13 minute read 20 Nov 2023
Real estate agent and couple standing on rooftop of environmentally aware office building with dramatic sky and Barcelona cityscape in background at sunset.

How to accelerate transition finance for net zero

By Gill Lofts

EY Global Financial Services Sustainable Finance Leader

Passionate about creating a legacy in the financial services industry. Proud mother of two daughters.

13 minute read 20 Nov 2023

To effect transition finance at pace and scale, FI’s will need to operate iteratively in a complex ecosystem.

In brief

  • FIs supporting the transition of high-emitting sectors are hindered by varied and inconsistent definitions of transition finance.
  • FIs need to embed the right mechanisms and processes into their operating model and maintain a culture of improvement.
  • Success will require ongoing, iterative effort over many years.

The results of the Paris Agreement’s Global Stocktake, which evaluates the world's progress on reducing greenhouse gas emissions and that are set to be revealed at COP28, are expected to confirm that the planet is struggling to limit global warming to 1.5˚C.

While an estimated US$1.1t was invested in the global energy transition in 2022,1 the world needs more than triple that amount — between US$3.5t and US$4t every year until 2050 — to get on track for net zero.

Given this pressing need to secure additional investment, it’s clear that financial institutions (FIs) have a vital role to play in accelerating the global flow of transition finance — the process of making capital available to help high-emitting businesses and industries become more environmentally friendly.

Trillions of dollars will need to flow not just into green sectors, but also to transitional technologies and activities — which are often loosely defined given the wide range of industries, evolving innovations, changing regulations and inconsistencies in terminology and definitions.

FIs will therefore need to go far beyond just setting environmental goals or making declarations for change. To avoid “paper decarbonization,” they will need to ensure they are delivering tangible, real-world improvements aligned to clear, measurable and verifiable objectives.

The world is struggling to limit global warming to 1.5˚C.


Amount of additional investment is needed every year until 2050 to get on track for net zero.

(Chapter breaker)

Chapter 1

Current transition finance frameworks

A summary of existing frameworks and challenges to scale finance for net zero.

FIs face significant challenges as they look to actively support the transition of high-emitting sectors, corporates and countries.

This is exacerbated by varied, inconsistent approaches to defining and characterizing transition finance and eligible products, activities and sectors. For example, the European Union’s Taxonomy Regulation, which provides a classification system for sustainable economic activities, is yet to clearly define the taxonomy for transition activities. Similarly, the Climate Bonds Initiative (CBI), which provides specific criteria for green bonds, is less precise when it comes to transition bonds.

FIs can draw on a range of guidance to navigate a landscape of shifting policies and evolving technologies, but these tools vary in their scope and intended applications. Transition finance frameworks can be loosely categorized using the three tiers set out in the EU’s International Platform on Sustainable Finance (IPSF) report.2

Transition finance frameworks

Activity level Entity level Portfolio level

Taxonomies: assess and classify economic activities as ‘transition’ activity. Different classification categories reflect the varying degrees of climate impacts.

E.g., EU, South Africa, ASEAN, Indonesia, UK Taxonomy, Canadian Taxonomy, Australian Taxonomy

Transition plan guidelines: define climate transition plans for organisations, i.e. steps for how they can actually decarbonize. These range from transition plans for which all entities and countries are in scope (e.g., TCFD), to specific Financial sector plans (such as GFANZ).

Portfolio level: tools for FSOs to measure their portfolio alignment against a sectoral pathway or scenario.


Frameworks for issuers: provide guidance for capital market participants on what is required or recommended when raising capital for transition activities.
Reporting: disclosure requirements on entities to declare their climate transition plans, and their climate impacts.
Sectoral pathways: trajectories and criteria for sectors to decarbonize. They are based on sectoral climate science and can be used by entities to assess their alignment and progress. 
  • Open image description#Close image description

    Diagram categorizing types of transition finance frameworks into activity, entity and portfolio level.

