Insurers on the road to net-zero

In 2020 and early 2021, new commitments from countries and companies have increased traction in the transition to a low-carbon economy. This is a major opportunity for the insurance industry that will, however, also come with certain risks on the liability, investment and the operational sides.

Climate change is one of the biggest challenges facing society. We need to achieve net-zero emissions by 2050 to avoid a more-than-2°C rise in global temperature, leading to serious and irreversible damage to our planet. Many organisations and industries are developing their own decarbonisation pathways to reach this goal by 2050 or before. To achieve net-zero, any emissions which cannot be avoided must be removed from the atmosphere and stored permanently (see graphic on the required stylised trajectory of global CO2 emissions below). To reach this goal, emissions need to be cut by 50% by 2030.

The global net-zero target is gaining more traction, with more than 100 countries committing to a net-zero by 2050 target. China, which has the highest emissions, has pledged to a 2060 timeline.1 In the private sector, in 2020 on average one new company each day joined the Science Based Targets initiative and committed to emission reduction targets.2 Overall, companies with a combined revenue of over USD 11.4 trillion (more than half annual US GDP) have committed to a net-zero carbon economy by 2050 as part of the UN Race to Zero campaign.3 Importantly, emissions have to remain net-negative after 2050.

The insurance industry can play an active role in supporting the transition. Risk knowledge and transfer solutions and investments will be key to deployment of green infrastructure and low-carbon technologies. For instance, marine, air and road transport powered by new low-carbon fuels will need appropriate risk management and risk transfer to achieve economic viability and scale. The same is true for the nascent carbon removal industry. Insurers can take on the risk of transition where price levels are adequate. The resulting demand for insurance will be new source of premium growth. On the asset side, aligning investments with net-zero targets can help to improve portfolio performance and avoid stranded assets.

The new momentum in the transition to a low-carbon economy could also come with new risks for the insurance portfolios. Design and construction of new technologies has the potential to change the risk landscape of insurance coverages for architects, engineers and construction. Fundamental changes in business models can imply that the underlying risks of certain lines of businesses may change significantly. Stricter emission regulations could lead to increased litigation risks where the targets are not met. In addition, such regulation may impair high-emission companies and industries. Increasing cost pressure on high-emission assets can increase the likelihood of default-triggering losses in Credit & Surety (C&S) lines or stranded assets on the investment side. Moreover, cost pressure and subsequent lower maintenance may increase operating risk. This could lower risk quality for impaired assets and thus impact property insurance.

For insurers, the emissions of the value chain of their clients and investment targets are typically much higher than from their own operations. Pressure from stakeholders like society and investors to mitigate climate-related impacts beyond insurers’ operations is increasing. Insurers face reputational risks not only from own emissions but also from those of their investees and insureds.

Given the opportunities and risks associated with climate transition, it is in the insurance industry’s interest to: 1) measure and steer the net-zero alignment of its own insurance and investment portfolios; and 2) to support its business partners and clients in the transition to a net-zero economy. While the net-zero idea is gaining traction, more countries and companies need to adopt clearer roadmaps and policies with short- and mid-term measures to deliver on the target. Collaboration and knowledge exchange will be key to move from ambition to reality, and insurers can play an important role as risk knowledge partners, risk takers, investors and pioneers of green operations. Initiatives such as the “Net-zero Asset Owner Alliance” and the WEF Alliance of CEO Climate Leaders are adding momentum in this regard.

References

1. L. M. Lombrana, “The benchmarks countries must hit to reach net-zero emissions”, Bloomberg Green, 1 February 2021, https://www.bloomberg.com/news/ articles/2021-02-01/the-benchmarks-countries-must-hit-to-reach-net-zero-emissions
2. Science based targets initiative steering committee: “The new normal: 1000 companies aligned with science, RACE TO ZERO”, 10 October 2020, https://racetozero. unfccc.int/the-new-normal-1000-companies-are-now-setting-science-based-climate-targets/
3. Commitments to Net Zero Double in Less Than a Year, UN Climate press release, 21 September 2020, https://unfccc.int/news/commitments-to-net-zero-double-in-less- than-a-year

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