Financed emissions are a strong catalyst for climate change while being hard to tackle for financial institutions due to their large exposure to “dirty” industries in their investment strategies.
By engaging in proactive solutions to combat their financed emissions, banks can reduce risks—reputational, legal, and regulatory—and align with clients’ growing demand for green portfolios.
The Liechtenstein Bankers Association used KlimaDAO’s tech stack to offset their operational emissions, positioning themselves at the cutting edge of Web3 and climate, and are formulating a future sustainability strategy to reduce financed emissions going forward.
During COP26, held in Glasgow in the UK in late 2021, 194 countries pledged to deliver strategies for emissions reductions by the end of 2022. A year later, however, only 24 countries had followed through. Emissions of carbon and methane and reliance on fossil fuels remain strong catalysts of climate change, with countries’ updated pledges accounting for less than a 1% cut in greenhouse gas (GHG) emissions instead of the 45% reduction needed to reach the agreed-upon climate targets for 2030. Decarbonizing key sectors of society is the only way to limit global warming, but current efforts are clearly inadequate. Nevertheless, this transformation will have to happen at a rapid pace across not only typical emissions-heavy industries (e.g. energy, automotive, shipping, or construction) but also in industries less associated with pollution—such as the banking sector.
Compared to its impact on society, the banking sector enjoys fairly low Scope 1 emissions—direct GHG emissions that occur from sources that are controlled or owned by organizations—with even a major bank like JPMorgan Chase contributing only roughly 70,000 tonnes of carbon per year in direct emissions. However, the impact of “invisible” financed emissions on a global scale is considerable. Financed emissions are those indirect GHG emissions that are attributable to a financial institution through its involvement in the provision of capital to a company that emits GHGs.
As humanity’s understanding of adverse human-caused climate change improves, the role finance can play in reducing carbon emissions is becoming more apparent. The 12 largest banks alone invested roughly $2.4 trillion in the fossil fuel sector between 2016 and 2021. While this figure has been declining since 2019, total investment is still significant at $742 billion in 2021. Through coalitions like the Glasgow Financial Alliance for Net Zero (GFANZ), more than 450 financial institutions have committed to reducing their carbon emissions, with 65% of the top 15 banks in Europe, North America, and the Asia-Pacific regions pledging to reach net-zero emissions (including financed emissions) by 2050. However, the total investment in the fossil fuel and energy sector creates challenges for all banks exposed to these industries.
Banks with high exposure to these industries therefore face significant challenges in terms of meeting their ESG targets. It will be necessary for the banking sector to shift toward allocating capital to sectors that have lower emissions or that are decarbonizing more rapidly. However, compensating for financed emissions and offsetting them via high-impact carbon projects is also a necessary step toward carbon-neutral banking. Financial organizations like the Liechtenstein Bankers Association (LBA) have recognized the importance of decarbonizing banking operations in their entirety through exposure to the digital carbon markets—including tackling financed emissions.
KlimaDAO x LBA x Swappable
In late 2022 the Liechtenstein Bankers Association partnered with KlimaDAO to offset their operational emissions. All emissions through 2021 and 2022 were offset, while 500 climate-positive NFTs representing the road to a long-term sustainable society were also issued. Through future contributions, these NFTs will continue to offset the annual carbon footprint of their holders.
LBA created these NFTs by partnering with Swappable, a Liechtenstein-based NFT solutions provider created by multi-chain DeFi company TrustSwap. By engaging with emerging blockchain technologies like Swappable’s NFTs and KlimaDAO’s digital carbon technology, LBA has proven that the barriers to enter the Web3 space and leverage its tools to decarbonize emissions are not as steep as industry outsiders might initially assume. The Association found a way to combine sustainability strategies for their organization with high-end digital carbon offsetting through KlimaDAO’s tech stack. LBA is a meaningful example of how to engage in powerful activities to reduce an organization’s carbon footprint as well as actively engage the members of the organization in its sustainability efforts through the NFTs.
