Transition finance is a fine concept with an image problem. The premise is simple: to achieve net zero emissions, it’s not enough to simply grow activity that was green already; high polluting sectors need to change too.
The problem is that whereas green finance provides easily measurable and often uncontroversial uses of proceeds to which green investors can dedicate capital, transition finance necessarily gets down and dirty.
It's a harder sell to investors because it means funding activities that cause high pollution — at least to begin with. But it is also the area where capital can have the greatest impact in greening the economy.
As with green finance, investors need standards and so what is a legitimate transition investment needs defining. But this is tricky to do well.
The EU Green Bond Standard and European Banking Authority have had a go. But their definition is too narrow. They say that transition finance are those that fund activities set to become aligned to the EU taxonomy for sustainable activities within five to 10 years.
It doesn’t count transitioning entities that are in hard to abate sectors, for which a green transition may take longer. Yet those are precisely the sectors that need transition finance the most, and any greening step for them will be meaningful.
The definition of transition finance needs to be broad enough to permit such investments. Investors, of course, have minds of their own and will decide for themselves whether an activity is greening and cleaning, or merely greenwashing.
But in the absence of a clear, meaningful but broad definition — one that is both flexible and well-understood — the likelihood of greenwashing, or doing nothing transitional at all, rises.
For capital markets to maximise their impact on the green transition, those that govern them should be as permissive as it is reasonable to be in order to welcome high polluters into the big, green tent.