As global leaders spend the next two weeks hammering out decisions relating to the future of our planet at COP28 in Dubai, one question will permeate all discussions: what role will private finance play in accelerating the transition towards net zero? One thing is clear: the private sector needs to massively scale up investment in net zero relative to public finance, given that it currently accounts for just 40% of climate mitigation investment, far short of the 80% share it is required to contribute by 2030, according to analysis from the International Monetary Fund (IMF).

To date, private sector contributions to support developing countries with their net-zero transitions have been woefully inaccurate. The developed world as a whole has not mobilised the $100bn in annual climate finance it promised to developing countries back in 2009, with the 2020 deadline for that now pushed back to 2025. Moreover, while public sector contributions to the $100bn goal increased by 8% in 2021 compared with the previous year, private finance (leveraged mainly by multilateral and sometimes bilateral institutions, through risk mitigation instruments like guarantees and insurance), has stagnated since 2017, and remains “stubbornly low”, according to an OECD report published in November. 

In 2021, private finance accounted for just 16% of the total amount of climate finance provided by developed countries, and where it was provided, it mainly went towards "middle-income countries with relatively low risk profiles". Countries with "high political and macroeconomic uncertainties tend to have limited private sector development", the OECD’s report finds. 

Private finance: to lead, or to follow?

There has been a discernible shift in how the global financial sector sees its role in the COPs over the past couple of years, says Lindsey Stewart, director of investment stewardship research for financial services provider Morningstar. At COP26 in Glasgow in 2021, ex-governor of the Bank of England Mark Carney announced the mobilisation of a staggering $130trn of private capital for net zero via the Glasgow Financial Alliance for Net Zero (GFANZ).

“[There was a] very heavy optimism that finance was going to lead the transition,” Stewart says. At the same time, many pointed out that the $130trn figure was "too big to be credible", given the market capitalisation of global stock markets was around $120trn, meaning it was likely to involve some double counting. 

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At the conclusion of COP26, Remco Fischer, chair of the UN Environment Programme Finance Initiative (UNEP FI), which convenes three of GFANZ's seven umbrella groups, made the buoyant claim that "financial institutions will now thoroughly lead, support and be at the core of the systemic change needed".

Two years later, Stewart argues “there is a much starker realisation that finance will just have to follow where the regulation and where the policy frameworks lead”. 

The evolution of GFANZ

Prompting this realisation was a handful of roadblocks that GFANZ encountered just months after its inception. In September 2022, three months after Race to Zero – a global net-zero campaign encompassing businesses, cities, regions and investors – committed members including GFANZ to make plans to phase out all unabated fossil fuels, a series of major Wall Street banks publicly threatened to leave Carney’s initiative, citing problematic antitrust or ‘competition’ laws. 

Although GFANZ promptly removed the requirement for its members to sign up to Race to Zero, with Carney publicly citing antitrust concerns as the reason, this incident set in motion a chain of events that effectively led to a number of core members, including the world’s second-largest asset manager, Vanguard, pulling out of the alliance.

Coinciding with the emergence of a heavily politicised anti-ESG [environmental, social and governance] movement in the US, Republican politicians threatened prominent members of GFANZ with litigation – including the world’s largest asset manager, BlackRock – and caused more institutions to pull out. Earlier this year, the Net Zero Insurance Alliance, the insurance arm of GFANZ, lost most of its members, with many alluding to antitrust concerns. 

Despite these setbacks, GFANZ will be present at COP28, and is expected to make several announcements that pertain to private finance for climate action. For example, the alliance will publish the final report from a consultation in September, in which it outlined four strategies to finance the transition to net zero. There, it also introduced the concept of Expected Emissions Reductions (EER), which, contrary to penalising polluters, rewards financial institutions based on the estimated volume of emissions avoided due to their portfolio companies’ transition plans.

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According to GFANZ, this "encourages financing of entities in high-emitting sectors that have yet to achieve net-zero alignment but possess a robust transition plan". However, the NGO Reclaim Finance argues that rewarding fossil fuel companies that are "already awash with cash", based on "subjective, counterfactual guesstimates", is "likely counterproductive".

GFANZ is also expected to publish an updated progress report for the Net-Zero Banking Alliance, which will set out the progress made by its members as they set individual science-based sectoral targets for their financed emissions for 2030, or sooner, using 1.5°C scenarios. GFANZ also will launch a Net Zero Export Credit Agencies Alliance, which will focus on the role of export credit agencies in aligning financial flows to the Paris Agreement.

Moving beyond fossil fuels

The International Energy Agency has said there can be no new investments in fossil fuel supply projects beyond those already announced or under construction at the end of 2021. However, financial institutions have not aligned with this recommendation: earlier this year, the NGO Rainforest Action Network reported that the world’s 60 largest banks had collectively invested $5.5trn in the fossil fuel industry since the Paris Agreement was signed in 2015, despite the majority (49) making net-zero commitments. 

