When you enter an entirely new area, banking can feel almost like philosophy. The big questions - what the job to be done is, and how to think about and define it to meet long-term goals - need to be answered before action can be taken.
This is the case with work now going on to understand better how to husband and preserve the planet’s natural capital assets, including its simplest and most important resource – water, the source of life – as part of the global finance community’s ever-broadening remit to tackle climate change.
Water is behaving increasingly unpredictably under pressure from climate change. With some regions becoming drier and others ever more prone to flooding, the need to find and share new ways to measure water’s value, so it can be built into investment strategies, is intensifying.
“This is why one of the new areas in the EBRD’s Green Economy Transition Approach for 2020-25, as it moves towards making a majority of its investments green, is looking at how best to invest in natural capital, from soil and sustainable land management of the ecosystems that water feeds, to water itself,” explains Craig Davies, the EBRD’s Green Economy and Climate Action department lead on natural capital.
The Green Economy Transition approach, approved by the EBRD’s Governors in October 2020, aims to accelerate the transition to a green, low-carbon and resilient economy, and to contribute to achieving a net zero carbon world by 2050. The EBRD has a strong track record in green finance, with more than €37 billion committed to over 2,000 green projects since 2006.
“It’s very clear that natural capital has a vital role for sustainable development in the EBRD regions,” says the EBRD’s Marta Modelewska. “The EBRD region is richly endowed with natural capital assets, but they are increasingly coming under threat of depletion and degradation due to intensified production, rapid urbanisation and the impacts of climate change. This calls for action to preserve and where possible to enhance natural capital.”
“All companies rely on natural capital and impact it in some way,” adds Mr Davies. “As an investor, we must encourage companies to identify, manage and prevent adverse impacts that are material to their business operations. The ability of many resource intensive companies to operate is dependent on sustaining the ecosystems that provide them with these underlying resources.”
Already a leader in climate finance, the EBRD has extensive project experience across water-scarce regions in North Africa and Central Asia, where soil degradation can be a problem for agricultural land, as well as in areas such as the Western Balkans, which have seen serious flooding in recent years.
A project, co-financed by the Green Climate Fund (GCF), on Morocco’s water-scarce Saiss plain has already demonstrated the benefits of bigger, joined-up thinking on protecting water supplies, Ms Modelewska says.
It tackles the “unsustainable use of groundwater which is leading to a reduction in groundwater reserves, posing a severe threat to agricultural production and rural livelihoods. We are supporting the government in building a water transfer scheme that will deliver more than 100 million cubic metres of irrigation water to the Saïss plain each year.”
The focus now is on unlocking the potential of natural capital assets by looking to benefit entire regions – working systemically – in an area of endeavour that, while full of exciting possibilities, is still short on definitions, standards and widely accepted metrics.
“We are conceptualising what it means for the EBRD and how we can work with a range of clients on pro-nature investment across sectors,” Ms Modelewska says. Over the next five years, the EBRD will be defining “how we can scale up what we have done so far and innovate to effectively manage natural-related risks and opportunities.”
A lot of climate finance thinking is about correcting market imbalances that have wrongly priced the cost of operations by failing to consider some of their consequences. For two centuries, for instance, markets did not understand that a factory that causes damage to its environment through greenhouse gas emissions is incurring costs that the surrounding community will have to pay in terms of pollution and health issues.
The very modern idea of carbon offsetting, taxes and markets – so that these costs do start to be priced realistically – has arisen only in the 21st century as a way of redressing the balance, and allowing the true cost of carbon to be priced into projects.
With water, thinking on how to use it for maximum climate benefit is at a much earlier stage. But, as with carbon and other greenhouse gases, the philosophical key to valuing water is to be found by assessing not just the needs, costs and benefits of an individual project using water, but the bigger environment – the “system” - it operates in. The philosophy comes in defining how best to do that.
Says EBRD water specialist Claudia Neuschulz: “Water is a natural capital asset, and its value is becoming better understood by going beyond the asset-level impact in water use and taking into account the system impact. We are looking increasingly into how to invest in sustainable water use systems. Understanding the context of the operations in your particular water basin is key.”
“We are encouraging our corporate clients to take action on assessing their climate risks and opportunities and disclose climate-related information to investors. For water-intensive industries, understanding the water-related physical climate risks and opportunities is particularly relevant. This requires looking beyond the water use in operations and considering the entire water system - the basin – in which they operate,” adds Ms Neuschulz.
If encouraging corporate clients to “look beyond the factory fence” - collect and disclose more data about the water environment their business is in - is one focus, another is harnessing nature to help clean urban environments through nature-based solutions.
As Ms Neuschulz says: “If you restore a wetland, or build an artificial wetland, you then have a natural water filter which will have filtered out some pollutants by the time your water comes to the water treatment plant, so you need to invest less in chemicals and energy-intensive processes to treat the water.”
The next step - still for the moment in the future - will come in conceptualising new types of investment in green spaces, evaluating and valorising the water and environmental resources being used so that a project’s environmental impact is correctly priced.
Here the question of defining the price of water arises. Although by now there are widely accepted measurements for greenhouse gas emissions – key to assessing pollution impacts - there is not yet any similar measurement of the real price of water in different environments. The EBRD is among the first to be working on a “shadow water price” to assess this, though this research is at an interim stage and still being refined.
As Mr Davies notes: “The sustainable management of natural capital can play a significant role in tackling climate change in line with the goals of the Paris Agreement. Looking into it now will help us to actively help shape our regions' destiny, and further expand the scope of our activities into that longer-term future.”