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Lenders must set clear ESG targets under new UN responsible banking framework

Banks adopting a new United Nations-backed framework to make their lending more sustainable will need to demonstrate what steps they are taking to combat climate change and stick to clear targets, according to a European bank representative at the UN.

In September, 130 global banks signed up for the principles, under which they will have to bring their strategies in line with the Paris Agreement on climate change. The agreement sets out to limit the rise of global temperatures to "well below" 2 degrees C above pre-industrial levels and the UN's Sustainable Development Goals, which are designed to promote education and health.

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Signatory lenders will have to set a minimum of three long-term targets, and assess the negative and positive impact of their balance sheet, Antoni Ballabriga, European banks representative at the United Nations Environment Programme Finance Initiative's Global Steering Committee, told S&P Global Market Intelligence.

Avoiding green washing

Some nongovernmental organizations have said that the principles will only have an impact if lenders take concrete actions, and Ballabriga said those two factors — setting environmental, social and/or governance targets and assessing their balance sheet — should ensure that banks are serious about becoming more sustainable.

"The best guarantee to avoid green washing is that all the banks in the principles will have to define impact areas and define targets," he said.

Green washing is a practice whereby a project is made to sound more environmentally friendly than it actually is.

Targets will depend on whether a bank is more climate focused, in which case it may increase green loans, or it may want to take a more social role and set targets to tackle financial inclusion or increase small-and-medium business loans in emerging countries, he said.

Banks have one-and-a half years to issue initial reports, but those that endorsed the process early on in its creation will start reporting on their progress in 2020, according to Ballabriga. They have up to three years to issue their specific targets.

Almost a third of the global banking system — 130 banks representing $47 trillion in assets — signed up for the principles, with some announcing some of their plans to become more sustainable. For example, Natixis rolled out a "green weighting factor," or a system whereby climate impact will determine how much capital will be allocated to financing deals.

Banco Bilbao Vizcaya Argentaria SA, where Ballabriga is global head of responsible banking, will, like many of its peers, invest €100 billion in sustainable projects over the next six years, which includes green bond issues and investment in renewable energy. The Spanish banking group will also bring its lending portfolio into line with the Paris Agreement. The bank secured €11.8 billion in sustainable financing in 2018 and €10 billion in the first half of 2019, Ballabriga said.

Growth in the green space will come from lending, not only to corporates for specific environmentally friendly projects, but also from environmental, social and governance-linked loans where the price of the loan would depend on ESG performance.

Loan growth essential

Banks will need to develop new products such as green loans or mortgages, he said, with green lending to small-and-medium-sized businesses and households key for the growth of sustainable financing. Advising customers on a more sustainable approach to investing will also play a role, he said.

"Banks are critical to scale up and to promote sustainable behaviors among SMEs and households so the reach of a bank is critical to have the massive scale of change we need," Ballabriga said.

"If you are mobilizing capital at the corporate level or big institutions, that's good, it's necessary, but you need to go down the pyramid and the change in sustainable finance will happen when this becomes mainstream in retail banking so banks are critical for that," he said.

Ballabriga said simply increasing green financing such as renewable energy projects was not the only solution banks could use to make the economy more sustainable. Lenders have to work with their clients to help them reduce their carbon footprint, he said.

"The big challenge is how we can help them to have a more circular business model and the role we can play as banks, here is where the change will happen because green financing is...absolutely necessary but it is not the only way," he said.

"It is not black and white — you have a lot of different shades of sustainable activities."

Ending financing to clients who continue to finance, for example, coal projects, is not an answer either, according to Ballabriga.

"If we don't finance a specific client that is too brown, if there is another bank that finances them, then we are not going to solve the problem as a system so we have help them to transform their business models in a certain way that can be more sustainable," he said.