What do TCFD’s recommendations bring to the public debate on climate risks?

The following article provides a synthesis of I4CE’s response to the consultation on the Task Force on Climate-related Financial Disclosure’s recommendations. Globally, I4CE endorses TCFD’s recommendations that represent an important step towards ensuring the integration of climate issues by the financial sector. Nevertheless, I4CE feels that the TCFD’s recommendations on metrics require further developments in the coming months.

Authors:
– Morgane Nicol – morgane.nicol@I4CE.org
– Ian Cochran – Ian.Cochran@I4CE.org

In April 2015 the G20 Finance Ministers and Central Bank Governors requested the FSB “to review how the financial sector can take into account of climate-related issues.”1 The conclusions of a first meeting held in September 2015 identified a ‘clear’ need for better information on climate risks from companies for financial actors to be able to integrate climate issues into their economic decisions. Consequently, the FSB launched in January 2016 the Task Force on Climate-related Financial Disclosures (TCFD). Its mission is to provide recommendations for companies to improve their disclosures on financial impacts of climate issues, in a way that will help financial actors to understand the climate-related risks of their portfolios. On December 2016, the draft conclusions of the TCFD were published and the consultation on these recommendations closed on February 12.

I4CE’s endorsement of TCFD’s general recommendations, representing a major landmark for financial institutions and the economy more broadly

In the context of the current levels of global warming and urgency of a transition toward a low-carbon economy, financial institutions face significant climate-related physical and transition risks, as well as the opportunity to capture climate-related opportunities. It is thus crucial that financial institutions take into account climate-related risks and opportunities in their risk management and investment strategy. Some financial institutions have already begun committing to climate-related actions. However, the ‘mainstreaming’ or integration of climate issues into their risk management and investment processes has for the moment been impeded by 3 barriers: lack of appropriate methodologies and models; lack of climate-related data on investee companies and underlying assets; and lack of internal awareness and competencies.

In this context, the Task Force’s recommendations represent both a major landmark for financial institutions, as for the economy more broadly. We would encourage financial and non-financial companies to implement and ensure faithful compliance to these recommendations.

The major steps forward provided by TCFD’s recommendations

TCFD’s recommendations on governance and strategy are the most important. They provide clear guidelines on how climate issues should be integrated into companies’ overall decision-making and reporting.

Focus on the use of scenario analysis

More specifically I4CE agrees with the focus of the recommendations on providing forward-looking analyses of financial impacts of climate issues for the company based on scenario analyses. Climate scenarios analysis is the most relevant way of assessing climate-related risks and opportunities, and the only way to assess how the company will perform in a changing context. Climate issues materialize into inevitable changes within the economy: a global economy marked by shocks due to a changing climate (physical risks) or a new competitive environment due to shifts in technologies, customer behavior and regulatory frameworks (transition risks). It is thus crucial for financial actors to integrate this information on future climate-related financial impacts in order to perform a fair assessment of an asset’s risks and value.

Emphasis on governance

I4CE also fully supports the two recommendations related to governance, which recommend an oversight of the board on climate-related risks and opportunities. This includes first taking into consideration climate-related issues by the board when reviewing overall strategic and financial topics. It also includes an assignment of accountability for climate-related responsibilities to management-level positions. Climate-related issues should indeed be taken into account at the top of the hierarchy of companies in order to be systematically managed at the operational level. For the same reason it is important that companies provide their climate-related disclosures into their mainstream financial filings, as strongly recommended by TCFD.

Integration of climate risks into overall risk management

Finally, companies should quickly implement TCFD’s recommendations on climate-related risk management. Indeed, climate physical impacts and the low-carbon transition may represent major risks for their business in the short, medium and long-term. Furthermore they should develop climate-related risk management processes integrated into their overall risk management from the outset, as recommended by TCFD.

Metrics recommendations and guidelines for scenario-based analysis require further developments

While a first step, TCFD’s Recommendations on metrics and targets do not unfortunately provide sufficient guidelines on operational steps for implementing the first three sets of recommendations on governance, strategy and risk management. Furthermore, they do not clearly stress the importance of metrics that are forward-looking and financially focused. The TCFD should plan for further development of these recommendations in order to guide companies in disclosing relevant information and to contribute in a harmonization of disclosures for comparability purposes. The relative weakness of the report on metrics guidelines may be explained by the lack of methodological developments to date in this area. What’s more, a historic focus on quantifying and disclosing GHG emissions should not deter attention from the need for forward-looking analyses of financial impacts of climate-related issues.
This lack of can, however, be overcome in the coming months and years as companies focus on developing metrics that are relevant for their own strategic decision-making and financial planning rather than spending time and budget on integrating existing metrics into their processes. It appears more relevant for the TCFD to point the development of metrics in the right direction, rather than prescribe tools that may not be appropriate or effective for different organizations.

Disclaimer
I4CE – Institute for Climate Economics is an initiative of Caisse des Dépôts (CDC) and Agence Française de Développement (AFD). This think tank provides independent expertise and analysis when assessing economic issues relating to climate & energy policies in France and throughout the world. I4CE aims at helping public and private decision-makers to improve the way in which they understand, anticipate, and encourage the use of economic and financial resources aimed at promoting the transition to a low-carbon economy

The views and opinions presented here are those of the authors based on work carried out by the I4CE on an independent basis. CDC Group and AFD are not liable under any circumstances for the content of this publication.
1- Communiqué from the G20 Finance Ministers and Central Bank Governors Meeting in Washington, D.C. April 16-17, 2015.” April 2015. http://g20.org.tr/wp-content/uploads/2015/04/April-G20-FMCBG-Communique-Final.pdf