Market failure exists when the competitive outcome of markets is not
efficient from the point of view of the economy as a whole. This is
usually because the benefits that the market confers on individuals or
firms carrying out a particular activity diverge from the benefits to
society as a whole.
The
depth of the financial system's exposure to high carbon and
environmentally unsustainable investments could be a systemic risk that
threatens economic security. In a letter
sent to Sir Mervyn King, the governor of the Bank of England, a
coalition of investors, politicians, and academics recently urged the
bank to investigate these issues in order to prevent the profound harm
that could be wrought by an over-exposure to high carbon assets and a
rapid shift in their values.
In an important reply, the governor has now accepted that there is a
need for further evaluation and it is encouraging to see the bank
willing to consider the levels of fossil fuel exposure as a potential
risk to financial stability. We believe this process will serve as an
important test of whether anything has been learned from the sub-prime
crisis.
The Bank of England
has set out its criteria for what constitutes a threat to financial
stability. First it questioned whether "the exposures of financial
institutions to carbon-intensive sectors are large relative to overall
assets". Recent analysis of coal that is listed in the UK shows how
nearly one-third of the market capitalisation of the FTSE 100 is now
made up of natural resources companies. Most mainstream UK equity funds
will follow that.
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Financial market failure
