Regional Summary: Americas 

28 Jun 2023

Summary 

The Inflation Reduction Act (IRA)1 in the US is expected to clarify the regulatory framework and provide a similar stimulus to development of renewables and other green sectors after years of stalled progress. US companies are well-placed with some of the largest sustainability teams and most experienced directors on ESG issues. But growing climate litigation is bringing new risks.

Introduction: IRA accelerating climate action

The political climate has shaped national and regional approaches to climate change, and nowhere more so than in the US, where policy has varied dramatically with successive administrations. Ivan Diaz-Rainey, Professor of Finance at Griffith University noted that this had slowed progress in the US relative to the top-down approach prescribed by the Chinese government or the continual development of Europe’s regulatory framework.

Simon Learmount, Associate Professor in Corporate Governance at Cambridge Judge Business School agreed, but suggested that anti-ESG sentiment in the US may be subsiding, paving the way for rapid progress around sustainability. Learmount pointed to research from Morningstar indicating a decline in the number of anti-ESG funds. However, Michael Willis, Management Practice Associate Professor at Cambridge Judge Business School noted that proposed amendments to the US Securities and Exchange Commission (SEC) reporting requirements to incorporate ESG measures[2] were met with widespread resistance last year; an updated version is expected in 2024[3], but may face similar legal challenges before coming into effect.

Nonetheless, the Inflation Reduction Act (IRA) 1 passed in 2022 is a landmark piece of legislation that will stimulate climate action across the US. Once there is a clear sense of direction, the market in the US evolves quickly, according to Michael Hilb, Titular Professor at the University of Fribourg, who expected US companies to catch up and quickly overtake their European counterparts on ESG matters. In fact, the IRA has already resulted in a clear green industrial plan, Cristian Rodriguez Chiffelle, visiting scholar at Harvard University, told delegates, as well as unleashing around $700bn in green subsidies and investment.

Benefit of clear regulation

Chiffelle went on to contrast recent developments in the US with those in Chile, demonstrating the power of a clear regulatory framework to stimulate investment. Historically, Chile has derived much of its energy from natural gas imported from Argentina. However, facing increasing interruptions in its gas supply, the Chilean Government introduced measures to stimulate development of the renewables sector.

Today, 90% of investment in Chile is in renewables. The majority is private money; there are very few government subsidies. This is because businesses and investors have a clear sense of the regulatory and investment framework. The country has attracted over $17bn in green foreign direct investment over the past five years, making it the third largest emerging market for investment, just behind Morocco and Egypt, according to Chiffelle.

Speakers expected that the clear framework ushered in by the IRA would provide similar stimulus in the US market.

Growing board sophistication

Returning to the US, Alvin Lee, Head of APAC for Puro.earth talked about the growing depth of experience in North American boards. Research by Nasdaq[4] found that board directors in around half of businesses surveyed had at least three years’ experience of dealing with ESG issues, with businesses in Europe having the slight edge in terms of experience over North American companies. However, US businesses tend to have slightly larger sustainability teams; 64% of North American businesses had sustainability teams of six or more people, compared with 48% of all businesses surveyed.

Lee noted that North American businesses have come to ESG via a different route from their European counterparts. While overall respondents indicated that product stewardship was a big issue encouraging them to address sustainability and ESG, firms in North America were much more concerned about building and maintaining a stable supply chain.

This chimed with comments from Yao Wang, Professor and Director General at the Central University of Finance and Economics, about the profound impact of the IRA on markets as far away as China: it is already shaping how China’s green industries trade with the US.

Putting yourself in investors’ shoes

Ratings, rankings and reporting requirements have been developing rapidly. Willis commented that ESG frameworks were developing up to 10 times faster than other accounting frameworks. While Nasdaq’s research4 showed that 39% of businesses have not yet incorporated ESG ratings and rankings into their ESG strategies, an increasing proportion have done so.

Kornelia Fabisik, Assistant Professor of Finance at the University of Bern pointed out that these ratings had been developed by external rating agencies for investors. Directors need to understand that they measure the things that are of most interest to investors and that ratings can change as investor priorities shift. Fabisik also referred to the MSCI rating that had, in the past, put a rather low emphasis on governance (the G of ESG) for almost a decade. This changed in November 2020 when the floor of 33% weight on governance was introduced.

Investors are also becoming increasingly sophisticated in where and how they use these ratings to understand companies’ climate risks. Diaz-Rainey compared loan portfolios from Morgan Stanley and SunTrust. Assessed in terms of climate risk, both portfolios were more or less even. However, Diaz-Rainey predicted that many more businesses in the Morgan Stanley portfolio would default on their loan because they were inherently much more risky businesses. This highlights that climate risk cannot be viewed independently of other more conventional business risks.