In its Roadmap 2025, LBA outlines a path to “growth through sustainability and innovation”, driven by precise fields of action, a strong mission, and clear success factors. With the country’s Blockchain Act in 2020, Liechtenstein was one of the first countries to create legal security around a future economy based on blockchain technology and widespread tokenization of assets. These targets align with KlimaDAO’s vision of the Digital Carbon Market, which is driven by tokenized carbon assets that offer greatly increased transaction speed, transparency, price discovery, and reduced transaction costs, among other advantages over traditional markets. By offsetting their operational footprint for the last few years and continuing to engage in Web3 trends like NFTs, LBA has demonstrated its commitment to the expansion of the Digital Carbon Market and to its own transformative goals. Additionally, the Association serves as a strong case study for other financial institutions seeking pathways to decarbonize current operations and future financed emissions by leveraging KlimaDAO’s tech stack and, in the future, tools like Confluence Analytics’ Climate Optimized Direct Index (CODI).
Tackling financed emissions
With financed emissions dwarfing operational emissions, tackling them will require even stronger, more forward-thinking approaches over the upcoming decades. These emissions are defined in three main areas as lending, investment, and underwriting activities. As they are currently difficult to measure accurately, more robust methodologies will be necessary in the future, especially in the area of underwriting activities. This necessity not only originates in the desire to reach ESG goals, but in a shift in the perspective of investors and the banking sector itself. Between 2016 and 2020, funding of sustainable investment products increased by 55% globally. Increasing disclosure requirements for financed emissions should also lead to a shift in investment strategies.
Further, roughly 40% of all managed assets in the world currently align with net-zero commitments by banks under the umbrella of the Net Zero Banking Alliance (NZBA), an industry-led, United Nations-convened group of financial institutions that includes the LBA. The NZBA aims to provide a coherent international framework and guidelines—supported by peer learning from pioneering institutions—that strengthens, accelerates, and supports the implementation of decarbonization strategies. It operates in tandem with GFANZ and, drawing on the GHG Protocol and the Partnership for Carbon Accounting Financials (PCAF) methodologies, is developing the tools needed to calculate institutions’ financed emissions on a granular, asset-by-asset basis. This is a difficult task, and progress is likely to be incremental rather than transformative.
As investors’ requests for exposure to green investments will continue to rise, the banking sector will come under pressure to both increase the quality and quantity of sustainable investment decisions and improve the transparency and accuracy of financed emissions reporting. Pioneer institutions that undertake active loan portfolio steering and cutting-edge emissions tracking are likely to be at a significant advantage over the coming decade and beyond. In a long-term race such as the one that humanity confronts in halting climate breakdown, lagards will be left behind. Current Web3 technology—particularly KlimaDAO’s tech stack—is shaping up to enable banks to overcome some of the key barriers currently restricting progress.
Reducing risk via early climate action
Financed emissions are one of the largest contributors to the climate crisis. Increasing domestic and global regulation, tighter reporting standards, evolving investor demand, and shifting public sentiment together mean it is only a matter of time before all financial institutions have to account for their financed emissions. The significant challenges that such accounting entails—in terms of data availability, knowledge gaps, and new methodologies—mean that starting early on the journey will reduce regulatory, investor, legal and reputational risk.
Organizations like the LBA have recognized the necessity to align their customers’ investment goals with our society’s collective need for a sustainable future. Tools such as the LBA’s NFT and the coming soon auto-offsetting NFTs offer a glimpse of how the Digital Carbon Market can be a powerful ally to banks as they shape a greener future. Moreover, there is a widespread expectation of greater investment returns as well as reduced financed emissions–with some of the positive growth effects already visible in products making ESG-related claims. By partnering with KlimaDAO, the LBA has paved the way for banks to leverage cutting-edge technology without exposing themselves to undue risks—and in the process created a showcase for successful business models built on dramatically reduced operational and potentially financed emissions.
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