Nature is not just at risk, it is in freefall. What must central banks do?

There is clear scientific evidence that the impacts caused by climate change and nature loss are already happening, running up massive costs and occurring faster than predicted. However, while the climate crisis has received plenty of attention, impoverishment of the natural world has so far been something of a footnote, even though the physical and financial risks are just as daunting.

Following a disappointing lack of increased ambition, finance and credibility on climate at Cop27 in Egypt, the biodiversity-focused Cop15 in Canada establishmented a global biodiversity framework which commits the world to act collectively in immediately halting and reversing biodiversity loss by 2030.

This is a welcome step, and addressing both climate change and nature’s decline clearly falls within the mandate of financial regulators and supervisors. Yet the latest Sustainable Financial Regulations and Central Bank Activities (Susreg) assessment, published by WWF, reveals that these actors continue to lag behind in the transition to a nature-positive and net-zero economy.

The assessment – which now includes insurance regulation – shows some signs of progress, mostly from countries that are members of the Network for Greening the Financial System. Climate-related disclosures are on the rise: 83% of the jurisdictions assessed requiring some form of disclosure from the financial services sector, and 88% issuing climate-related banking regulations and supervisory expectations. This clearly shows that financial institutions are placing greater precedence on climate-related considerations than ever before.

But this progress is not sufficient to limit the material risks that the loss of natural resources and habitats pose to our economies and our survival. Current rates of nature loss could cost the global economy $2.7tn annually by 2030. With a 69% decrease in monitored wildlife populations between 1970 and 2018, nature is not just at risk; it is in freefall.

Susreg data reveals that nature-related risks are more poorly addressed and broader environmental disclosures are lagging behind those related to climate. Only 62% of countries require broader environmental-related disclosures from banks, and social-related disclosures show a similar rate.

Furthermore, while disclosure is a good first step in addressing the twin crises of climate change and nature loss, it must not be mistaken for action. To have any impact, disclosures must be followed up with credible transition plans: outlining how countries, municipalities, and organisations will deliver  their strategies, addressing the vulnerabilities and threats they have identified.

Tools for a rapid transition to a nature-positive economy

One key area where central banks and supervisors can make a real impact is to adjust monetary policies and financial regulatory instruments so they better reflect the economic cost and financial risk of “always environmentally-harmful” economic activities, companies and sectors – such as the fossil fuel industry – as these assets represent the highest financial social, environmental and climate-related risks.

The Susreg assessment highlights the range of tools central banks and financial regulators have at their disposal to ensure a rapid and just transition. These tools include:

• introducing requirements for regulated institutions to publish detailed transition plans;
• setting prudential rules to limit exposure;
• raising capital requirements and systemic risk buffers;
• and adapting liquidity requirements to ensure the risks of investing in environmentally-harmful activities are properly accounted for.

There is already a wealth of information to inform investors and financial institutions of the long-term risks of the most harmful activities, which include companies mining or deforestating in biodiversity hotspots and high-emitting sectors such as cement production (with exceptions).

Despite the threat and high-level risk of these activities, they continue to be financed and expanded. This is due to the fact that finance operates on short time horizons and doesn’t price risks associated with climate change and environmental destruction, nor does it account for the catastrophic long-term risks those investments could create.

Rather than wait for the destruction of our natural assets and the consequent financial fallout, regulators and central banks should act in a precautionary way, proactively managing and preventing these future risks. They can use their power to overcome this dangerous mismatch between long-term risks and short-term lending and investment horizons.

In this critical decade of action, ambitious early interventions and international coordination will be the key to success, and financial signals and incentives are what will ultimately encourage these sectors to transition. By accelerating the full mobilisation of their monetary, regulatory, and prudential tools, banks and financial supervisors can create a step change in transition towards a more sustainable economy, and speed up action on nature loss as well as climate change.