Banks and pension funds in Brazil are exposed to billions of dollars of environmental costs due to the impacts of companies they finance on the environment. Integrating environmental considerations into financing decisions can help financial institutions reduce their exposure and ensure that capital flows into more environmentally friendly and less resource-intensive production models.
The findings are published in the report Natural Capital Risk Exposure of the Financial Sector in Brazil commissioned as part of the Emerging Markets Dialogue on Green Finance by the Brazilian Business Council for Sustainable Development (CEBDS) and GIZ, the German Agency for International Cooperation, and produced in partnership with a group of Brazilian financial institutions. The research was conducted by Trucost.
The research quantifies in financial terms the natural capital impacts of 45 business sectors in Brazil including agriculture, cement, chemicals, energy, forestry and steel. Impacts include greenhouse gas emissions, water consumption, deforestation, waste, and water and air pollution.
The study finds that the total natural capital cost of companies financed by Brazilian banks and pension funds is R$1,646bn. Sectors with the highest natural capital costs include cattle ranching, soybean farming, and oil and gas extraction. For each million Real of revenue, the cattle ranching sector, for example, creates R$22m of environmental impacts, mainly through deforestation and greenhouse gas emissions. Similarly, in the case of soybean farming, every million Real of revenue generated by the sector has environmental impacts worth almost R$3m.
Even if Brazil’s highly natural capital intensive sectors only had to internalize a small fraction of the cost of the environmental externalities they are generating, their financial performance and hence their ability to repay loans and generate shareholder revenues would be impacted significantly. If, for example, the animal slaughtering, rendering and processing sector had to internalize just 2% of the natural capital costs it generates, it would no longer be profitable. In petrochemical manufacturing, the profits of the sector would disappear if 13% of its natural capital costs were internalized.
Due to a high share of lending to sectors like cattle ranching and agricultural industries, Brazilian banks are especially exposed to natural capital costs – more than twice as much as Brazilian pension funds. Nevertheless, pension funds face sizeable natural capital costs due to investments in the petrochemical, metal and food sectors.
The report recommends that financial institutions should quantify the natural capital costs associated with their investment portfolios and loan books, assess the risks of these costs becoming internalized over time as a result of regulation or climate-related volatility, and incorporate natural capital considerations into their analysis, decision-making processes and investment strategies.
To enable this, it is crucial that banks and pension funds use their position to demand better data on natural capital impacts from companies. They should also encourage companies to reduce their environmental impacts and resource use by adopting environmentally sustainable production methods, such as renewable energy, water-efficient irrigation and waste recycling.
Simone Dettling, coordinator of the Emerging Markets Dialogue on Green Finance, said: “Integrating the costs of environmental impacts and resource use into financial decision making will be a crucial step towards a sustainable financial system that can support the green transformation of economies worldwide.”
Marina Grossi, president of CEBDS, said: “Although the exposure of the financial sector to natural capital is indirect, since there is no dependence and impact of ecosystem services as strong as in the industrial sectors, banks are realizing more and more that supply problems or quality of natural capital can hinder the implementation of projects, causing significant losses.”
Richard Mattison, chief executive of Trucost, said: “Natural capital valuation offers banks and pension funds a new framework to understand the risks and opportunities of their investment and financing activities. Financial institutions that integrate natural capital considerations into equity valuation and corporate lending decisions can benefit by reducing risk and identifying more profitable business opportunities.”
Simone Dettling, GIZ, + 49 (0)1609 690 7931, firstname.lastname@example.org
James Richens, Trucost, +44 (0)20 7160 9804, email@example.com
The Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ) GmbH is a federal enterprise with worldwide operations. It supports the German Government in the fields of international cooperation for sustainable development and international education. GIZ helps individuals and societies to develop their own prospects and improve their living conditions.
CEBDS is the representative of the World Business Council for Sustainable Development (WBCSD) in Brazil, an association founded by business leaders who realize the need to integrate corporate activities into sustainable development.