COP27: Financing the transition to net zero

COP26 saw the private sector commit to accelerating climate action. But the economic and geopolitical instability that followed have put some net-zero goals, like the 1.5˚C warming limit, in jeopardy—not least because of the scale of economic transformation required to achieve them.

McKinsey estimates that the cumulative capital spending on physical assets for the net-zero transition—such as technology, infrastructure, and natural resources—would need to change from today’s annual average of $5.7 trillion to $9.2 trillion through 2050.

Over several panel sessions around COP27, McKinsey experts and special guests explored opportunities and challenges around financing the transition to address mitigation, adaptation, and green growth.

Here are the highlights, which have been edited for clarity. You can watch replays of McKinsey’s sessions here.

We are in a new phase of climate finance. While the past decade has been focused on financing renewable power, setting standards, and getting commitments and engagement from the private and public sector, this phase of climate finance will need to accomplish new goals, said McKinsey senior partner Dan Stephens.

An additional $3.5 trillion of capital a year through 2050, per our research, is needed. That funding must help catalyze decarbonization in hard-to-abate sectors and accelerate innovation in emerging technology. The right policies, capabilities, and standards, including reporting standards that support credible decarbonization efforts of high-emitting assets, needs to be established to measure progress on this front. And all of this must be done in a way that creates viable returns, whether through commercial demand or government price support.

Investors recognize energy transition remains a stable long-term investment. Harry Boyd-Carpenter, the managing director of climate strategy and delivery for the European Bank for Reconstruction and Development, said he hasn’t seen “any diminution” of investment flows into the sector at large. This is despite short-term shifts, including a reduction in risk appetite and pulled-back investment from low and middle-income countries, as well an increase in cost everywhere.

McKinsey senior partner Jukka Maksimainen noted that in 2022 renewable energy attracted about $500 billion investment, exceeding for the first time ever fossil-fuel systems investment ($450 billion). This development, while exciting from a sustainability standpoint, would need to accelerate quickly to meet net zero. “By the end of the decade, this one-to-one ratio would need to move to a four-to-one ratio,” he said, citing Bloomberg analysis.

COP negotiators are discussing how wealthier nations can help shoulder the transition bill for developing nations. ‘Loss and damage,’ which refers to adverse effects of climate change on nature, people, and developing countries was formally added to the agenda this year. Damilola Ogunbiyi, special representative to the UN Secretary General and CEO of SEforAll, spoke about this during one of McKinsey’s sessions: “There is no scenario where you can get to your climate targets and leave a billion people behind in energy poverty.”

In 2009, wealthier nations committed $100 billion for climate adaptation, but Carol Welch, a director at the Bill and Melinda Gates Foundation, pointed out that part of the financing challenge is in the lack of clear metrics, she said. There are also commercial barriers, including “the difficulty pricing risk in order to evaluate the cost-effectiveness of different interventions.”

Government policies can help accelerate green investment. Mark Carney says one of the important things governments can do is “provide clear signals on where they want to go in key industries” supplemented by “targeted and effective incentives.”

Eric Lim, chief sustainability officer at United Overseas Bank Limited, outlined several ways governments can help support banks to unlock financing in particular. The creation of national and city sector plans articulating their transition by industry would provide a level of certainty at the policy level, which would then allow “real economy players to invest with confidence.”

In addition, once the right applicable and implementable regulations are in place, governments could establish an economic framework—for example, determine subsidies for renewable assets—to incentivize investment into green innovations.

Shargiil Bashir, chief sustainability officer of First Abu Dhabi Bank, also shared four key shifts that banks will need to accelerate green investment: 1) financing policy that values the long-term perspective; 2) innovation—“the solutions we have today are not going to get us to net zero,” he said; 3) public-private partnership; 4) human capital—decarbonization will be impossible without capability building along the value creation chain.

You can watch replays of McKinsey’s sessions here.

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