WWF - Enabling Long Term Sustainable Investments by Timothy Hassett at GIB Summit

Enabling Long-term Sustainable Investments through Financial Regulation

Timothy Hassett

Director Sustainable Finance

World Wildlife Fund - US

21 May 2013

© Kevin Schafer/WWF-Canon

Objectives

What Regulatory Frameworks are needed to enable Long-Term Sustainable Investments?

How to Mainstream Sustainability in Financial Regulation and Policy?

BASEL ACCORDS

Drive the Global Regulatory Environment for Banks.

Not designed to cope with the realities imposed by the Anthropogenic Era, which creates business opportunities and risks.

• Private Sector Finance should support more clean technology transactions

• Private Sector Finance should incorporate environmental and social issues in all transactions

Supporting More Clean Technology

Significant Sustainable Infrastructure Must be Financed to stay below 2C Climate Change

Investing in the Clean Trillion*• $1 Trillion per annum through

2050• $281 Billion in 2012

Does the Investment Gap Result from Financial Regulation?

Can Financial Regulation serve as Catalyst for Clean Technology Investments?

*CERES

Does Investment Gap Result from Financial Regulation?

Liquidity or Capital or Both?

Liquidity?

• Liquidity Coverage Ratio (LCR) is:• High Quality Liquid Assets (HQLA) divided by• Total 30-day Net Liquidity Outflows

• LCR requires• 100% liquidity to be held against un-funded commitments to SPVs

(outflows)?• Haircut on loans to non-financial customers (inflows)?

Please refer to Basel Accords for exact definitions and details

Does Investment Gap Result from Financial Regulation?

Liquidity or Capital or Both?

Liquidity?

• Net Stable Funding Ratio (NSFR) is:• Available Stable Funding divided by• Required Stable Funding

• NSFR allows for maturity transformation, but requires long-term liabilities to support long-term assets• Long-term project finance assets force Financial Institutions to

extend the maturity structure of their liabilities?

Please refer to Basel Accords for exact definitions and details

Does Investment Gap Result from Financial Regulation?

Liquidity or Capital or Both?

Capital?

• Basel III enhances the quality and quantity of capital to Risk Weighted Assets (RWA)o 4.5% Common Equity Tier 1 (increased from 2.0%) o 2.5% Common Equity Tier 1 for Capital Conservation Buffer o 2.5% Common Equity Tier 1 for Countercyclical Buffer (potential)

• Long-Term Infrastructure Transactions can have higher Risk Weightings due to:- Completion Risk - Country Risk- Performance Risk - Tenor

Please refer to Basel Accords for exact definitions and details

Potential Regulatory Solutions

Creating a New Asset Class for Long-Term Sustainable Transactions:

• Employ Sustainability Infrastructure Rating for qualification• Show relationship of Rating to lower expected loss

Making Long-Term Sustainable Transactions more Liquid

Making Long-Term Sustainable Transactions less Capital Intensive.

Potential Regulatory Solutions

Making Long-Term Sustainable Infrastructure Transactions more Liquid.

• Insuring Transferability in Loan Documentation

• Standardizing Contract Terms (ISDA)

• Including in definition of HQLA for the LCRo Eligible Central Bank Collateral

• Reducing the Required Stable Funding factor on qualifying Sustainable Infrastructure Transactions for the NSFR

Potential Regulatory Solutions

Making Long-Term Sustainable Transactions less Capital Intensive.

• Incorporate Sustainable Infrastructure Ratings in the Internal Ratings Based (IRB) Approach to determine RWA

• Create lower risk category under the Standardized Approach

• Encourage inclusion of Sustainability Ratings by Credit Rating Agencies

Potential Regulatory Solutions

What if a Sustainability Risk Rating does not reveal a lower expected loss?

• Due to lack of sufficient data.

• Because the data does not provide this result.

Potential Regulatory Solutions

Model the Resiliency Impact on Bank Portfolios of Sustainable Infrastructure Transactions in:

• A future carbon constrained environment• A world impacted by climate change

Sustainable Infrastructure Transactions would make a Financial Institution more resilient in an Anthropogenic World.

Basel Liquidity and Capital Requirements should integrate this and not penalize, but promote thesetypes of transactions.

Mainstreaming Sustainability in Basel Accords

Failure to integrate Environmental and Social Sustainability issues in financial decisions creates market distortions.

Basel Accords should mandate their inclusion to assure the correct risk-return relationships are identified.

Mainstreaming Sustainability in Basel Accords

Mandating its inclusion in Basel Accords could be accomplished similar to the way Operating Risk was incorporated in Basel II.

• When Acceptable Environmental and Social Risk Management Policies and Systems are in place, no capital penalty.

• If Acceptable Environmental and Social Risk Management Policies and Systems are not in place, a capital penalty equal to X% of 3-year average positive gross income.

Questions to Consider

• Do the Basel Accords deter Long-Term Sustainable Investment?

• Could the Basel Accords be used to incentivize Long-Term Sustainable Transactions?

• Is action required to ensure ESG is included in risk ratings?

• How could momentum be built to modify the Basel Accords quickly due to the opportunities and risks created by the Anthropogenic Era?