Diaz-Rainey suggested that directors need to start to ‘think like an investor’. Climate change creates uncertainty. The traditional investor approach to understanding deep uncertainty has been to model the impact of different scenarios; it is also a core principle at the heart of reporting requirements under the Task Force for Climate-related Disclosures (TCFD), Willis noted. Directors should begin to think about, and model, the impact of different climate scenarios such as global warming of 2°C or 3°C in order to evaluate strategic decisions.

Threat of litigation

Climate-related litigation is on the rise, Arjuna Dibley, Head of Sustainable Finance Hub, University of Melbourne, told delegates. Almost 70% of cases are in the US, with a further 1.5% in Canada and 3.6% in Latin America.

Dibley warned delegates that climate-related liability risks were likely underpriced in the financial system. Reporting frameworks such as the TCFD encourage organisations to categorise their risks into physical risks and transition risks. Physical risks result from direct exposure to the impacts of climate change e.g. from extreme weather events. Transition risks emerge as a consequence of changes in the economy, such as the introduction of climate policy, or changes in consumer preferences, which might create financial costs for firms. Reporting frameworks do not require firms to evaluate the costs of climate liability, except in narrow circumstances.

Companies may face legal action for failing to respond to physical or transition risks for climate change; these cases, Dibley referred to as ‘amplification’ risks. Similarly, citizens in regions heavily affected by climate change are bringing cases against businesses that have historically been heavy polluters, wherever those businesses are based and the emissions produced. Dibley described this as ‘risk-shifting’. There are also risks resulting from a failure to deliver on climate commitments. Dibley highlighted the case of Delta Airlines, which has been challenged for meeting its climate commitments largely from investing in offsets rather than absolute emissions reductions.

The increase in litigation gives rise to important considerations for directors about personal liability, but also the extent to which they are covered by their insurance if they were to face a claim.

Conclusion

US climate progress has been slow relative to other developed markets because of the uncertain political regime. Chile’s recent progress on climate action shows how powerful a clear regulatory framework can be and speakers held out hope that the IRA could provide a similar stimulus to the US market. Adoption of reporting frameworks is increasingly widespread in the US, but directors need to be alert to emerging risks which do not neatly sit within the classification systems that these frameworks use.

Acknowledgements

This summary is based on expert contributions to the International conference on ESG and Climate Governance from:

  • Cristian Rodriguez Chiffelle, visiting scholar at Harvard University
  • Arjuna Dibley, Head of Sustainable Finance Hub, University of Melbourne
  • Kornelia Fabisik, Assistant Professor of Finance at the University of Bern
  • Michael Hilb, Titular Professor at the University of Fribourg
  • Simon Learmount, Associate Professor in Corporate Governance at Cambridge Judge Business School, University of Cambridge
  • Alvin Lee, Head of APAC for Puro.Earth
  • Ivan Diaz-Rainey, Professor of Finance at Griffith University
  • Cintia Kulzer Sacilotto, Assistant Professor at the United Arab Emirates University
  • Yao Wang, Director General of the International Institute of Green Finance (IIGF) at the Central University of Finance and Economics.
  • Michael Willis, Management Practice Associate Professor at Cambridge Judge Business School, University of Cambridge

[1] https://www.whitehouse.gov/cleanenergy/inflation-reduction-act-guidebook/

[2] https://www.sec.gov/securities-topics/climate-esg

[3] https://www.forbes.com/sites/jonmcgowan/2023/10/26/sec-climate-disclosure-rule-most-likely-not-final-until-2024-effective-2026/?sh=54081b6e3434

[4] https://www.nasdaq.com/campaign/esg-climate-survey/

creasingly widespread in the US, but directors need to be alert to emerging risks which do not neatly sit within the classification systems that these frameworks use.


Acknowledgements

This summary is based on expert contributions to the International conference on ESG and Climate Governance from:

  • Cristian Rodriguez Chiffelle, visiting scholar at Harvard University
  • Arjuna Dibley, Head of Sustainable Finance Hub, University of Melbourne
  • Kornelia Fabisik, Assistant Professor of Finance at the University of Bern
  • Michael Hilb, Titular Professor at the University of Fribourg
  • Simon Learmount, Associate Professor in Corporate Governance at Cambridge Judge Business School, University of Cambridge
  • Alvin Lee, Head of APAC for Puro.Earth
  • Ivan Diaz-Rainey, Professor of Finance at Griffith University
  • Cintia Kulzer Sacilotto, Assistant Professor at the United Arab Emirates University
  • Yao Wang, Director General of the International Institute of Green Finance (IIGF) at the Central University of Finance and Economics.
  • Michael Willis, Management Practice Associate Professor at Cambridge Judge Business School, University of Cambridge