11 minute read
There are a number of trends and factors, sometimes referred to as ‘megatrends’ that researchers and practitioners have identified as sources of risks to companies, economies and societies if left unaddressed.
The CFA Institute has identified three key areas of environmental concern.
1. Climate change
The change of climate, directly or indirectly attributed to human activity, is a global issue with both micro and macro manifestations and impacts.
The 2006 Stern Review concluded that “climate change is a unique challenge for economies and the biggest market failure ever seen … no one can predict the consequences of climate change with complete certainty; but we do now know enough to understand the risks.”1
Read: Pages 8- 9 of the Executive summary from the McKinsey Global Institute Climate risk and response report highlights some of the socioeconomic impacts of climate change.
- As average temperatures rise, acute hazards such as heat waves and floods grow in frequency and severity, and chronic hazards, such as drought and rising sea levels, intensify.
- Climate change already has substantial physical impacts at a local level in regions across the world. The affected regions will continue to grow in number and size, directly affecting the five socioeconomic systems: liveability and workability, food systems, physical assets, infrastructure services and natural capital.
- The socioeconomic impacts of climate change will likely be non-linear as system thresholds are breached and have knock-on effects.
- Most of the past increases in direct impact from hazards have come from greater exposure to hazards versus increases in their mean and tail intensity. In the future, hazard intensification will likely assume a greater role.
- The global socioeconomic impacts of climate change could be substantial. A changing climate affects human beings, as well as physical and natural capital.
- Financial markets could bring forward risk recognition in affected regions, with consequences for capital allocation and insurance. Greater understanding of climate risk could make long-duration borrowing unavailable, impact insurance cost and availability, and reduce terminal values.
- Countries and regions with lower per-capita economic growth levels are generally more at risk.
- Addressing physical climate risk will require more systematic risk management, accelerating adaptation, and decarbonisation.
Sectors that are carbon intensive are at particular risk from climate change, including:
- Oil, gas and coal
- Heavy industrial sectors (e.g. petrochemicals, steel, cement)
- Buildings and transport
The risks from climate change can be either physical or transition risks:
Transitions risks are caused by changes in climate and energy policies, a shift to low-carbon technologies and liability issues.
Physical risks are either acute or chronic and are caused by extreme weather events or longer-term shifts in climate patterns.
There are two possible approaches to respond to climate change:
Mitigation – i.e., reducing and stabilising the levels of heat trapping greenhouse gas (GHG) emissions in the atmosphere, or
Adaptation – adapting to the climate change already taking place.
The Intergovernmental Panel on Climate Change (IPCC) explores four potential futures depending on what policies governments take to cut emissions. The graphic below identifies some of the potential impacts businesses face in these four scenarios2 :
2. Pressures on natural resources: water, biodiversity, land use and forestry and marine resources
The CFA identifies several factors putting increasing pressure on natural resources;
- Population growth
- Health improvements leading to people living longer
- Economic growth
- Increased consumption in developed and emerging economies
Water is a vital resource, for a range of agricultural, industrial, household energy generation, recreational and environmental activities. The World Economic Forum views water allocation and use as an interrelated economic system that must balance social development and environmental interests. A decision to allocate more water to any one sector means that less water is available for other uses. 3
Water scarcity is the lack of freshwater resources and is one of the largest global risks of the next decade. UN Water reports that more than two billion people globally experience high water stress, and about four billion people experience severe water scarcity at least one month of the year.4
The Convention on Biological Diversity defines biodiversity as: the “variability among living organisms from all sources including, among other things, terrestrial, marine and other aquatic ecosystems and the ecological complexes of which they are part; this includes diversity within species, between species and of ecosystems”.5
Recommended Read: Rebecca Vogel (WM Consulting) – Biodiversity and why it matters
Ecosystem services are the direct and indirect contributions of ecosystems to human wellbeing, and the success of businesses.
Natural capital is: “the world’s stocks of natural assets which include geology, soil, air, water and all living things. It is from this natural capital that humans derive a wide range of services”,6
According to the International Union for Conservation of Nature (IUCN), biodiversity underpins ecosystem services, provides natural resources and constitutes our ’natural capital’. These ecosystem services include food, clean water, genetic resources, flood protection, nutrient cycling and climate regulation, amongst many others.7
According to a 2019 report from the Intergovernmental Science-Policy Platform on Biodiversity and Ecosystem Services (IPBES), humans have impacted over 75% of the Earth’s land areas and 66% of oceans, and 1 million animal and plant species are now threatened with extinction.
Sectors that have potential risk exposure to biodiversity loss include:
- Extractives (cement, oil and gas, mining etc.)
Recommended Watch: BBC documentary – Extinction: The Facts
Recommended Watch: Netflix – Breaking Boundaries: The Science of Our Planet
Land use and forestry
Agriculture, Forestry and Other Land Use (AFOLU) have a major impact on natural resources. According to the IPCC, the AFOLU sector is responsible for 23% of total net emissions that humans generate, and the IPBES estimates that deforestation and forest degradation account for 10 -15% of global GHG emissions. This is a significant issue to say the least.8,9
In a 2019 report, the IPCC predicted a decrease in the stability of food supplies as an increase in the magnitude and frequency of weather events disrupts food chains.