    • Activity level taxonomies aim to define transitional sectors, but national variations and gaps in coverage create an uneven and confusing playing field.
    • Entity level frameworks are intended to help embed transition finance into companies’ planning, capital issuance and reporting.
    • Portfolio level tools aim to align FIs’ businesses with 1.5˚C pathways, although they sometimes put more focus on green sectors than transitional activities.

    Work to correct the gaps and inconsistencies of transition frameworks is ongoing. For now, however, these shortcomings increase the risk of paper decarbonization and greenwashing — where firms might make inaccurate or misleading claims about the sustainability benefits of services they offer or about their strategic aspirations.

(Chapter breaker)

Chapter 2

Challenges associated with mobilizing transition finance

The internal and external obstacles facing FIs to scale up transition finance.

FIs are working to develop approaches to transition finance that will allow them to support both new and existing clients’ transition journeys. However, FIs face their own internal obstacles, including:

  • Operationalize the transition: pricing the transition into decision-making and incentive frameworks requires FIs to use multiple levers (including capital allocation, funds transfer pricing, emissions budgets and adjusted risk appetites) in order to develop a climate-adjusted view of economic profitability. However, this is a complex process given exposure to multiple sectors with differing transition pathways. Changes to internal incentive structures will be needed, requiring buy-in from the top and business unit heads.
  • Engage with clients: FIs need to dial up engagement with their clients to assess their transition plans and provide tailored support where appropriate. Not only will this require significant investment and effort; firms may also need to make some difficult decisions over clients that are unable or unwilling to transition, despite support.
  • Assess credibility: reviewing the alignment of their portfolios with 1.5°C pathways will be a key element of FIs’ net-zero journey. This is a challenging exercise, particularly when assessing the alignment of companies, or of assets that require managed phase-out. It’s made harder by the fact that many corporates haven’t yet disclosed their transition plans with sufficient transparency and detail.
  • Consider suitable metrics: current metrics that focus on decreasing financed emissions to achieve portfolio decarbonization may not incentivize FIs to finance the transition of high-emitting entities or activities. However, it’s encouraging that portfolio alignment is considered as the leading indicator in the Science-Based Targets initiative’s (SBTi) latest guidance on the Financial Institutions Net-Zero (FINZ) Standardcurrently under development.

FIs also face many external challenges to engaging in the transition of capital and investment. This in turn, in many instances, has the effect of pushing up the cost of transition financing and depressing returns on investment. Key external challenges include:

  • Political inertia: policymakers around the world are not generating the momentum required to unlock transition finance at the levels needed to make a 1.5˚C pathway attainable. This is illustrated by patchy national emissions targets, insufficient investment in accelerating technology development in certain sectors and the lack of mechanisms to generate a global carbon price.
  • Framework limitations: inconsistent rules and standards contribute to the mispricing of climate risks and make it harder to intermediate supply and demand for transition finance. In addition, few current frameworks provide clear links between transition plans and taxonomies, mechanisms to prevent carbon lock-in, alignment with other sustainability goals, or proportionate treatment for small and medium-sized enterprises (SMEs) and companies operating in developing markets.4
  • Investable pipeline: immature technologies and policies — and their impact on investment horizons and returns — impact FIs’ risk appetite and the availability of investable opportunities. For example, the long-term financing needs and uncertain returns associated with many early-stage low-carbon technologies may limit funding for areas with the most acute need of capital.
  • Regional distortions: mobilizing finance in developing regions is often made hard by excessive costs of capital — even for green technologies like wind or solar that are more readily funded in mature markets. Political risks contribute, along with a lack of local financing capabilities — reducing investor appetite and creating a danger of continued fossil fuel dependency.


  • A spotlight on SMEs

    SMEs make up a significant proportion of businesses worldwide,5  and they contribute to larger companies’ Scope 3 emissions.6 Significant barriers to SME transition finance must be overcome if FIs are to mobilize the $50t7   of funding needed to transition global supply chains to net zero by 2050. High up-front decarbonization costs are often a significant barrier for SMEs. Other obstacles include an absence of relevant data or skills, limited access to technology, and limited use of net-zero targetsdue to a lack of demand from customers.

