The Bank of England has been warned to avoid investing in activities that contribute to global warming by a high profile coalition of experts.

In an open letter to its chairman, Sir Mervyn King, 20 top experts, investors, NGOs and universities urge the bank to investigate how Britain’s exposure to polluting and environmentally damaging investments might raise risks to the UK financial system and prospects for long term economic growth.

Such a 'carbon bubble' could burst in the face of investors and create a future economic slump, they say, drawing comparisons with the sub-prime market in the States, where the temptation of easy pickings led investors onto very dodgy ground.

The group includes Climate Change Capital, FairPensions, Lord Gummer, Zac Goldsmith MP, UK Sustainable Investment and Finance Association, Carbon Disclosure Project, WWF-UK, Greenpeace UK, The Climate Group, E3G, The Green Alliance, Oxford University’s Smith School of Enterprise and the Environment, Carbon Tracker Initiative, the London School of Economics, and Anglia Ruskin University’s Global Sustainability Institute.

Together, they want the recently created Financial Policy Committee (FPC) at the Bank of England to examine these issues, given its mandate "to contribute to the bank’s financial stability objective by identifying, monitoring, and taking action to remove or reduce, systemic risks with a view to protecting and enhancing the resilience of the UK financial system".

Five of the top ten FTSE 100 companies are almost exclusively high carbon and alone account for 25% of the index’s entire market capitalisation.

This exposure is likely to be replicated in other indices, by companies, in bank loan books and in the strategic asset allocation decisions taken by institutional investors, the signatories say.

Britain’s collective financial exposure to such environmentally unsustainable investments could become a major problem as we approach environmental limits, and as technology and policy developments reduce the financial returns from coal, oil, gas, mining and other high-carbon assets, while supporting low carbon ones, the letter says.

Some of the signatories are offering to work with the FPC to formulate approaches which can "help enhance resilient low-carbon economic development". They include the Carbon Tracker Initiative, Oxford University’s Smith School of Enterprise and the Environment, Climate Change Capital, the London School of Economics and Anglia Ruskin University’s Global Sustainability Institute.

Reducing long term risk

The issue is crucial for long term institutional investors like pension funds, who may, in 20 to 30 years, find themselves landed with liabilities that generate poor returns.

James Cameron, a member of the prime minister’s business advisory group, said: “Counter intuitively, investors continue to pour cash into unsustainable high carbon assets without understanding or being able to manage the risks associated with these investments, such as climate change, local pollution, fossil fuel price volatility, political risk and catastrophes such as Deepwater Horizon.

"This poses significant strategic challenges for the future prosperity of Britain that just can’t be ignored.”

Ben Caldecott, head of policy at Climate Change Capital, said that, “unlike sub-prime mortgages before the financial crisis... regulators must act to prevent the build-up of systemic risk in our financial system.”

Nick Mabey, chief executive of E3G, agreed, adding: “Current financial reforms are so preoccupied with bolting the stable door on the last crisis which regulators failed to prevent that they are not tackling the potential causes of the next one.”

Aled Jones, director of the Global Sustainability Institute, argued against the apparent seductive "desire to track the short to medium term stock market movements", which help to create the "high carbon exposure of the leading indices". He called this "a systemic risk that needs to be explored by the Financial Policy Committee".

The letter cites investment in coal projects around the world as being particularly vulnerable to this risk.

At present, regulators are not monitoring the concentration of high carbon investments in the financial system and have no view on what level would be too high, the letter says.

Sir David King, director of the Smith School of Enterprise and the Environment, said: “Sustainable economic growth is achievable. Those industries than can combine efficiencies with growth will be the winners in the low-carbon economy. And given the rise in global oil prices, those that find alternatives to fossil fuels will be well placed to deal with climate change, energy security and pricing.”

In the letter, the signatories outline ways in which regulators can protect investors from the systemic risks of high carbon investment.

These include:

  • understanding the dangers of exposure to high carbon investments from listed and non-listed companies, bank loan books and institutional investor portfolios
  • examining how exposure and relative values between high carbon and low carbon investments could change over time and how this might affect the financial system
  • and developing a strategy that could manage the dangers of over-exposure.

Story: David Thorpe, News Editor