Tracing climate investments and shifting investment behaviour
15 October 2021
Seeking to support system changes to the financial industry on climate change issues through data-driven analysis from Principle Research Fellow Nadia Ameli.
The sustainability transition requires a system-wide structural change towards low-carbon technologies and infrastructures backed by an unprecedented mobilisation of financial resources. Indeed, huge investments are needed to cut greenhouse gas emissions and adapt to the impacts of climate change that can’t be avoided. This investment can be provided by the global financial system. Finance is the driver that will pivot economies away from highly polluting activities and towards clean and sustainable development.
Economists talk about ‘shifting the trillions’ to close the climate investment gap. But, to make it happen, we need to understand investors’ interactions and the dynamics of their investment behaviours. This is important because investors’ collective dynamics shape the actual flows into low-carbon technologies and drive the direction of technical change. These dynamics also determine how the system could pool long-term financial assets to boost the low carbon transition, and can also trigger non-linearity and tipping points in investment trends.
The ISR research theme on sustainable finance seeks to support systemic changes to the financial industry on climate change issues through data-driven analysis. Employing network analysis of long-term investment data allows us to determine the structure and growth of the investment system based on the dynamism of its investors’ behaviour, their influence in the system and investment trends. Network models are used to explain how a dynamic and evolving financial system emerges from the interactions between individual economic agents. Such models can detect the groups of influential investors and their investment patterns that are most effective at transferring capital to where it is needed, and such findings can act as a guide for policymakers. This type of thinking will be critical to the equitable distribution of climate finance across the world. In order that the pledged US$100 billion per year (which at COP26 African countries will request increases tenfold) from the developed to the developing world reaches the most vulnerable and is distributed fairly, it is vital to monitor the financial channels through which it flows and its impact on the economies of recipient countries.
By focusing on the financing dimensions of low-carbon investment and the architecture of the financial system, we hope to identify points where climate-centred policy can intervene and spur green finance. To that end, our research focuses on three priority areas:
- The design and implementation of technological transitions based on effective investment channels. We identify the leading investors and followers, the most influential investors as well as those on the periphery, and provide impactful insights to determine investors’ profiles and preferences for different low-carbon technologies. There is very limited empirical evidence on which financial actors are more relevant to channel investment at different stages of technology development, for example for a relatively immature technology or established ones. Such insights are crucial to derive technology-specific financial outlook and investment policies to support decarbonisation pathways.
- The support of virtuous cycle of investments and non-linear growth trajectories through optimal allocation of public resources, both domestic and international. Non-linear effects, which can occur via strong cascading channels, allow relatively small injections of public resources to a set of actors to irreversibly propagate through the climate finance system, leading to rapid and large increases in low-carbon investment. The research quantifies the multiplicative potential of public investment across the structure of the financial system to understand supportive financial structures and policy incentives that increase private involvement.
- The mobilisation of financial flows in developing countries for a just and inclusive energy transition. Understanding the international financial system and the actors involved becomes crucial to reach the most vulnerable countries, where a narrative for climate finance is still missing except from the need for more public support. New evidence informs what financing channels enable better risk management to attract diverse private money, ensure equitable access to capital, and create sustainable financial structures in developing countries. Our research also highlights domestic country contexts that best support the involvement of international finance and quantifies the impact that domestic policies can have on improving financial mobilisation.
Through this exciting and innovative research programme, we hope to not only understand the system, but to create the evidence that will support a fairer distribution of global financial flows.