    The fragmentation and specialization of SMEs also make this segment hard to align with portfolio frameworks. Furthermore, given current risk pricing for SMEs and the sheer scale of the required transformation, it would be misguided to assume that FIs can finance the transition without adequate support from governments and policymakers.

    Nonetheless, FIs have a vital role to play in helping to address some of the key challenges to the SME transition and should consider:

    • Dialling up engagement with SMEs and providing knowledge and tools to build their understanding of decarbonization opportunities, risks and levers.
    • Offering tailored financial products with flexible interest rates, maturity, and repayment profiles – recognizing that transition plans may increase the short-term volatility of financial performance while improving the long-term viability of SMEs.
    • Advocating for national policy changes that will help SMEs to develop practical transition plans and access affordable sources of transition finance. The scale of the task requires a collective effort; governments should introduce effective policies to incentivize the transition.
  • Case study: mobilizing transition finance for the SME sector

    A major bank with an extensive presence in SME lending and asset finance (AF), and ambitious climate change targets, wanted to review its SME and AF strategy. The bank was facing challenges from the wide and fast-evolving range of transition technologies, different levels of maturity, associated market demand and financing supply. The bank was also grappling internally with building the right asset knowledge and experience, the clarity of its product offering, and the alignment of front and middle office functions around prioritization, pricing and risk view.

    In response, the bank mobilized a cross-functional leadership team to carry out a review of the market landscape, specific transition technologies, and its internal end-to-end approach. This required a strong understanding of transition technologies, its maturity and risks, and market supply and demand.

    The bank then conducted a detailed review of end-to-end strategy and processes, identifying points of failure and remediation actions. Key steps included:

    • Aligning internal views on risks and pricing between the front and middle office
    • Horizon-scanning core segments to understand transition assets and technologies, supply and demand, competitive positioning and lessons learned
    • Defining priorities based on internal and external considerations
    • Deep-diving into selected assets and technologies to understand risks and opportunities, manufacturing and the policy landscape

    The overall effect was to equip management with the knowledge, processes, management information and decision tools it needed to accelerate the mobilization of SME transition finance.

    The initiative is ongoing. It has helped numerous stakeholders to align around well-defined immediate actions to accelerate market activity, along with a set of medium- and longer-term actions to broaden the offering. The strategy combines a mix of approaches, reflecting varying levels of maturity in the market and in the bank’s processes. This has identified a range of approaches to help balance risk and return decisions, with alignment to transition plans.

(Chapter breaker)

Chapter 3

Accelerating flows of transition finance

Building capabilities for transition finance: internal and external improvements to action.

If FIs are to successfully navigate the complexities of transition finance and maximize the associated opportunities, they need to embed the right mechanisms and processes into their operating model and activities.

That will require ongoing, iterative effort over many years, including instilling a culture of continuous improvement. Firms are at varying levels of maturity, so best practice will vary — especially across regions. For now, once net-zero-aligned targets are set, focus should be on these actions:

  • Target real-economy transition: setting targets and metrics that prioritize real-world decarbonization, and monitoring progress against these to minimize the risk of divestment and increase portfolio decarbonization.
  • Set the right incentives: using internal levers such as capital allocation and adjusted risk appetite to create the right set of incentives for client-facing staff and decision-makers, helping to deliver on net-zero transition.
  • Develop greater specialization: recruiting specialized talent and training existing staff will help firms develop their transition finance capabilities, as well as improve their understanding of emerging technologies and the evolving policy landscape.
  • Improve data for decision-making: overcoming the continuing obstacles of data quality and availability will depend on making the right investments. A data strategy with a clear roadmap for improving data quality at sector, client and activity levels is key. Investment in internal processes will also be needed if firms are to be able to track progress and inform their investment and lending decisions.
  • Innovate new products: creating in-house transition finance frameworks based on best-in-class industry guidance and placing robust controls around the scaling up of products such as transition funds and bonds will enable FIs to finance the transition while minimizing greenwashing risks.

