Disclaimer: This article is republished with permission from the author. The article was originally published on LinkedIn and can be found here. Any views expressed in this article are those of the original author and do not necessarily reflect the views of Altiorem.

Institutional investors’ approach to climate policy reminds me of the drunk man looking for his keys under a lamppost, because that’s where the light is.

Let me explain. Over the last few months, my colleagues and I at Volans have interviewed 50+ investors from around the world to find out how they think about – and engage on – climate policy. Here’s some of what we’ve heard:

• Most investors we speak to see climate as a systemic risk issue. Long-term asset owners like pension funds are especially alive to the threat that global warming poses to their ability to fulfil their obligations to beneficiaries. They know that much of the risk associated with high levels of warming is “undiversifiable”.
• They also know that the problem of high greenhouse gas emissions stems from the real economy and that their ability to affect behaviour in the real economy via capital allocation decisions and company-level engagement is limited.
• They recognise that governments, on the other hand, have a much greater ability to affect behaviour in the real economy. Through policy and regulation, governments can create the conditions for an acceleration in the deployment of clean technologies and, if they have the political will to do so, a deceleration in the production and consumption of fossil fuels. The most effective mix of policies is always context-dependent, but it tends to include instruments like subsidies, mandates, tax incentives, reforms to planning rules and direct investment in necessary infrastructure (e.g., grids, EV charging networks, etc).  Such policies will influence the trajectory of emissions much more than anything investors can do.
• Yet when investors engage on climate policy, it generally isn’t these types of real economy policy that they spend most of their time on. (Here I am talking about the subset of investors that does any constructive climate policy engagement.)
• Instead, they put most of their time and effort into how to get better disclosure of climate-related risks (e.g., supporting TCFD-aligned reporting). This is not because they believe disclosure will solve the underlying issues: intellectually, most agree with the view that climate change is primarily a problem of faulty incentives, not faulty information. But disclosure is where they have expertise and (in their own eyes, at least) legitimacy. It’s seen as a relatively safe topic to engage on publicly. (Arguably, the reason disclosure is safe is precisely because it’s ineffectual, but I’ll leave that for another time.)

And so, like the drunk man under the lamppost, deep down investors know that what they’re doing (promoting better climate-related disclosure) is, if not quite futile, certainly far from optimal in terms of achieving the desired outcome (systemic risk mitigation via real economy decarbonisation). Yet they do it anyway because… it’s better to look under the lamppost than not at all, right?

Needless to say, there are honourable exceptions to all of this. A few investors do engage on real economy policy. And many climate-focused investor associations and initiatives do real economy policy work on behalf of their members. To name a few, the Asia Investor Group on Climate Change (AIGCC), Ceres, the Institutional Investors Group on Climate Change (IIGCC), the Investor Policy Dialogue on Deforestation (IPDD), the Investor Group on Climate Change (IGCC) and PRI all work on real economy policy. In most cases, though, it is a secondary focus: engagement on financial regulation and disclosure rules takes up the lion’s share of policy teams’ bandwidth.

Globally, I would estimate that there are no more than a few dozen people (FTE) working to influence real economy climate policy on behalf of institutional investors. At a stretch, there might be a hundred. In other words, slightly less than one person per trillion dollars of assets under management. Is this an appropriate level of resourcing for an activity that may in fact be the most effective mechanism investors have for safeguarding long-term returns from undiversifiable climate risk?

This is the essence of the investor climate policy engagement paradox: institutions are allocating the least amount of resource (relative to everything else they do that is about addressing climate risk and opportunity) to the activity with the highest potential to effect real change.

Unfortunately, investors are far from the only ones whose response to climate change to date has been maladaptive. In her recent book, Existential Politics: Why Global Climate Institutions Are Failing and How to Fix Them, Jessica Green, a professor of political science at the University of Toronto, argues convincingly that ‘global climate governance isn’t working because it is overly focused on the wrong problem.’

The dominant approach to climate governance is about “managing tons”. It’s technocratic – obsessively focused on measuring, reporting and trading units of GHG emissions. And it treats climate change as a collective action problem when, in fact, it is ‘a political contest between different types of asset owners.’

In Green’s view, to be effective, climate policy needs to be reoriented towards driving asset revaluation – a process that will inevitably create winners and losers. Which is why politicians have been as eager as everyone else to buy into the myth that, with better information, markets will do the dirty work of revaluing assets. Nobody in a position of power wants to take responsibility for bursting the “carbon bubble”. They’d rather it didn’t burst on their watch and, if it does, they certainly don’t want to be accused of wielding the pin.

Of course, most institutional investors hold a mix of fossil, green and vulnerable assets, which in part explains why they, too, are more comfortable with a “managing tons” policy paradigm that ‘resolutely ignores the underlying conflicts created by asset revaluation.’ So long as you stay under the lamppost (managing tons, mandating disclosure), nobody’s going to knife you. But, at some point, investors are going to have to accept that the keys they are looking for are somewhere out there in the dark, where climate policy is ‘distributional politics on steroids’. It may be worth venturing out to look for them, in spite of the risks.

This article draws on findings from an ongoing research project on investor climate policy engagement. If you’re an investor, you can contribute to the research by filling out this short survey.