The financial sector’s failure to meaningfully decrease fossil fuel financing means there is increasing consensus that governments must take the lead on commitments to phase out fossil fuels. Catherine Howarth, CEO of responsible investment non-profit ShareAction, is pinning her hopes on the potential inclusion of an internationally agreed pathway out of fossil fuel investment in COP28’s final communiqué as a means to steer financial institutions – and private finance – away from fossil fuels.

“This COP, world leaders must tackle the thorny issue of the role banks, pension funds and asset managers are playing in increasing levels of fossil fuel exploitation," Howarth told Energy Monitor. "Regulation will prove crucial in directing the financial sector away from investments that are putting safe planetary boundaries at risk and help to prevent the worst impacts of the looming climate crisis.” 

Morningstar's Stewart agrees with Howarth on the importance of regulation in forcing the financial sector into action. He points to what some have called a ‘tsunami’ of ESG-related financial regulation since COP26. This includes disclosure standards from the IFRS's new International Sustainability Standards Board, announced at COP26 but only published in full this year, as well as national standards like the US Securities and Exchange Commission's proposed rules on climate reporting, issued in 2022. 

“It really is for governments to decide on the direction and speed of travel, and for finance to provide the capital to help the world adapt,” Stewart says. 

Public sector mobilisation of private finance

COP28 will see negotiations for a new global climate finance target post-2025. Whatever is decided in terms of government funding is important to the private sector because of its "ability to be mobilise and help crowd-in private sector investment”, says Richard Folland, head of policy at the think tank Carbon Tracker. “There is going to be a lot [of discussion] around public finance, whether that is around adaptation, or the infamous $100bn goal”. 

COP28 will provide an opportunity for global leaders to discuss how public finance can usher in private finance towards net zero. For example, the establishment of “collaborative platforms” to pool resources from public development banks, multilateral development banks, governments and private entities to unlock private capital for the Global South, is a key recommendation from the Cambridge Institute for Sustainability Leadership

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COP28 comes on the back of a year in which discussions around global financial architecture reform have reached fever pitch, driven by events including the first Africa Climate Summit and a Summit for a New Global Financing Pact, hosted in Paris by French President Emmanuel Macron alongside Barbados Prime Minister Mia Motley. It is expected that COP28 will see firm financial commitments towards Motley’s own Bridgetown Initiative, which aims to facilitate access to international financing for the countries most vulnerable to climate change. The CISL wants the International Development Association, part of the World Bank Group, to leverage concessional finance targeting $279bn towards the Initiative. It is also calling for a $500bn Global Climate Mitigation Trust. 

Finally, COP28 could see the announcement of more Just Energy Transition Partnerships (JETPs), which are donor agreements to accelerate the phase-out of coal-fired power plants in emerging economies while mobilising private sector capital to finance a "just" low-carbon transition. 

“I know that Western governments see the JETP model as the right sort of overall approach – they put down some money and that hopefully brings the private sector in," says Folland. "I wouldn’t be surprised if we see one or two more announced at this COP.”

Addressing the Adaptation Gap with private finance

The OECD identifies a “pressing need for international providers to significantly scale up their efforts” to leverage private sector investment for adaptation. Contributions are tiny so far, with just $1.5bn of private sector capital committed to adaptation versus $600bn for mitigation, according to a recent report from the non-profit Climate Policy Initiative. 

The OECD’s data shows that most private finance is going into renewable energy investments, which are a clearer and more established investment proposition. Investment opportunities in adaptation are “more nebulous”, says Folland, and it can be harder to see opportunities for profit.

However, this landscape could change at COP28, with governments set to establish a framework for achieving the Paris Agreement’s 'global goal on adaptation'. This aims to develop guidelines that allow countries to set measurable and comparable adaptation goals. Such a framework could give the private sector "a bit more confidence to get involved" in adaptation, believes Folland. 

Collaboration between the private and public sector is key 

Although there is widespread consensus that the private sector will be looking to public policy announcements at COP28 as a means of facilitating its involvement in the net-zero transition, there is still an instrumental role for initiatives like GFANZ, says Paddy McCully, a senior energy transition analyst at Reclaim Finance. 

GFANZ could, for example, “come out with papers advocating for meaningful engagement processes... with financial sanctions" for portfolio companies that are not transitioning at the necessary pace. Such recommendations, although not binding, would “help GFANZ's own members, as well as NGOs, civil society, governments and regulators push for stronger measures", McCully says. 

Ultimately, most of the money needed to finance the energy transition is going to come from private sources, which control the bulk of global capital. The job at COP28 is to find new ways for policymakers to unlock that finance, and get countries on track to meet their net-zero pledges.