Companies with deforestation practices anywhere in their supply chains face a multitude of risks, including:
- Supply disruption
- Cost volatility
- Reputational damage
The ocean produces over half the world’s oxygen and absorbs 50 times more carbon dioxide than the atmosphere. This makes it one of the planet’s largest carbon sinks, as well as being a major transport network and a hugely valuable natural resource providing food and livelihoods to millions of people globally.
The use of the ocean’s resources as a source of economic growth is known as the blue economy. It is defined by the World Bank as: “sustainable use of ocean resources for economic growth, improved livelihoods, and jobs while preserving the health of ocean ecosystem.”
3. Pollution and waste
Air pollution is the largest environmental cause of disease and premature death in the world today. Evidence from the World Health Organisation (WHO) shows that more than 90% of the world’s population live in areas with levels of pollution that exceed their guidelines, with the situation only set to get worse as migration and demographic change see cities expanding.11
In addition to being harmful to human health, increased air pollution:
- Adversely affects the environment
- Destroys ecosystems
- Reduces biodiversity
- Reduces crop harvests due to soil acidification
Water is essential to all living organisms, and water pollution is a serious threat to the environment and human health.
Water pollution happens when toxic substances enter water bodies such as lakes, rivers and oceans. These substances could be anything from human sewage to nuclear materials to microplastic – and they are all harmful. In fact, we are only just beginning to understand the extent to which global water sources are contaminated with man-made substances, and the knock-on effects that this has on biodiversity and the health of ecosystems.
Waste and waste management
Waste and waste management has become a larger priority for policymakers globally. Concerns have increased about the growing pressure on natural resources and level of pollution generated from ‘traditional’ waste disposal methods.
Increasing levels of consumption and changes in living and working patterns are generating ever greater quantities of waste. At the same time there is greater pressure on space for landfill.
In many developed economies financial mechanisms are being introduced to discourage waste and promote recycling – for example hypothecated taxes such as the charge for plastic bags.
The circular economy
The circular economy is an economic model based on the principles of designing out waste and pollution, keeping products and materials in use, and regenerating natural systems.
Watch: Ellen MacArthur’s TedTalk from March 2015 from 6:30
- There is a finite quantity of resources available in the world – and our global economy is entirely dependent on those finite resources
- We have just a couple of generations worth of precious resources such as metals and fuel left available to us
- The framework in which we live is a linear system – which fundamentally cannot run in the long term
- An economy that uses resources rather than use them up offers an alternative, sustainable, future
From a linear to a circular economy
A recent study from the Ellen MacArthur Foundation demonstrated that applying circular economy strategies in just five key areas (cement, aluminium, steel, plastics, and food) can eliminate almost half of the remaining emissions from the production of goods. This would be 9.3 billion tonnes of carbon dioxide equivalent CO2 in 2050, equivalent to cutting current emissions from all transport to zero.12
Recommended Read: Elisa Magistrali (WM Consulting) – ESG Trends 2021 – Circular Economy
Recommended Read: for an abundance of resources relating to the Circular Economy, visit the Ellen MacArthur Foundation website
Businesses and investment activities depend on and impact natural resources and ecosystems both directly and indirectly.
A direct impact occurs when an organisation’s activity directly affects biodiversity. For example, species being disturbed or water being contaminated by waste from industrial activity.
An indirect impact is caused by an organisation’s supply chain. For example, emissions from transportation. Indirect impacts can also manifest as a consequence of company activities, for example mass migration to previously unsettled areas to work on infrastructure projects.
Recommended Read: Rebecca Vogel (WM Consulting) – The Transition to Net Zero
1Stern, H.H. (2006). The Economics of Climate Change: The Stern Review. Cambridge: Cambridge University Press
2Symon, C., 2021. CLIMATE CHANGE: ACTION, TRENDS AND IMPLICATIONS FOR BUSINESS. [ebook] European Climate Foundation. Available at: <https://www.cisl.cam.ac.uk/system/files/documents/science-report-briefing-print-en.pdf>.
3 World Economic Forum. 2021. Shaping the Future of Global Public Goods. [online] Available at: <https://www.weforum.org/platforms/shaping-the-future-of-global-public-goods>.
4UN-Water. 2021. UN World Water Development Report 2019 | UN-Water. [online] Available at: <https://www.unwater.org/publications/world-water-development-report-2019/>.
51992. CONVENTION ON BIOLOGICAL DIVERSITY. [ebook] United Nations. Available at: <https://www.cbd.int/doc/legal/cbd-en.pdf>.
6World Forum on Natural Capital. 2017. What is natural capital?. [online] Available at: <https://naturalcapitalforum.com/about/>.
72014. Biodiversity for Business. [ebook] IUCN, Gland, Switzerland. Available at: <https://portals.iucn.org/library/sites/library/files/documents/2014-004.pdf>.
8,92020. Climate Change and Land. [ebook] Intergovernmental Panel on Climate Change. Available at: <https://www.ipcc.ch/site/assets/uploads/sites/4/2020/02/SPM_Updated-Jan20.pdf>.
10Knowledge.unccd.int. 2021. IPBES’ 2019 Global Assessment Report on Biodiversity and Ecosystem Services | Knowledge Hub. [online] Available at: <https://knowledge.unccd.int/publications/ipbes-2019-global-assessment-report-biodiversity-and-ecosystem-services>.
11Who.int. 2021. Newsroom. [online] Available at: <https://www.who.int/news-room/air-pollution> [Accessed 17 September 2021].