we're talking
about greenhouse gas emissions.
Sometimes people use the term carbon
interchangeably with greenhouse gas emissions,
but that's a bit of a shorthand and it's really
important to understand what we're talking about.
If you look at the image on the left which
comes from the Environmental Protection Agency,
this is a snapshot of
US greenhouse gas emissions in the year 2019,
the last year for which data is available.
You can see that carbon dioxide is by far
the largest share of
greenhouse gas emissions in the United States.
However, there are other components to greenhouse gases.
These include methane,
nitrous oxide, and fluorinated gases.
Each of these different gases is a greenhouse gas,
which means that it contributes to warming of
the atmosphere and the trapping of
heat in the atmosphere that cannot escape.
Carbon dioxide, the largest source,
comes from the burning of
fossil fuels as well as chemical reactions,
for example, the manufacturer of cement.
Carbon dioxide, CO2,
can live for up to thousands of years in the atmosphere
and it has what is called a
global warming potential of one.
So one ton of CO2 in
the atmosphere provides for one unit of global warming.
It serves as the reference gas because it's
the largest component of the greenhouse gas mixture.
Methane is emitted during fossil fuel production
as well as by livestock and agricultural emissions.
In contrast to carbon dioxide,
it has a much shorter lifespan in
the atmosphere ranging from about 10-12 years.
However, it is far more warming than CO2.
Its global warming potential can range from about
28-36 over a 100-year period.
Nitrous oxide, the third
major component of greenhouse gas emissions,
can come from agricultural processes,
land use, industrial activities,
and the combustion of fossil fuels.
Its life in the atmosphere
can be greater than 100 years,
and its global warming potential is even
higher than that of both methane and CO2,
an average of 265-298 over 100 years.
Finally, fluorinated gases.
These are HFCs, among others.
These are the gases that we use in HVAC systems,
air conditioning, refrigeration, etc.
The United States actually recently
adopted a regulation to phase these out over time.
Why was this HFCs
fluorinated gases a major focus for US regulators?
Well, their life in the atmosphere can range from
hundreds of years to more than 50,000 years,
and their global warming potential can be up to
23,000 times as powerful as that of CO2.
The disaggregation of these different greenhouse gases
is really important because we need to think
slightly differently about how we
regulate or act with
respect to the different greenhouse gas emissions
depending upon what industry your business firm
or you might work in and
there may be reasons to focus in the short-term
on these very high global warming potential,
but more short-lived greenhouse gases like methane.
I also want to give you a little bit of a snapshot of
where greenhouse gas emissions are
coming from in the US economy.
As you can see from the chart in front of
you which comes from
the Environmental Protection Agency,
in 2019, the last year for which data are available,
the major sources of
carbon dioxide emissions in the United States
were transportation and electric power generation
followed by industry,
residential and commercial emissions,
and then other non-fossil fuel combustion.
I think it's really important to
note that for many years,
electric power generation was
the dominant source of
greenhouse gas emissions in the United States.
But just a few years ago,
transportation overtook electric power generation.
This is largely because of the transition in
electric power generation from coal-fired power plants to
natural gas-fired power plants which have
fewer greenhouse gas emissions
although still they are fossil fuel emissions.
I've just given you a couple of snapshots of
greenhouse gas emissions in the US economy.
Now I'd like to take a step outward toward
global greenhouse gas emissions by sector and use,
and the gas released.
I think that this is a complex but important way
to understand global greenhouse gas emissions.
In the United States as I pointed out,
transportation is the largest source
of greenhouse gas emissions.
But globally, you can see
that electricity and heat generation as
a sector is larger as a source of
greenhouse gas emissions than the transportation sector.
But here you can see that electricity and heat
generates largely CO2,
but also some methane and others.
It's important to see that the picture
in the United States is similar
to but slightly different than the picture of
greenhouse gas emission sources globally.
Since this is a global problem that requires
global solutions in addition to
solutions within the United States,
I think it's really important to
understand this global snapshot as well.
