A major report on biodiversity from the UK Government has today suggested that global standards are needed, and that investors should factor their impact on nature into their fiduciary duties.
The 606-page Dasgupta Review on the Economics of Biodiversity, which aims to provide the first comprehensive economic framework for biodiversity, was commissioned by HM Treasury in March 2019, and an interim report was released last summer. Its namesake and lead author, Professor Partha Dasgupta, is a well-known pioneer in environmental economics.
The final report, released today, recommends that governments integrate natural capital into national accounting systems, and that businesses and financial institutions measure and disclose their dependencies and impacts on nature.
The report also explores the possibility of introducing a ‘border tax’ linked to biodiversity, creating an import/export levy on low-performing countries – an idea that is also being considered to tackle carbon emissions. It puts forward the potential for introducing environmental issues into trade standards and agreements, too.
For the private sector it says that “a set of global standards is required”.
“They should be underpinned by data that are both credible and useful for decision-making. Businesses and financial institutions could then be obliged to integrate Nature-related considerations within their objectives. The idea ultimately is to have them assess and disclose their use of natural capital.”
The UK has been a driving force behind a new Taskforce on Nature-related Financial Disclosures (TNFD), created last year to develop global reporting standards on natural capital. The review says this project could support such a global standard.
Last week, a study by RI and Credit Suisse found lack of data was viewed as the biggest barrier to making investments that support biodiversity. Other initiatives to tackle the problem include a project by ASN Bank with Actiam, FMO, Robeco and Triodos Bank called the Partnership for Biodiversity Accounting Financials, to create a common accounting measure for the positive biodiversity impacts of their investments.
“In principle, a taxonomy approach has the potential to bring consistency to the way private and public financial actors assess environmental impacts,” the report continues, adding that over time, such a classification system “should influence the cost of funding of those activities, as well as their ability to attract public subsidies and private funding”.
The UK is in the early stages of creating a national green taxonomy, which is expected to focus on climate change initially. The EU’s taxonomy, namechecked in the Dasgupta Review, is being widened to cover biodiversity this year.
As well as addressing the need for heightened disclosure, the Dasgupta Review looks at asset allocation and investment decisions, noting that green investment currently focuses on financing the transition to more sustainable practices within companies, rather than channeling money into restoration and conservation – an investment area it says faces major challenges.
“First, a profitable financial return is not always possible,” it observes. “Directly enhancing the quality and quantity of natural assets, for example through the creation of protected areas, rewilding or enhancing degraded soils, are not activities that produce reliable revenue streams, unless market prices are in line with accounting prices.”
It also identifies the small size of most preservation and restoration projects as a barrier to private investment, as well as the lack of standardised data and the limited track record of such investments.
But the review insists that private finance faces major risks if biodiversity loss is not stemmed.
“Financial institutions face credit risk because they have exposures to investees that may default on their obligations. Severe disruption or collapse of ecosystems can disrupt supply chains, leading to asset quality deterioration and non-performing assets. This reduces both the debt servicing capacity and the collateral of the financial institution. This increases the credit risk on their loan books, as both the probability of default and the loss given default increase,” it warns.
“In addition, if damages from these physical risks are not insured, then the financial burden can fall onto other market participants, further increasing credit exposures. The crystallisation of extreme acute physical risks may even lead to bank defaults.
“Financial institutions may also have credit exposures to businesses with models that are not aligned with sustainably managing natural capital, and which therefore could face a high risk of reduced corporate earnings and business disruption over time. This may leave them unable to repay loans or meet their obligations on other financial transactions, at the same time as reducing their value. This could result in businesses in some sectors or industries facing increased cost of capital or lending requirements that are conditional on either their dependency or management of natural assets (or a combination of both)”.
The report makes the case that by treating natural capital like any other assets held in investment portfolios “the economics of biodiversity becomes a study in portfolio management”.
It adds that, “for asset managers in particular, there is an argument that environmental issues should be part of their fiduciary duty”.
However, it says that, while financial actors have a key role to play in tackling the problem, “their role is ultimately bound by broader government and regulatory policies to correct for institutional failures”. Failures by governments around the world to factor in externalities such as biodiversity loss (“through fiscal measures, standards, regulations and market mechanisms”) means that financial markets cannot price biodiversity into their analysis and decision making. “Until this fundamental failure is addressed, pricing and allocation of financial flows alone will not be sufficient to enable a sustainable engagement with Nature,” it concluded.
Emma Howard Boyd, Chair of the Environment Agency and Adviser to the Board of Trade, praised the report, saying that “governments and companies everywhere should take a good look at their global supply chains and heed these recommendations”.
Richard Curtis, Co-founder of Make My Money Matter, also praised the review. “As a critical first step, it would be tremendous if the UK Government could establish a Global Commission for the Economy and Nature to help governments, businesses and the financial sector meet these goals, building on this review and other efforts around the world,” he said.
The Review’s publication is timely, coming ahead of COP15 for Biological Diversity, due to be held in China in May, where new long-term international targets for addressing biodiversity loss are expected to be agreed. COP26, which will be hosted by the UK Government in November, will see nature and nature-based solutions to climate change play a prominent role in the discussions.