The challenge of phasing-out fossil fuel finance in the banking sector

Abstract

Abstract A rapid phase-out of bank lending to the fossil fuel sector is critical if Paris climate targets are to remain within reach. Here we use a systems lens to explore syndicated fossil fuel debt markets - a critical source of financing for fossil fuel companies - and find that they are resilient to uncoordinated and unregulated phase-out scenarios. In a setting where finance can be substituted between banks, phase-out is inefficient unless capital requirements rules limit banks’ exposure to fossil fuels. With capital requirements rules in place a tipping point is observed from inefficient to efficient phase-out as banks sequentially exit the sector. This tipping point depends critically on the stringency of capital requirements rules, and it is reached sooner in a targeted phase-out scenario where systemically important banks lead the phase-out. If sufficiently tightened, capital requirements rules can amplify the impact of individual banks’ phase-out and accelerate the decline of fossil fuel debt flows.

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