Once we have a picture of greenhouse gas emissions both
in the United States and in the global economy,
we need to move from a static focus to a dynamic one.
This chart which is created by
the International Energy Agency demonstrates how
the major energy sources need to shift
between now and the year 2050
in order to get to a net-zero economy.
You can see the two major components of
energy supply on the bottom in red are oil and coal,
with the light purple band of natural gas.
Those all need to shrink dramatically by the year 2050,
but the process needs to begin now.
In contrast, you can see that we need growth
in the renewable energy space: solar,
wind, and other renewables primarily.
The International Energy Agency
administration's net-zero by
2050 model requires the global economy
to reach certain milestones by certain years.
One of the most controversial which achieved
a lot of news in the press was
the idea that even this year that there should be
no new unabated coal plants approved for development.
By 2025, there should be
no new sales of fossil fuel boilers.
By 2030, we need to have achieved
certain important interim milestones
on the path to net zero by 2050.
All new buildings need to be zero-carbon ready,
global car sales need to be 60 percent electric,
and we need to have universal energy
access largely to renewable sources of power.
You can see how things are going to need to shift
dramatically and they're going to
need to shift immediately.
Just to put a spotlight for a moment on
the notion of clean energy technologies.
In this chart, you can see that
we need to add major capacity in
solar and wind energy generation
by 2030 as compared to 2020.
It needs to increase by a factor of four times.
Electric vehicle sales need to increase by
a factor of 18 between now and 2030,
and the energy intensity required for per unit of
GDP needs to decrease by four percent annually.
What are the implications of this?
This means that we're going to be in
a massive transition in
the economy both globally and in the United States.
This has really significant implications
for individuals,
households, business firms, and other organizations.
There are, as you might be beginning to think,
some substantially large-scale opportunities
for innovation and growth in everything
from advanced batteries to store the power
when the sun isn't shining and the wind isn't blowing,
hydrogen electrolyzers to create
new sources of renewable fuel,
the idea that we can directly capture
CO2 emissions from the atmosphere to
reduce those emissions from
existing fossil fuel energy generation sources
and then finally we're going to need
critical minerals to produce
the batteries for electric vehicles and
other storage of renewable energy among other uses.
Not only does this present a risk,
but this also presents
significant business opportunities.
What are the implications of the transition
to a net-zero economy for employment?
As you can see here,
the IEA predicts that by 2030,
there'll be 14 million new jobs in
clean energy and 15 million fewer jobs in fossil fuels.
Overall, we can expect growth as
a result of the transition to a net-zero economy,
but there will be displacement as well and that's
something that needs to be taken into consideration.
The transition to a net-zero economy is
likewise going to have significant implications
for households and consumers
beyond simply employment issues.
It is likely that these changes to the economy are
going to affect multiple aspects of people's lives.
Transportation is going to change,
the way we heat our homes and cook
our food is going to change,
urban planning and our jobs may change as well.
The IEA estimates that about 55 percent of
the cumulative emissions reductions in
their net-zero model pathway
are linked to consumer choices.
Those choices include things like what car to purchase,
whether to retrofit a home with
energy-efficient insulation or other technologies,
replacing our existing sources of heat,
for example, a natural gas boiler with a heat pump.
These are all choices that individuals, households,
and consumers are going to make that likewise have
significant implications for business.
How much is this all going to
cost and who's going to pay for it?
We anticipate that the costs
are likely to be significant and that there's
going to have to be a combination
of funding from the public sector and
the private sector to ensure
a smooth transition to a net-zero economy by 2050.
The IEA, for example,
estimates that annual clean energy investment
worldwide is going to need to more
than triple by 2030 to
around four trillion dollars annually.
This financial support is going to
go to stimulating investment in new technologies,
ramping up existing technologies,
the possibility of transition payments for those who are
displaced as the economy changes,
as well as building climate resilience;
meaning our ability as a global community as well as
national local communities to respond to
those effects of climate change that
we are unable to prevent.

Now that I've offered you

some background on what we mean when we talk
about greenhouse gas emissions and
the transition to a net-zero economy,
you can begin to see the risks
and opportunities for business firms.
