Japan’s EPSF plots to build a financial system that supports sustainability

Prime Minister Yoshihide Suga announced Japan’s aims for carbon neutrality and substantially zero CO2 emissions by 2050, in his October 2020 policy speech. He also announced at the climate change summit held in April 2021 that Japan aims to reduce its greenhouse gas emissions by 46% in FY2030 from its FY2013 levels.

In order to achieve these types of environmental goals, many major countries consider that large scale of private funds would be required for the transition towards such new industrial and social structures. The amount of private funds needed to achieve the sustainable development goals (SDGs) worldwide is estimated at ¥3,000 trillion ($27.2 trillion) — and countries are regularly encouraging sustainable finance by implementing relevant policies.

As a part of these efforts, the Japanese Financial Services Agency (FSA) established the Expert Panel on Sustainable Finance (EPSF) in December 2020 so as to promote sustainable finance in financial institutions and capital markets, and to ensure more foreign and domestic investments addressed to the efforts by Japanese companies, in regard to decarbonisation and climate changes.

The EPSF has met eight times to discuss various measures, while conducting hearings from relevant parties since January 2021. Then the ESPF published the ‘Report by the Expert Panel on Sustainable Finance’ which mainly focuses on climate change as the most important issue among SDGs.

Sustainable finance requires institutional investors, pension funds trustees, and asset managers to take their responsibilities seriously and generally put their clients’ or beneficiaries’ interests before their own, as well they should. It has been controversial whether such responsibilities, called fiduciary duties, requires them to take into consideration ESG issues. However, the report expresses the opinion that consideration of ESG factors is beneficial to fulfilling their fiduciary duties.

Moreover, the report states the following points regarding enhancing sustainable finance:

• Impact finance: a wide range of approaches need to be sought to raise awareness and accumulate business practices regarding impact finance.

• Taxonomies and transition finance: it is important to participate in international discussions on taxonomies for suitable activities and promote transition finance (including the formulation of roadmaps for high emission industries).

• Corporate disclosure: comparable and consistent sustainability reporting standards should be required, and climate-related disclosures should be based on the Task Force on Climate-related Financial Disclosures (TCFD) recommendations.

• Capital market functions: a ‘green international finance centre’ which can contribute to more loans and investment should be developed, and a platform for practical information related to green bonds should be established.

• Financial institutions’ risk management: the FSA should develop a risk management system for climate change.

Based on the background that Japanese companies typically rely on loans rather than securities as the way to raise funds, the report emphasises the importance of financial institutions’ roles in sustainable finance.

The report asks financial institutions to support transition finance for borrowers and integrate the related risks when determining and implementing their business strategy through accumulating know-how and developing analytical tools. In addition, the report also expects FSA to develop a supervisory guidance on climate transition supports and risk management.

In relation to such risk management, the following points are expected to be incorporated into the guidance:

• To adopt a strategic approach to cater for climate-related risks;

• To clearly define and assign responsibilities within existing governance arrangements;

• To have policies and procedures in place to identify, assess, monitor, report and manage all material risks;

• To develop methodologies and tools (e.g. scenario analysis and stress testing) necessary to capture the size and scale of climate-related risks; and

• To disclose information and metrics on the climate-related risks to be in line with the TCFD recommendations.

In light of the government’s efforts, mega banks in Japan, which are sometimes criticised for having large proportions of loans and investments connected with fossil fuels, announced plans to strengthen sustainable finance initiatives.

For instance, Mitsubishi UFJ Financial Group raised the target amount of sustainable finance loans from ¥20 trillion to ¥35 trillion and disclosed information based on the TCFD recommendations, and Sumitomo Mitsui Banking Corporation launched the ‘green deposit’ which are allocated to finance the environmental segment of ESGs.

It should be noted that the report is a set of recommendations for the FSA, and businesses should be vigilant in regard to how the government implements these proposals from the EPSF as policies.

 

Mizuki Ogawa

Associate, Nagashima Ohno & Tsunematsu

E: mizuki_ogawa@noandt.com