The right government policies can be a huge accelerator of transition technologies. The US’ Inflation Reduction Act (IRA) is a prime example, deploying up to US$379b in federal funding for green technology and clean energy projects. Meanwhile, the UK government plans to commit £20b in funding to the early development of carbon capture, usage and storage (CCUS) technology over the next 20 years, as well as developing new business models and carbon pricing mechanisms alongside the private sector.

Governments and regulators, in consultation with the private sector, can also accelerate transition finance by clarifying sector pathways and improving the coverage and consistency of taxonomies. In our view, key framework improvements to prioritize over the next two to three years are:

  • Evolution of industry and voluntary standards and frameworks: for FIs this would include the SBTi’s FINZ standard and Glasgow Financial Alliance for Net Zero (GFANZ) guidance providing a clearer view of portfolio alignment and associated transition criteria and metrics.
  • Comparable categories and coverage: more consistent categorization of economic activities between different taxonomies would be valuable, especially for global FIs that operate across multiple regions. For instance, the Canadian Sustainable Finance Action Council (SFAC) 9  and the Australian Sustainable Finance Institute have published their own roadmaps for categorizing transition activities.
  • Greater interoperability of disclosure: enhanced interoperability across key disclosure standards such as the International Sustainability Standards Board (ISSB) and European Financial Reporting Advisory Group (EFRAG) would make it easier for FIs to manage the volume of compliance – for example, by reducing the need for multiple interpretations, and by making it easier to align metrics and KPIs in a way that incentivizes growth.
  • Transition planning guidance: there needs to be a concerted effort across jurisdictions to move toward the mandatory disclosure of high-quality transition plans. A hugely positive step is the UK’s Transition Plan Taskforce (TPT), which provides a gold standard framework for a strategic, rounded approach to transition planning and takes into account related considerations such as nature and just transition. 
  • Enhanced collaboration: collaboration between FIs, trade bodies, policymakers and regulators will be critical to building momentum behind transition finance, especially when it comes to establishing shared standards, agreed parameters and greater cross-border interoperability.
  • A global taxonomy: in an ideal world, there would be a standard global transition-specific taxonomy. A myriad of factors, including the diversity of different countries’ economies, make this especially challenging. In the next few years, it would be more realistic to focus on transition disclosures, industry and voluntary standards and frameworks, and mechanisms for interoperability.

Success is dependent on a range of factors, including strong political leadership and policies, consistent definitions and regulations across jurisdictions, supportive industry frameworks and FIs’ own capabilities and investments. FIs therefore need to optimize factors within their own control. These include mobilizing transition finance through the right structures and incentives, engaging closely with clients, and collaborating with peers, regulators and other stakeholders to improve industry frameworks, policies and practice.

  • Show article references#Hide article references

    1. Energy Transition Investment Trends 2023, BloombergNEF, January 2023
    2. International Platform on Sustainable Finance transition finance report, November 2022
    3. The SBTi Financial Institutions Net-Zero Standard Consultation Draft, June 2023
    4. OECD Guidance on Transition Finance: Ensuring Credibility of Corporate Climate Transition Plans, 2. What is transition finance?
    5. SME Finance, The World Bank
    6. Survey: small businesses face recurring barriers to carbon reduction, SME Climate Hub, February 2022
    7. CISL report reveals how banks and corporations can better support SMEs on the path to net zero, SME Climate Hub, January 2023
    8. SMEs critical to cutting UK carbon emissions but overlooked in government’s net-zero plans, Sage, November 2022
    9. Understanding Canada’s proposed climate finance taxonomy, Investment Executive, April 2023

Get the latest on sustainability in FS

Be the first to learn about our latest articles, events and webinars related to sustainability for financial services.

Subscribe now


There is a pressing need for the world to upscale investments in transition finance for reducing carbon emissions and curbing global warming. FIs can play a vital role in expediting the global transition finance flow, but they should ensure that they are making concrete, real-world advancements rather than mere paper decarbonization efforts.

About this article

By Gill Lofts

EY Global Financial Services Sustainable Finance Leader

Passionate about creating a legacy in the financial services industry. Proud mother of two daughters.