But before we get to the risks and opportunities,
there's one more important piece of context.
What is driving business firms
to focus on climate change,
or more properly who?
There are two primary categories of actors who
are driving business firms to focus on climate change.
The first is government,
and the second is private stakeholders.
I want to focus for a moment on
the private stakeholders, private actors,
piece of what and who is
driving business firms to focus on climate change
because this is where a tremendous amount of
action has been in the past few years,
and in particular it has
really been growing in the past year.
We have investors and asset managers pushing
their clients and portfolio companies
to focus on climate change.
Lenders like banks,
insurance firms, customers, employees,
and members of local communities,
all of these private stakeholders are forcing
business firms to begin thinking
more actively about climate change.
What do I mean? Investors and
asset managers are playing an essential role in forcing
their portfolio companies that they own
as shareholders to focus more actively on climate change.
There's a great example of this
that happened recently with respect to Exxon,
which is the second largest oil company
in the United States after Chevron.
Exxon's total returns had fallen
by about 20 percent over the last 10 years,
as compared to a 277 percent rise within the S&P 500.
In August of 2020,
Exxon was removed from the Dow Jones Industrial Average.
Engine Number 1 came in with this background of facts,
owning less than one percent of Exxon's shares,
in fact less than 1/10 of one percent of
Exxon's shares, only 0.02 percent.
Engine Number 1 is
an activist investor fund which successfully
pushed to have three members
elected to Exxon's board of directors.
The firm's goal was to position Exxon for
more long-term sustainable value creation.
Its concern, and the reason why it targeted Exxon,
was that the firm had
a poor long-term capital allocation strategy,
as well as a lack of
adaptability to changing industry dynamics,
and a failure to focus on
a shift to renewable energy sources.
Its goal in this campaign
was to realign management incentives.
Although Engine Number 1 owned
less than 1/10 of one percent of Exxon's shares,
it was able to get on board
the support of major institutional investors.
Originally, Engine Number 1 proposed that the names of
four members of the board of directors be elected.
But major institutional investors including
the California State Teachers Retirement fund
which owned $300 million of Exxon's stock,
The Church of England Investment Fund,
California Public Employees' Retirement System,
the New York State Common Retirement Fund,
and the three major institutional investors
in the United States,
BlackRock, Vanguard,
and State Street,
as well as Institutional Shareholder Services
and Glass Lewis,
all of these major institutional investors
and organizations got on
board to vote for somewhere between two
and four of the proposed candidates.
As a result, three of
these candidates were elected to Exxon's board of
directors despite opposition by the existing management.
This was a very important campaign by
Engine Number 1 to change the way that
a major corporation in
the United States thinks about how to
manage risks and opportunities
arising out of climate change.
In addition to the specific actions with
respect to Exxon that I just described,
shareholders in general have been putting forward
more shareholder resolutions to
force companies to focus on climate change,
as well as greater disclosure
their climate risks and
opportunities and their lobbying activities.
For example, very recently,
62 percent of FedEx shareholders voted
to pass a non-binding resolution that FedEx
would be required to disclose annually online
its lobbying policies and
payments to trade associations and groups.
Part of the motivation for
the shareholder resolution was the idea
that when FedEx or
any firm is part of a trade organization,
and that trade organization lobbies
for certain public policies,
that the policies for which that
trade organization lobbies ought to be
consistent with
the firm's public statements about materials,
social, and environmental impacts.
This was a successful resolution and remains to be seen,
of course, how things are going to change,
but resolutions like this have been proposed and
adopted routinely in the past couple of years.
As you can see from this chart prepared
by a non-profit organization called As You Sow,
in the 2021 year,
the firm filed 86 shareholder resolutions and engaged
188 times with different companies
to promote better environmental,
social governance by firms
including with respect to climate change.
In addition to individual organizations,
there are also now
collaborative multi-stakeholder organizations
like the Net Zero Asset Managers group
which has multiple members.
