Rating agencies could be repeating the mistakes of the credit crisis, where risks were underestimated to the detriment of the global financial system, by not factoring in climate change, according to a new report.
The report – (Mis)Calculated Risks and Climate Change – Are Rating Agencies Repeating Credit Crisis Mistakes – argues that by not considering climate risk, credit rating agencies are assuming a business as usual approach to fossil fuel investment. This would result in global temperature increase of 4C or more. However, almost 200 nations have agreed to limit global warming to 2C and there is a growing trend in efforts to mitigate climate change, from governments to businesses.
The Centre for International Environmental Law (CIEL), which published the report, explains that by assuming a business as unusual scenario, rating agencies may be artificially inflating credit ratings and financial value of companies that contribute to global warming. This presents a risk for investors that use these agencies to make informed decisions.
Niranjali Amerasinghe, director of the climate & energy program at the organisation, commented, “Fossil fuels are on the way out. Overstated credit ratings threaten not only investors and markets, but ultimately the global economy. They also contribute to overinvestment in activities that cause climate change, threatening our ecosystem and the people who depend on them.”
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The report uses case studies to highlight its point. For example, the Abbot Point coal terminal in Australia has been rated by Moody’s Rating Agency as a “run-of-the mill debt insurance”. However, Moody Korol, senior attorney at CIEL, explained that the value of fossil fuel investments could “deteriorate dramatically” just as sub-prime assets become worthless during the credit crisis.
She added, “As rating agencies inadequately rated assets then, they are likely overestimate the value of fossil fuel assets now.”
The report concludes that rating agencies current rating methodologies may be increasingly out of step with climate and market realities and could fail investors, individuals and financial regulators again.
Photo: jonasclemens via Flickr