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Biden climate resiliency “roadmap” targets financial disclosure

20 October 2021 Kevin Adler

The Biden Administration Roadmap to Build an Economy Resilient to Climate Change Impacts seeks to accelerate government efforts to improve corporate tracking and disclosure of GHG emissions, and illustrates the determination of the administration to use financial regulation to drive companies in this direction.

As an extension of a "whole-of-government strategy" to protect consumers and the economy from the impacts of climate change, the roadmap places improving the financial system's ability to identify risk atop the agenda.

It builds on the 20 May Executive Order on Climate-Related Financial Risk that set in motion studies of financial risk by several agencies, and placed GHG emissions as a factor in federal contracting and climate risk into long-term budgeting.

"Extreme weather has cost Americans an additional $600 billion in physical and economic damages over the past five years alone. Climate-related risks hidden in workers' retirement plans have already cost American retirees billions in lost pension dollars. Climate change poses a systemic risk to our economy and our financial system, and we must take decisive action to mitigate its impacts," the administration said in announcing the roadmap.

The roadmap will complement investors' growing demands on companies to address climate issues, which continues to intensify as COP26 draws near.

S&P Dow Jones announced on 18 October it will remove US energy producer NextEra Energy and European energy firms Drax Group and Enel from its Global Clean Energy Index, in an effort "to enhance index diversification, improve transparency, further reduce the index's carbon footprint, and align the index methodology with market trends and sustainable investing norms."

With this new roadmap, IHS Markit Climate and Cleantech Executive Director Peter Gardett said the government is playing catchup, to some extent. "Climate risk is now a focus of intense interest among investors, and it is the concern that climate risk is not appropriately accounted for in government guarantees and processes that is driving these changes," he said.

"Investors see the risk, and they need help from the federal government in creating mechanisms that allow that risk to be reflected in market functions in which the federal government plays a key role," Gardett said.

Meanwhile, investors keep moving their money away from risk sectors most immediately exposed. This week, the Ford Foundation announced its $10-billion endowment will no longer hold stock in fossil fuel companies. It follows September announcements by Harvard University ($52-billion endowment) and the MacArthur Foundation ($8 billion) that they will divest their fossil fuel assets, and in August, the New York State Public Employee Retirement Fund, the third-largest public pension plan in the country, said it may restrict investment in firms it feels are not adequately planning for the energy transition.

As part of the government's role in protecting investors, it will train its attention on climate risks, said National Climate Advisor Gina McCarthy at a press briefing to unveil the roadmap on 14 October. "Climate change poses a risk to our economy and to the lives and livelihoods of Americans, and we must act now," she said. "This roadmap isn't just about protecting our financial system—it's about protecting people, their paychecks, and their prosperity."

Securities and Exchange Commission

The Securities and Exchange Commission (SEC) has been supporting investor-driven actions on climate risk, and the new roadmap states that the SEC is expected by the end of 2021 to propose the first-ever mandatory disclosure rules for environmental, social, and governance (ESG) risks.

"A lot of companies are making these disclosures already, with more realizing in the last year or two that this is a priority. But they need guidance on what to disclose, and the SEC's involvement is a good sign," said Jack Belcher, principal with policy analysts Cornerstone, which recently launched the Center for ESG and Sustainability (CESG) in conjunction with Columbia University's International Research Institute for Climate and Society.

In September, the SEC told public companies they must adhere to existing guidelines on climate risk disclosure, which was seen as a clear indication of the agency's intentions in this area. Those guidelines were written in 2010 and do not carry the force of a regulation.

Mandatory disclosures by the SEC could have a significant influence on capital flows, said Gardett. "It would allow investors to begin to 'see' the problem and opportunity sets in ways that easily flow into asset pricing and thereby into capital allocations," he said.

Belcher said he thinks the new rules "will take a measured approach," starting with a focus on climate risk, before expanding to the full range of ESG matters.

In a review of comment letters to the SEC on the topic, Belcher said Cornerstone found "the vast majority of companies would like to see disclosures done (if they are made mandatory) under an existing framework, with many citing the Task Force on Climate-Related Financial Disclosures (TCFD) and Sustainable Accounting Standards Board as the preferred frameworks."

Corporations expressed "strong support for industry-specific reporting standards," said Belcher, and expressed concern about mandatory Scope 3 emissions reporting.

The TCFD is perhaps the best-known developer of voluntary reporting standards. In its 2021 Status Report, published on 14 October, the TCFD said that disclosure in line with its recommendations has grown nine percentage points from 2019-2020, and, for the first time, more than 50% of companies reviewed disclosed their climate-related risks and opportunities. The TCFD said that supporters of the standards now represent more than $25 trillion of combined market capitalization, double the level of a year earlier.