Eighty-seven major asset managers have signed on to be
part of the Net Zero Asset Managers at the latest count,
managing more than $37 trillion
in assets under management.
The goal of this organization is for
these asset managers to collaborate with their clients,
to achieve net zero emissions in
their portfolios by the year 2050.
In addition to equity, shareholders,
and asset managers,
we also need to think about the role of debt.
Banks and lenders are engaging
actively in climate governance as well.
They are doing so in four primary ways.
The first is they are engaging
in portfolio analysis to screen and mitigate risk.
Before a bank decides to lend to
a new project like a coal-fired power plant,
for example, or a natural gas fired power plant,
the bank is going to undertake an analysis to determine
whether that project should be offered credit,
whether it's consistent with the banks
carbon emission reduction targets,
so banks have engaged in negative screening.
The second main method that banks are
using is to take positive steps
to accelerate the transition to
a zero carbon or net-zero economy.
This includes making the choice to
invest in or lend to
clean and renewable energy projects,
as well as to provide advice to clients.
The third way that banks and lenders are acting on
their net-zero commitments is through
voluntary industry associations, for example,
the Partnership for Carbon Accounting Financials
which is a way that banks and
other financial industry organizations have gotten
together to set standards for how
to measure portfolio emissions.
Then finally, banks are committing to
reduce their operational on-site emissions.
I want to just take a moment to go through
each of these in a little bit more depth.
In order to understand
any individual firm's commitments to achieve net zero,
we need to be sure that we're talking
about the same emissions.
There are three different scopes
of emissions that can be at issue.
Scope 1 emissions are
those direct on-site emissions from
sources controlled by the entity itself.
This could include on-site vehicle fleets or
production processes on site, primarily.
Scope 2 emissions are
greenhouse gas emissions that
arise from purchased electricity,
heat, or steam by the entity.
These are indirect.
The emissions are off site,
but they're within the control of the entity.
The third type of emissions are Scope 3 emissions,
and these are the most distant and
indirect from an organization.
These are greenhouse gas emissions that arise out of
sources that are not controlled by the entity,
but relate to the upstream or
downstream activities of the entity.
For example, if an employee of
a firm flies on a plane for business-related travel,
the firm doesn't own the aircraft,
it doesn't operate the aircraft,
but it sends the employee on that business trip.
The emissions from that business-related travel
are the Scope 3 emissions of the firm.
It also includes any indirect emissions
not counted in Scope 1 or 2.
But when we're talking about banks for example,
their lending portfolio emissions qualify as Scope 3.
Down with that understanding of Scope 1,
2, and 3,
we can take a moment to take
a deep dive into banks and lenders.
All six major US banks have joined many banks
globally in making net-zero commitments by 2050.
In other words, their plan is to achieve net zero,
not only in Scopes 1 and 2,
but also in Scopes 3 by 2050.
The first way to do this is to
reduce operational or on-site emissions,
which are Scopes 1 and 2.
For example, banks in
the United States have made plans or have already
retrofitted bank branches with
energy management technology and have committed to
source all energy that powers
their business operations from renewable energy sources.
When we're talking about negative screens for
portfolio emissions, that's Scope 3.
Banks in the United States as well as globally
have already made public statements
that they will decline to provide financing or
credit for certain types of projects including,
for example, oil and gas exploration in
the Arctic or the construction
of new coal-fired power plants.
Banks have also made commitments that they will
undertake enhanced due diligence
for other types of projects.
For example, whether to renew
financing for an existing coal-fired power plant,
the bank might require
some form of carbon capture and storage.
In addition, these negative screens
require the banks to undertake
carbon footprint analysis of
their asset management portfolio.
This is consistent with a set
of principals known as the Equator Principles,
which have been adopted by
more than 80 financial institutions around the world,
and require those financial institutions to undertake
environmental and social impact assessment before
deciding to provide financing to certain major projects.
In addition to the negative screens,
there's also positive screening.
This is the idea that banks are now providing
additional financing for clean tech and energy projects.
They are issuing green bonds,
and they're providing advice to
their clients on how to achieve
net-zero commitments outside of
the bank's own operations but rather in their portfolios.
