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How well have GFANZ and the ISSB fared in their first year?

Author: ICAEW Insights

Published: 18 Jan 2023

Corporate governance and sustainable investment expert Tom Gosling offers his thoughts on how two of the biggest finance initiatives launched at COP26 have performed since.

Little more than a year after it launched, is the Glasgow Financial Alliance for Net Zero (GFANZ) already in need of a reset? Tom Gosling thinks so. As Executive Fellow at London Business School and the European Corporate Governance Institute – and with expertise in investor stewardship, corporate purpose and environmental matters – Gosling has paid close attention to GFANZ since it was unveiled at COP26.

“Bringing together important actors in the financial industry under an umbrella scheme to support decarbonisation is a useful step,” he says. “But GFANZ got itself into a bit of trouble almost from the start.”

Partly, Gosling believes, it was too optimistic. “An initial press release hailed the $130trn of capital that GFANZ signatories have under management and compared it to the $100trn required to fund the energy transition, as if one will take care of the other. But that $130trn isn’t just cash sitting in the bank that GFANZ asset managers can spend how they like. It’s their clients’ money.”

Another issue, Gosling says, is that GFANZ immediately hitched itself to the UN Race for Zero campaign, launched in June 2020, which targets a global warming rate of 1.5°C with limited or no overshoot. “The difference between what has to happen for 1.5°C, as opposed to 2°C, is material,” he notes. “It means not investing in coal at all – and scaling back extremely rapidly on fossil fuels. You’re essentially slamming on the brakes.”

To which many environmentally conscious people would say, “What’s the problem?” But there is a problem: a conflict of interest. “Asset managers have a fiduciary duty to their clients,” Gosling says. “Right now, the likelihood of limiting global warming to 1.5°C is sadly in decline – and GFANZ members can’t just use their clients’ or shareholders’ money to pursue an objective that governments themselves aren’t pursuing.”

Unlocking capital

GFANZ needs to come from a much more modest starting point, Gosling says. The asset management industry won’t be able to set the pace on climate change, but it will be able to make it easier for governments to move more quickly by helping to limit impediments.

In terms of what that new starting point should look like, Gosling sees scope for three key steps. “First, asset managers must recognise their fiduciary duty to clients, and acknowledge that they can’t go around unilaterally shutting down coal-fired power stations. So, let’s be honest that that’s not going to happen, rather than pretending that it is. Second, under that outlook, the primary purpose of GFANZ becomes one of working as a cross-industry body to help governments develop and enact the most effective climate policy possible.”

Part of that involves GFANZ signatories aligning their stated net zero objectives with the lobbying activities that their finance indirectly helps to support. As Gosling points out: “There’s a big problem with saying one thing about climate change publicly while your corporate funding trickles into lobbying bodies that push back against anything remotely resembling credible climate regulation.”

A third step, Gosling says, is for GFANZ to emphasise a current part of its remit by continuing to ensure that signatories offer their clients appealing and innovative financial products, products that have a chance of channelling finance to the right causes.

He notes: “This was a big talking point at COP27: how do we unlock capital for difficult-to-fund projects, particularly in the developing world, around adaptation and mitigation? The asset management industry isn’t going to do this all on its own, because a lot of these projects are too risky for institutional investors. They’ll require blended finance from development banks, governments, donors and so on.”

However, he says the industry could devote more resources to figuring out how to develop appropriate products around those initiatives that would be appealing prospects for clients. “It could play a key role in designing those products, and making personnel available to get the work done – for example, through free secondments. Accountancy firms can help with this too.”

Limits of disclosure

Another initiative that launched at COP26 was the International Sustainability Standards Board (ISSB). How does Gosling rate its progress?

“It’s had a good start,” he says. “The view I’m picking up is that people are quite pleasantly surprised by how fast it’s moved, and I think that’s a feature of its single-materiality stance. Had it chosen double-materiality, it would have bitten off more than it could chew and struggled to find that momentum.”

As for whether disclosure alone is enough to reshape corporate practices, though, that is another matter.

“The problem for advocates like myself who want to see stronger action on climate change is that we need to accept it’s not inevitable that governments will continue to pursue rapid decarbonisation,” Gosling says. “By extension, we shouldn’t assume that just because we now have better disclosure around carbon risks, the market is suddenly going to veer in a completely different direction and force companies to do vastly different things.”

Instead, disclosure is a diagnostic, he points out. It helps us to understand where the carbon is, and enables investors to price government policy changes more quickly.

“I’m somewhat ‘glass half-full’ on this, because while I take the view that 1.5°C is tragically kind of gone, I do think that we will get much closer to 2°C than some fear. Policy will never shift as quickly as the most prominent advocates want. But shift it will – and capital markets will adjust to that tone and follow it at pace. A key role of GFANZ is to both make it easier for governments to act and then ensure that the finance sector follows through as quickly as possible when they do.”

Providing assurance

Turning to how the profession can help, Gosling says: “Accountants play a huge role in providing assurance around disclosures. And a big challenge for auditors will be defining a level of assurance that’s not just manageable for them from a risk perspective but viewed as meaningful by the market, at a time when relevant data within organisations is being yoked together from disparate sources in a slightly Heath Robinson fashion.”

As such, he notes, accountants will need to do a pretty thorough job of managing expectations around what level of assurance they can provide – particularly in the face of a looming double-problem.

“They’ll need to provide assurance on metrics that perhaps aren’t very robustly gathered or controlled within organisations,” he explains. “But in parallel, we’re going to have a bunch of external people taking a very double-materiality view of the world, at a point when auditors will be signing off on single-materiality data.”

In that scenario, Gosling says, we could see lots of cases where auditors sign off on high-profile environmental disclosures, only for an NGO to question the decision based on the company’s history. If auditors respond explaining how this is outside of scope, tension could escalate.

On that basis, he adds: “The accounting and auditing industry faces some significant expectations management challenges, as well as the more basic one of processing capability.”

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