"There is clear and growing consensus among investors and regulators on the importance of climate-related disclosure and the need for standardized, transparent data to support capital allocation decisions," said Mary Schapiro, head of the TCFD secretariat.

What risk reporting the new SEC rules will require is one question, but another is to whom they will apply. "When it comes to climate disclosure regulation, it seems possible-even likely-that mandatory SEC reporting standards will apply only to SEC-registered firms," wrote Meredith Fowlie, a UC Berkeley professor in the Department of Agricultural and Resource Economics, and faculty director at the Energy Institute at Haas, which is affiliated with Berkeley.

This could undermine the benefits of the rules, Fowlie said. "If only public firms face mandatory reporting requirements, this will create an incentive to transfer assets and activities with large carbon footprints (however these are measured) from public to private firms," she wrote.

While the SEC is focused on matters under its authority, a broader assessment of the government's role in driving the financial sector to greater climate risk awareness could come from a report by the Financial Stability Oversight Council, which could be released this week.

Requested by Biden as part of his May executive order, the report is expected to address improvements in climate-related disclosures by corporations, and how financial regulators can incorporate climate risk into their supervisory activities.

These matters will likely be well-received by investors, as indicated by a recent survey by the Institute for Shareholder Services (ISS) of institutional investors around the world, released on 1 October.

ISS found 88% say they expect "clear and appropriately detailed disclosure of [a corporation's] climate change emissions governance, strategy, risk mitigation efforts, and metrics and targets." Also, 72% say that a company should have a long-term plan for achieving Scope 1, 2, and 3 emissions targets in line with the Paris Agreement, with 63% saying that its strategy and capital expenditure program should demonstrate that intent.

Retirement program, insurance guidelines

Another part of the Biden roadmap is the rule the Department of Labor (DOL) proposed on 13 October that would amend federal retirement plan regulations known as ERISA to reinstate the permitted use of climate change and ESG considerations by advisors.

The Trump administration had severely limited consideration of those factors in a series of new regulations finalized late in 2020, arguing that the risks cannot be well-defined and therefore do not meet the standards for ERISA.

Under Biden's instruction, DOL decided on 10 March not to enforce any violations of the Trump administration's ERISA rules. The proposed rule goes a step further by presenting advisors with a "safe harbor" for incorporating assessments of climate change and ESG into investment recommendations. "Climate change and other ESG factors are often material… in the assessment of investment risks and returns," the proposed rule states.

ISS said in a statement that the ERISA proposal will "remove unnecessary burdens on the selection of ESG investments and confirm that climate risk and other ESG factors may appropriately be considered under the fiduciary duty of prudence."

Other measures

Yet another aspect of the "whole-of-government approach" unveiled in the roadmap is to direct the federal government's approximately $650 billion in contracts each year towards lower-carbon choices.

The Federal Acquisition Regulatory Council this month published a notice that it is seeking input to help federal agencies incorporate GHG considerations in purchasing and in raising climate risk disclosure from purchasers.

"How the government spends its money can make a huge difference, though federal contracting is a blunt tool with a long history of poor correlation with intended results," Gardett observed.

Federal lending and underwriting, such as that performed by the Department of Agriculture, the Department of the Treasury, and the Department of Housing and Urban Development, is discussed in the roadmap as well.

Under Biden's orders, those agencies and others will in the future include climate risk standards as part of their lending practices, and they will also direct lending to support community resilience in the face of climate change.

Reaction

Activist group Evergreen Action called preference in federal contracting for low-emissions providers a "promising" step, but said: "To truly mitigate the threat that climate change poses to our financial system, the administration must address the drivers of climate financial risk…. The White House must take steps to end government financial support for fossil fuels, and use all possible tools to ensure the private sector does the same."

The attitude of Evergreen Action that incentives such as new lending standards are necessary, but not sufficient, steps towards reducing US carbon emissions has also been expressed by clean energy trade associations, Congressional Democrats, climate advocates, and others.

This can be seen through decisions such as the use of the Congressional Review Act to cancel Trump's methane regulations on the oil and natural gas industry and reopen them for the US Environmental Protection Agency to rewrite with stricter standards.

Democrats also have pointed to the FY2022 budget and the Build Back Better infrastructure bill as key components for driving investment in a clean energy future, and some versions of those bills have included methane taxes and a cost-of-carbon factor.

These types of requirements would be welcome because disclosure "is no substitute for direct regulation of greenhouse gases," noted UC Berkeley's Fowlie.

Posted 20 October 2021 by Kevin Adler, Editor, Climate & Sustainability Group, IHS Markit

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