BiGS Actionable intelligence: Recent HBS research offers first proof that when lenders divest from coal producers and coal-reliant industries, the resulting rationing of capital leads to lower carbon emissions. This knowledge will encourage banks in their current strategy and give other industries an incentive to act to avoid becoming the next target.
BOSTON – March 31, 2023 – Consumers
who are eager to mitigate climate change can take many actions, such
as reducing the number of airline flights they take or installing
solar panels on their homes. But the planet is in a race against
time, and individual action alone won’t help most countries reach
net zero by 2050, the goal to prevent the planet from warming more
than 1.5°C above pre-industrial
levels.
Pondering
this overwhelming problem, HBS professors Boris Vallee and Daniel
Green turned to the business world’s actions, and in 2021 started
looking for evidence that the coal divestment policies of large
banking institutions are effective at reducing carbon emissions.
Coal, after all, is the source of more than a fifth of all CO2
emissions and is more carbon-intensive than any other energy source;
phasing out coal-fired power production is therefore critical to
reaching net zero. The coal industry is also reliant on large amount
of capital, typically from banks.
Their
report, “Can
Finance Save the World? Measurement and Effects of Coal
Divestment Policies by Banks,”
indicates promising results: Coal firms that face strong divestment
policies from their historic lenders reduce their borrowing by a
quarter compared to their unaffected peers. This capital rationing
leads to reductions in CO2 emissions, as divested firms are more
likely to close facilities.
Awareness
of this impact could also encourage
business, government, and civil leaders to further roll out these
policies to tackle climate change—possibly to other industries such
as oil & gas.
“To
break up the status quo and to decarbonize our economies, we need to
think differently and ask new questions,”
said Vallee, who has been focusing recently
on finance’s possible
role in accelerating the transition to a low-carbon economy.
No
evidence until now
Although
the divestment movement began back in 2006 with a student campaign in
the United Kingdom, until now, there’s been no proof that the
banking industry’s experimental coal divestment policies achieve
the desired results.
This
evidence of the impact from coal divestment arrives as debate rages
in the investment world around divestment vs. engagement. Today’s
leaders in the finance space face a dilemma: Do they use their
financial “seat at the table” to convince a company to become
greener? Or do they divest their funds, sending a signal to the
company and market that dirty industries will find it harder to raise
money?
Why does
coal divestment work?
In short,
money talks.
Vallee and
Green’s research reveals that the coal industry has few options for
securing alternative debt financing if an existing source vanishes.
The number
of banks that facilitate coal-related deals is so small —and the
relationships so deeply entrenched— that by default, these bankers
have disproportionate influence over what gets financed.
Coal-fired
power plants owned by companies that are exposed to bank divestment
policies are more likely to be retired, the research shows.
“What
we found in this case is that banks divesting from coal directly
leads to real impact—more than anyone thought,” Vallee said.
“This means that the financial effects translate into environmental
effects. By reducing capital expenditures, facilities are
decommissioned, and CO2 emissions ultimately fall, as any alternative
source of energy is less carbon-intensive.”
For
the project, they examined 12 years of data between 2009 and 2021 on
bank’s coal divestment policies (tracked by the nonprofit group
Reclaim Finance), coal company financing transactions and financial
statements, and the operating status of coal mines and coal-fired
power plants.
They
spoke with executives at several banks that have implemented coal
divestment bans following the 2015 Paris Accords. The research team
also gleaned insights from Berlin-based Urgewald, a nonprofit that
produces the Global
Coal Exit List,
which contains three divestment criteria that investors can apply to
screen coal companies out of their portfolios.
They identified about 80 banks around the world have implemented coal divestment policies, affecting more than half of coal lending activity, according to Vallee and Green.
Not
all bans created equal
Currently,
the banks that are the
most active in coal lending implement weaker divestment policies,
according to the HBS research.
One
classic weak policy is prohibiting only the worst practices, such as
mountaintop removal coal mining, which cover only a small fraction of
coal projects.
In contrast, a more sincere policy would phase out all types of coal projects, starting with new projects, then potentially banning new clients, and finally phasing out existing clients by lowering the threshold of revenue that they can earn from coal.