In addition to shareholders and creditors,
customers of firms are providing
a major impetus to business firms
to focus on climate change.
There's research that shows that
customer boycotts are having
an impact on business models.
Many customers actually do conduct research
on the environmental impact
of the products that they purchase.
Customers also spend time researching
a company's claims of how it's tackling climate change,
and will be aware of whether the company's claims are
consistent with the lobbying
that the company is engaging in.
Customer influence may come less from
whether they purchase one product
versus another product,
but more by creating or the potential to create
bad public relations through the media or
through social media about a firm.
In addition to customers,
employees are a significant source of what is
driving business firms to focus on climate change.
Here, you can see an example of
employees protesting
outside the headquarters of their firm.
Just to give one example,
in the spring of 2019,
about 9,000 employees of
Amazon signed an open letter to Jeff Bezos,
urging him to take bolder action on climate change.
Hundreds of Amazon employees, climate activists,
and politicians then spread the hashtag AMZN speak out.
In response, Amazon made a climate pledge
stating that it would commit to
achieving net zero by 2040,
and using 100 percent renewable energy by 2030.
Amazon subsequently announced a $10 billion fund
to address climate change.
In addition to these important
private sector stakeholders,
the government and public sector is playing
an important role in driving
business firms to focus on climate change.
When we think about government actors,
it's important to understand that
there isn't just one government actor,
the EPA or the Environmental Protection Agency
that's important in this space.
When we think about environmental regulators
in the federal government,
we have some traditional regulators.
The EPA, the
DOT which is the Department of Transportation,
the Department of the Interior, FERC,
the Federal Energy Regulatory Commission which manages
pipelines as well as
electric power generation in the United States,
at least some aspects of it.
But the actors within
the federal government who are
focusing on climate change,
this is an expanding list.
We now have agencies
within the federal government that are not
traditionally thought of as environmental regulators,
focusing on climate change.
Now, the Securities and Exchange Commission,
the Department of the Treasury,
the Export-Import Bank of the United States,
and the Department of Defense, among others,
are all focusing on climate change.
In addition to action at the federal government level,
state and local governments have
long been active in this space.
Numerous states have what are known
as renewable portfolio standards.
These are requirements that a certain portion of energy
generated within the state
must come from renewable sources.
That obviously creates a certain amount of demand for
electric power generation to be powered
by renewables rather than fossil fuels.
In addition, California has exhibited
leadership with respect to transportation emissions,
and many local governments are taking
even more active steps to address
climate change by doing things like,
for example, banning
new natural gas appliances in homes.
Beyond the United States,
it's important to recognize that
the global regulatory environment can
have an influence on US business firms and households,
even if those laws are not technically binding.
It's important to be aware of
what's happening in the European Union,
as well as globally.
One professor at Columbia
has referred to this as the Brussels Effect.
But the European Union has been a leader in this space
in particular with respect to
things like climate disclosures,
and other nations decisions can lead to market pressures.
If another country decides that no new vehicles
sold after a certain date can
be internal combustion engine vehicles,
and instead must be electric vehicles,
this is going to have implications
for major auto manufacturers in
the United States who sell cars not only
in the United States, but also globally.

How does all of this translate into

risks and opportunities for firms?
I want to start out by talking about climate risks.
Now, some of these may be obvious to you
and some of them may not be obvious.
But there are different types of
risk arising out of climate change;
physical risk, transition risk,
litigation risk, and reputation risk.
Physical risk can either be long-term and
gradual or short-term also known as stochastic.
Some of the long-term or gradual risks
associated with climate change,
those that are physical include;
sea-level rise, increasing temperatures,
both on land and in the oceans, ocean acidification,
which occurs when the oceans absorb
carbon dioxide and a chemical reaction
turns it into carbonic acid.
In addition, physical risks include
geographic shifts in agricultural productivity.
The idea that while wine grapes may
be plentiful now in France or California,
we might need to think more about
the Northern neighbors going
forward to grow those grapes.
