Can emerging markets reduce climate risks while bolstering bottom lines?
AS environmental, social and governance (ESG) concerns become increasingly important in the corporate world, insurance companies are emerging as potentially key players in the shift away from fossil fuel-powered projects.
The launch of the UNconvened Net-Zero Insurance Alliance (NZIA) in July 2021 reflects an ongoing shift in the global insurance industry towards the wider recognition of the risks associated with climate change.
The NZIA brings together the world’s biggest insurers and reinsurers, each of which are committed to transitioning their underwriting portfolios to netzero greenhouse gas emissions by 2050.
The NZIA’s founding members – AXA, Allianz, Aviva, Generali, Munich Re, SCOR, Swiss Re and Zurich – were already members of the Net-Zero Asset Owner Alliance.
Also convened by the UN, this group of 53 institutional investors has been working towards science-based 2025 decarbonisation targets since early 2019.
According to its manifesto, pension funds and insurance companies “have a key role to play in catalysing decarbonisation of the global economy and investing in climate-resilience”. As of late 2021, American Hellenic Hull Insurance, a.s.r. Nederland, Hannover Re, Ice Lion Group, Lloyd’s, Matmut, NN Group and Shinhan Life had also joined the NZIA.
The NZIA’s statement of commitment includes the implementation of science-based targets at five-year intervals to measure progress, to be publicly disclosed on an annual basis.
In order to meet these targets, the NZIA’s members will set independent underwriting criteria and standards, especially in greenhouse gas-intensive industries; engage with clients on their decarbonisation strategies; develop and offer products for low-and zero-emission technologies.
Moreover, they will improve claims management in an environmentally sustainable manner; integrate independent, company-specific decarbonisation risk criteria into risk management framework; and advocate for governmental policies that facilitate a sciencebased and equitable transition to net zero.
Exit from coal
One area in which insurers are playing a particularly instrumental role is in curtailing global coal use. In February 2021 French multinational bank Société Générale published a report that noted coal projects are not economically viable without insurance.
It noted that, for this reason, “the insurance industry can, almost single-handedly, exert pressure on coal energy producers, which other industries are less well placed to do”. Moreover, the report found that shunning coal could add billions of dollars to firms’ shareholder value.
A February 2020 report from ratings agency Moody’s had a similar conclusion, noting that a retreat from coal protected against climate change liability and reduced the risk of investment assets being not economically viable due to the presence of carbon-neutral alternatives.
“For insurers, carbonintensive customers that cannot adapt to a low carbon economy are a source of insurance risk as well as liability risk”, Moody’s wrote. “For example, coal mining or power generation companies facing secular decline in demand for their product might be incentivised to reduce maintenance expenditure.”
Globally, many insurers have already taken significant steps to divest themselves of coal.
By the end of 2020 at least 65 insurers with total assets of US$12 trillion had committed to either divesting or making no new coal investments – up from US$4 trillion in 2017.
European and Australian firms have been frontrunners in this regard. For example, in 2019 Australian giant Suncorp announced it would no longer invest in, finance or insure new thermal coal mines or power plants, and that the firm would not underwrite any existing thermal coal projects after 2025.
Asian insurers have been slower to take action, but there are signs this is changing. For example, in June 2021 South Korea’s three major non-life insurers announced that they would no longer provide coverage for new coal power projects.
Insurers in the US, meanwhile, are lagging behind: few have taken any meaningful action, and as of mid-2021 US insurance companies still had a combined US$90 billion invested in coal projects. In overall terms, however, significant progress has been made on coal.
Many in the industry now anticipate that insurers will also begin to move away from oil and gas. As of late 2021 Suncorp was the only major global insurer to pledge to no longer directly finance or insure new oil and gas projects, an announcement the company made in August 2020.
It is also set to phase out financing and underwriting for oil and gas exploration or production by 2025. Nevertheless, momentum is growing, and the rapid shrinkage of the coal market is a sign of insurers’ ability to drive decarbonisation.
Decarbonisation
The insurance industry’s shift away from hydrocarbons will serve to accelerate numerous countries’ energy transitions.
Many of the world’s emerging economies are already increasing their investment in clean power. In July 2021 two environmental think tanks – the UK’s Carbon Tracker and India’s Council on Energy, Environment and Water – published a report forecasting that 88 per cent of growth in electricity demand between 2019 and 2040 will come from emerging markets.
Given that renewable energy is cheaper than fossil fuel-based energy in 90 per cent of the world, the report argues that many such countries will leapfrog to renewables, without building infrastructure based on fossil fuels.
Many emerging markets have already made such a transition. For example, the report observes that Egypt and Argentina leapfrogged from gas directly to solar and wind, without passing through nuclear or hydro, which would have constituted a more traditional, linear development.
Meanwhile, countries like Kenya or Nigeria could avoid fossil fuels altogether and roll out an entirely renewables-based grid.
However, the report notes a lack of sufficient capital for emerging markets to develop their renewable capacity. Some US$2.6 trillion was invested in renewable energy between 2010 and 2019, but among emerging markets, only China, India, Brazil, Mexico and South Africa were able to secure investments of more than US$20 billion.
However, with institutional investors such as insurers looking to boost their ESG credentials by favouring renewables, this situation is likely to change.
A complicating factor is uneven demand for fossil fuels in emerging markets. For example, China and India accounted for 65 per cent of global coal demand in 2021; by contrast, the EU and the US are expected to account for less than 10 per cent by 2025.
Indeed, China was the only major economy in which demand for coal grew in 2020, and in India coal mining generates over 500,000 jobs. These examples give a sense of the challenges associated with implementing a comprehensive energy transition among emerging markets.