What role for pension funds in financing climate change policies?

Joint TUAC - ITUC issues paper

The current climate change policy agenda faces two major challenges. One is with the absence of a strong regulatory framework for effective emission reductions. The other is with the lack of financial resources to implement emission reduction and adaptation policies with a specific focus on the developing world.

Trade unions strongly believe that it is governments and publicly accountable financial institutions that should take the lead in ensuring proper financing of mitigation and adaptation policies. But institutional investors can and should have a complementary role given the change in scale that is needed. Pension funds represent an important class of asset owners and one with which trade unions have a special relationship. They have a social purpose, that of financing workers’ right to retirement and most often they are established as part of a collective bargaining agreement and include union representatives on their board of directors (the “pension trustees”).

Given its size, the pension fund industry could play a key role in raising climate changerelated private financing. Our calculations suggest that pension funds’ net contribution to financing of climate change projects could potentially reach USD301bn in 2015 – if by that time portfolio exposure to climate change reaches 5%. Annual flows would then gradually decrease over the period and stabilise at USD80-90bn by 2040. Total flows would reach USD3.7tr for 2013-2030 and USD5.9tr for 2013-2050. These projections are based on conservative assumptions: (i) only the larger public and private pension schemes – accounting for approximately half of worldwide pension assets – would have the flexibility and capacity to re-allocate and (ii) portfolio exposure per asset class remains within prudential norms throughout the period.

There are important barriers that need to be overcome however for that financial contribution to be unleashed. The most challenging ones are on the supply side of the market, namely the limited access to climate change investment products. The current green bond market value is estimated at USD16bn, “a drop in the ocean” of the world bond markets, while annual green bond issuances are in the range of USD1-2bn.

Pension funds are tightly regulated financial institutions when it comes to risk management of their portfolio. Because they aim at financing a social purpose – workers’ right to retirement – they cannot take excessive risks in the choice and design of their investment policy. Yet dealing with the ‘green risk’ – that risk that is specific to climate change-related investments – is no easy task. Climate change infrastructure for example is an asset class that entails a higher degree of investment risk than comparable ‘brown’ investment (use of recent or unproven technologies, uncertainty and inconsistency of regulations and policies, cross-border investment risks). The fall outs of the global financial crisis since 2008, including the demise of global private insurers (‘monoliners’) are not making things easier. In fact it may be argued that the post-crisis G20 G20 The Group of Twenty, or G20, is a forum for international cooperation on the most important aspects of the international economic and financial agenda. It brings together 19 countries and the European Union, which together represent around 90% of global GDP, 80% of global trade and two thirds of the world’s population. financial reform agenda was designed in a way that does sufficiently take on board climate change financing priorities.

On the short term, the best way to deal with the ‘green risk’ is to enhance government guarantees on green bonds and clean energy investment funds to ensure they become sufficiently attractive for pension funds. But past experiences with Public-Private Partnerships and more recently the post-crisis bailing out of the banking sector suggest that public support for private financing does not come free for governments and their citizens. From a trade union point of view it is also clear that private infrastructure financing – however ‘green’ it is or becomes – would still be of concern if it directly or indirectly leads to privatisation or weakening of public services.

Download the full document

PDF - 287.8 kb
What role for pension funds in financing climate change policies?
download open