Prisoner’s dilemma: banks struggle to hit ‘peak oil’ just right

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Peak oil, what peak oil? Global oil demand has hit a record and is set to keep rising next year, according to the International Energy Agency’s latest report.

Most of this growth came from China, whose carbon neutrality target will not kick in for another 37 years. But it was also driven by tourists’ renewed appetite for flying and stronger than expected growth in high-income economies.

Part of our job at Moral Money is digging into the changing relationship between banks committed to a net zero world and their energy giant customers who are still opening new oil and gasfields for business.

And a few times a year, a major investment bank will come out with an eye-catching new green policy that appears to revolutionise the way they do business.

Usually, this is a game of cat and mouse. Three things will almost always be true when sifting through the fine print: the underwriting side of the business is untouched, only one very specific type of financing is affected, and there are generous exceptions for energy giants with convincing transition plans. (This final point can mean promising to use carbon capture technologies which analysts say have not yet been proven at scale.)

Sometimes, though, a bank draws ahead of the pack — for reasons I explore below. (Kenza Bryan)

Why there has been no ‘domino effect’ of banks cutting ties with oil and gas

Danske Bank may be behind the biggest money-laundering scandal in recent history, but it is a model student from environmental activists’ point of view.

The Danish institution in January became the only major bank to rule out loan and underwriting deals with energy giants that are expanding oil and gas production, in effect barring it from business with upstream providers in Norway, Sweden and Denmark, its main countries of operation.

Activists were on cloud nine. This was a bank that had something to lose — namely DKr3.2bn (£370mn) of balance-sheet exposure to the oil and gas sector in 2020 — and ploughed ahead anyway.

So why has the move not had a domino effect on other banks? Strong bank statements on fossil fuel clients have been notably absent from a summer of record temperatures and of frenzied dealmaking on carbon capture and critical minerals.

The first reason is obvious. “It’s clear we will miss out on income,” Samu Slotte, Danske Bank’s global head of sustainable finance, told Moral Money. “It is a lost opportunity because of course these companies are doing well from a credit perspective.”

Danske was also in uniquely urgent need of some good PR. It announced the policy just weeks after agreeing to pay $2bn in penalties for defrauding US banks in relation to weak anti-money laundering measures in its Estonia branch.

To boot, it had an unusually conducive political environment for wading into the climate culture wars. The Danish government said in 2020 it would stop offering new permits in the North Sea (a pledge apparently broken by its decision to launch a “mini” licensing round last month), and would stop fossil fuel extraction within its borders altogether by 2050.

“Clearly it’s there in the background,” Slotte said of the political context. “Being headquartered in Denmark we want to be supportive of both the Paris agreement [on limiting global warming to 1.5C above preindustrial levels] and also of Danish society in its decarbonisation.”

Elsewhere, financiers do not feel they have society’s backing to move faster on climate action than their own clients.

Strategic ambiguity is key. BNP Paribas, HSBC and Barclays for example all refer to the International Energy Agency’s scenario for a net zero world in their fossil fuel financing policies, which tighten the screw on some aspects of their relationship to fossil fuel clients, such as project lending.

But they avoid backing a recommendation from the same IEA document that “beyond projects already committed as of 2021, there are no new oil and gasfields approved for development” in this scenario.

This is partly because of a classic prisoner’s dilemma faced by banks which, like the rest of the world, are puzzling over how to get out of the industry ahead of “peak oil”. Just as being the last business to enter a sector can come at a cost, so can being the first one to quit.

Danske’s logic internally was that exiting could cut the “refinancing risk” of being the only bank left in a joint deal if others pull out, Slotte said. Banks typically club together to finance the industry through long-term revolving credit facilities and reserve-based lending deals.

But it was also an explicitly ethical decision, he said. And by stating publicly that expansion plans are a red flag regardless of an energy company’s net zero targets, Danske took a stronger stance than most governments have adopted.

Robin Baker, a visiting research fellow at the Oxford Institute for Energy Studies and former head of energy finance at the French bank Société Générale, said he felt “some dismay that the environmental groups focus so much on the production of oil and gas and less on its consumption”.

He argued that cutting production will “disproportionately hurt the poor”, and that banks would do better to focus on financing developing countries’ transitions, rather than moving to divest from fossil fuels.

For activists, setting a red line on oil and gas expansion will always be the priority. “It’s the first criteria we look at and very few banks have anything to say on it,” said Maude Lentilhac, a policy analyst at the campaign group Reclaim Finance.

“Lots of financial institutions have understood the issue of coal expansion and there has been a domino effect on this,” she told Moral Money. “I think it’s still too soon to say for oil and gas.” (Kenza Bryan)

Smart read

A company owned by the United Arab Emirates will pay a lobbying company at least £100,000 a month for six months to defend the country’s work in hosting this year’s UN climate summit. This is a response to fierce criticism from environmentalists and diplomats. Patrick and other colleagues have the story.