In addition, a long-term and gradual risk
could include drought and water scarcity.
On the short-term side,
we know from research that
climate change is leading to
increasingly intense storms,
as well as heatwaves and droughts, coastal flooding,
and storm surge from those storms, and wildfires.
Transition risk is related
to physical risk but is
a slightly different form of risk.
This is the risk that comes as
a result of the transition to a net zero economy.
As we transition,
that transition can either be
smooth or it could drop off a cliff.
The more we do now,
the less likely it is that
the transition risk is going to be the off a cliff kind.
When we think about transition risk,
this includes things like new laws
or regulations that require
a disclosure or changes in
business activity to address climate change.
Transition risk also include stranded assets,
which I'm going to explain in just a few moments.
Transition risk can include shifts in
consumer demand or commodity supply.
Certain commodities may be more difficult to
obtain and consumer demands may shift as we transition,
for example, from
internal combustion engines to electric vehicles,
or from natural gas stoves and
boilers to those that are electric.
Transition risk also includes
the cost of the transition,
which again, if it is smooth,
those costs will be lower than
if we are in the off a cliff scenario,
as well as the speed of the transition.
The third type of risk that firms
face is litigation risk.
This could include litigation to allocate the costs
of adapting to climate change, for example,
recent litigation filed by municipalities against
major fossil fuel firms seeking money to pursue
climate adaptation and
resilience strategies like building seawalls
to hunker down from the increasingly intense storms.
This can also include litigation over lack of
adequate climate disclosures or
what is known as greenwashing,
the idea that a firm is
over-inflating
the environmental attributes of a product,
service, or the firm
itself that are not backed up by the evidence.
A final form of litigation risk comes in bankruptcy.
Many people will refer to the bankruptcy of
electric power provider PG&E in
California as the first-ever climate bankruptcy
because PG&E filed for
bankruptcy after major wildfires to
place that were caused by
its power lines sparking and leading to the fires.
This created massive liability for
the company and its assets were
insufficient to cover those losses.
A final type of risk is reputation risk.
This can come as a result of consumer boycotts and can
lead to lost sales for
poor performance when it comes to climate change.
I want to take a moment to help you
link these different types of risks together.
How is it that physical risk from climate change can
lead to these other forms of risk to the economy?
We know, for example,
from research that severe weather events
and disasters are becoming more frequent.
These include; hurricanes and cyclones,
like the one in the image that I'm showing you,
the resulting coastal storm surges,
severe precipitation leading to flooding,
as well as the gradual effects of sea level rise.
These physical risks can lead to
significant uninsured and insured losses
for homeowners and business firms.
How is it that physical risk can
translate into a financial stability risk?
Imagine that we begin with a physical risk like
an extreme weather event or
gradual change in the climate,
this can lead to disrupted business,
people can't get to the office.
The supply chain breaks down
because ships can't enter the port.
Capital must be scrapped,
buildings and plants need
to be reconstructed or replaced,
commodity prices can increase,
and people may end up migrating.
Those are all effects on the real economy.
Secondarily, these can have
effects on the economy and the financial system.
These can lead to
lower residential property values
in areas that are subject to
repeated flooding or sea level
rise similar with lower commercial property values.
If your house is worth less,
you are less wealthy as a household.
There may be more litigation over
whether insurance covers these losses,
who's going to pay for the damage?
This can lead to financial stability risks
for the financial system as a whole.
One important aspect of climate risk
is the concept of stranded assets.
There are three types of stranded assets
distinguished by the method of stranding.
There's economic stranding of an asset.
This is the idea that the cost or price of
an asset changes and leads
the asset to be worth less than expected or worthless.
This could be as a result of losses or changes in
consumer demand or for other reasons.
The second type of stranding is physical stranding.
This is the idea that
weather events like flood or drought or
other extreme or gradual events render
an asset worth less or worthless.
Finally, there's regulatory stranding.
This is the idea that a change in policy, for example,
the introduction of a carbon tax
or a ban on certain types
of energy production or
a ban on internal combustion engines,
for example, renders an asset worthless or worth less.
