By Alan Miller & Stacy Swann
Odds are, wherever you live, your climate is changing. It may be hotter and drier, with more drought and wildfires, or you may be experiencing more severe storms and extreme rainfall. You may notice it, or you may not, but the folks at NASA are keeping track, and August was another record breaker.
Our ability to create a sustainable, poverty-free future – as envisioned by the UN’s Sustainable Development Goals – depends on understanding how these changes will affect the essentials that we all rely on: water, food, energy, and infrastructure. It depends on investing in low-carbon growth, as the new president of the UN General Assembly has stressed, and on building resilience to the climate changes already underway.
The heat is already costing us. To date, much of the cost of climate change has been borne by public disaster relief and by the victims themselves. We saw the impact in Louisiana last month when a two-day deluge sent rivers to record levels, flooding an estimated 150,000 homes and many businesses. This flood was a 1-in-1,000-years event, and while total damages are still being assessed, early estimates suggest its economic costs will exceed $10 billion. Most homeowners were underinsured or had no flood insurance (public or private), leaving a substantial burden of those damages to taxpayers. This scenario repeats with extreme weather events around the world. Ethiopia is facing its worst drought in 50 years due to two failed rainy seasons exacerbated by an exceptionally strong El Nino cycle. In some areas, 90 percent of crops and over a million cattle have died, leaving up to 18 million people dependent on food aid from international donors.
The costs are significant and far surpass what can be provided through government coffers and philanthropic sources. It is time to start thinking about climate risk as not just a public burden after the fact, but also one to be managed before the disaster hits, by everyone: consumers, homeowners, financiers, businesses and the rest of the private sector.
Climate change requires risk management. It is the ultimate “threat multiplier” for its potential to make other risks worse. If unaddressed, it could significantly undermine economic growth and make our efforts to achieve other development goals nearly impossible.
Finance: A Key Element of a Sustainable, Resilient Development
In many ways, the financial sector is the foundation of sustainable and climate-resilient development. Financial institutions, lenders, investors, and insurers sit at the heart of climate risk and are the cornerstone of resilience, precisely because each actor in the financial ecosystem is fundamentally a risk manager. And from the understanding of risk – in a real financial sense – will come the opportunities to invest in businesses that are resilient and sustainable.
Financial actors have yet to integrate and account for climate risks in a systematic way across all lending and investing, though. Nor have they started to see resilience as a sufficient business or investment opportunity. While insurers and ratings agencies are starting to discuss (and perhaps integrate) climate risks, most of the rest of the industry lags when it comes to assessing or pricing in the risks resulting from climate-related events. According to BlackRock, most equity investors overlook climate risk, credit investors do not routinely or adequately assess it, and property markets often ignore it, even in highly exposed coastal areas. This notwithstanding clear signals from the business community that climate change brings a cost to operations. In the recently published report Business Opportunities in a Changing Climate, over a third (36%) of all climate risks scored by businesses were marked as having a “high cost” to operations.
Data and Information, Modeling and Tools
Financiers and insurers are well positioned to incentivize efforts that can reduce climate risks, in part by providing and requiring greater climate risk assessment. As the G20’s Green Finance report calls out, information asymmetries resulting from lack of transparent disclosure continue to hinder markets from fully identifying climate risks, let alone assessing or managing them.
One fundamental component for correcting this information asymmetry is data that is timely, verifiable, and comparable. A number of sophisticated climate risk analytics and modeling tools are being developed to help, including some well-suited to the data constraints and needs of developing countries where sustainable development needs are significant. For example, the World Bank has shown that using probabilistic analysis of predicted weather changes can improve the design and expected economic return from hydropower projects in Africa, and private consulting companies are now offering localized projections of future flooding that can improve locational choices and support the value of investments in resilience.
Useful data and modeling tools do two things. They use well-regarded climate science and modeling, and they couple that with data and information specific to the context in which the investment, business, or property exists to help these users understand their climate risk and make informed decisions on where and how to increase their resilience efforts. While uncertainties may be present, models are also the best way to define the frequency, severity, and duration of climate change impacts, to determine how risk exposure will evolve over time, and to develop solutions to build in resilience today to the changes expected tomorrow.
Managing these risks and making the physical improvements that can help strengthen resilience requires finance. And while innovative instruments, blended products, new insurance products, or other approaches to share or transfer risk are necessary, more must be done to drive investment and get finance flowing to build-in resilience. Widespread use of these types of tools and analytics is key to ensuring we have fully integrated climate considerations across all finance and investing. Mainstreaming the use of these tools may also allow for the development of adaptation or resilience disclosure metrics, which can greatly enhance disclosure, address information asymmetry, and ultimately allow both investors and policy makers to make better, more informed decisions.
After years of discussing climate change primarily as a debate about energy policy, the relatively rapid onset of warmer temperatures, more severe rainfall and drought events, and other predicted changes have become a risk reality for everyone – countries, companies, and consumers. The sooner we incorporate climate risk analysis and resilience planning into all our investment and development efforts, the better chance we’ll have of reducing the costs that are already becoming apparent.