Assets that can be stranded would
include things like oil reserves.
Imagine an oil field on the books of
a major fossil fuel producer
that has economic value now,
but if there's a change in policy,
that means that the company can no longer drill in
that oil field and sell that oil
or it is less profitable to do so.
That is an asset that can be stranded.
It's not just fossil fuels and reserves which
are the most obvious cases of stranded assets,
but there're also knock on effects or
downstream effects that can
lead to additional forms of stranded assets.
These could include things
like distribution infrastructure,
production and processing within the value chain,
or imagine a house or a mortgage
that is literally under water.
Just to give you a sense of the scale of the problem,
in 2020, the consulting firm,
BCG concluded that between 1 and $4 trillion
in assets in the oil and gas sector
are likely to become stranded by 2030.
Other estimates suggest that
even higher proportions of
hydrocarbon assets will be stranded or
must be stranded and left in the ground in order to meet
either a 1.5 degree or even a two degree Celsius target.
As you can see here from Standard and Pours,
the largest fossil fuel financers from
2016 - 2020 are the major banks listed on the left.
You can see the negative numbers
in the third column representing
the year-over-year change in
the proportion of fossil fuel projects
that they are providing financing to.
This is suggesting that
these major lenders are declining to
provide more financing for fossil fuel firm projects.
Another important aspect of transition risk that's
worth focusing on are shifts in consumer demand.
What if you don't work for
a major fossil fuel producer but you
just work for an ordinary small business?
Consumer demand may affect you.
These data demonstrate that
consumers are increasingly focusing
on climate and other
ESG or environment social and governance factors
as important to their purchasing decisions.
You can see that it may be less important to
the boomers of the Gen Xers among us,
but the Millennials and Gen Z care more and more.
This is consistent with
data that demonstrate that more than 50 percent
of consumers interviewed have said that they would
spend more on environmentally friendly products.
These numbers are higher for some groups.
After all that bad news about the risks,
I think it's also important to
focus on climate opportunities.
Business firms need to be taking
an active approach to consider the ways in which they can
pivot and adjust to take advantage
of opportunities to promote
a transition to a net zero economy in ways
that will be consistent with consumer demand,
their employee interest,
and other stakeholder pressures.
For example, all firms need to be thinking
about ways to increase their efficient use of resources.
How can we as a firm
be more efficient in how we use energy,
water, and how we manage our waste?
Is it possible for us to engage
in some technological innovation?
Can we promote more efficient heating
and cooling systems or energy generation?
Are there ways to think about
using water more efficiently?
There's also opportunity in the energy innovation space
including in the development
of low emission alternative energy sources like wind,
solar, geothermal, hydropower,
and CCS which stands for carbon capture and storage,
as well as improving storage capacity,
for example, of batteries.
Other climate opportunities include
the possibility of developing
new products and services that
have a reduced carbon footprint,
as well as in reducing emissions
in the supply chain through greater efficiency.
Financial organizations are actively thinking
about opportunities to create new markets
or provide access to new markets through things like
green bonds or the marketing of carbon offsets,
as well as engaging in
public-private partnerships to promote
infrastructure investments and new networks.
Then finally, a topic that
is incredibly important that perhaps
gets a little bit less attention than the idea
of reducing climate emissions is,
how can we think actively
about promoting climate resilience?
To recap what we've been talking about so far,
I want to offer two important takeaways.
The first is that organizations
and researchers including the IEA and the
Intergovernmental Panel on Climate Change
have set forth scenarios that would allow
the global community to keep global warming at or
below our target of 1.5 degrees Celsius.
This involves getting to a net zero economy by 2050.
This transition to a net zero economy by 2050 poses
not only risks for business firms,
but also many opportunities in the transition.
We need to be mindful of the fact that
physical risk is connected to financial,
transition, and reputation risk in material ways.
These ways are likely to differ by industry.
Opportunities include everything from
developing new products and services,
to thinking about how to use energy more efficiently,
to thinking about how to finance this whole transition.