The missing link in the climate battle
First, cyclone Fani. Then, heavy rains lashing the western coast. Hundreds dead, millions evacuated. This is 2019, following from once-in-a-century floods in Chennai (2015) and Kerala (2018). Record temperatures add to heat stress, impacting public health and straining urban infrastructure. The tragic loss of lives notwithstanding, climate risks have adverse economic implications. And the financial system is not ready.
For two decades, climate finance has been bifurcated between mitigation and adaptation, with the former outweighing the latter two-to-one. They no longer fall into neat categories. Does a solar irrigation pump mitigate emissions from coal-based electricity or diesel, or does it help farmers adapt to water stress? Funding for both is insufficient. During 2013-18, multilateral climate funds approved only $10.4 billion for mitigation; adaptation funding was at $4.4 billion. Even including bilateral funds and private investment, climate financing was $463 billion in 2016. This is woefully small. India, alone, needs $2.5 trillion in climate financing by 2030.
The earth’s climate is changing faster than anticipated, and extreme weather events are occurring with rising frequency. The financial system must respond with risk guarantees, blended public and private finance, and incorporating adaptation into risk-return calculations. Rather than an afterthought, adaptation is now an existential imperative.
Should funds be allocated to build resilience for future or pay for loss and damage now? Bridging mitigation and adaptation, resilience is the ability of human and non-human systems to withstand and respond to climatic changes. Investments in resilient infrastructure (improved drainage, nature-based flood protection) are difficult because markets heavily discount the future. Resilience is contingent on land-use policies accounting for future risks rather than just current needs. Modularity in design can shorten the time horizon, allowing smaller investments today that reduce adaptation needs later.
Quantifying socioeconomic benefits of climate-resilient infrastructure — say, reduced insurance premiums or damage from disasters, helps. Economic benefits could be thrice that of the original investment, opening new funding sources such as green bonds.
Loss and damage due to anthropogenic climate change are the flipside of resilience — and even harder to finance. This is very contentious in climate negotiations. Rich countries — the biggest historical polluters — do not want to bear liability or give compensation for damages caused to climate-vulnerable regions. In 2013, countries agreed to the Warsaw International Mechanism of Loss and Damage but there has been no consensus so far on how it should be funded.
A key challenge is attributing specific events to climate change and determining the limits to resilience, beyond which loss and damage is unavoidable. Researchers estimates that loss and damage costs India $5-6 billion each year. But on whom can the blame be pinned? Also, charitable contributions do not account for slow onset of damages over time. Low-lying island countries, forced to buy land elsewhere to shift populations, have no recourse to financial mechanisms to cover for long-ensuing costs.
Finally, there is risk and vulnerability. Globally, weather-related insurance losses have increased to $55 billion annually (five times higher than the 1980s). Uninsured losses are twice as much. Since 1990, India encountered nearly 300 extreme events (most, after 2005) with $79 billion in damages.
Facing rising, non-linear climate risks, insurance firms are struggling to calculate risks based on historical data. In 2015, Bank of England Governor, Mark Carney, argued that “tail risks of today” will be “catastrophic norms of the future”. A series of simultaneous shocks — cyclones, landslides, drought, crop losses — could overwhelm insurance firms. The Financial Stability Board identifies nine insurance firms as too big to fail. Yet Standard and Poor’s finds that the industry might be underestimating losses from extreme weather by 50%.
Liabilities will mount as firms are pressured to keep fossil fuel reserves “in the ground” rather than monetise them. Stranded assets could be worth tens of trillions of dollars over two decades. Liabilities are also arising from class action lawsuits against fossil fuel industries (more than 1,000 have been filed in 25 countries).
Some insurance majors are planning to phase-out coal-related risks; others are demanding more disclosure from firms about climate liabilities.
In India, vulnerability is not well measured. Most losses from natural disasters, thus far, have been uninsured. This disguises the damage, compared to if vulnerable communities had been covered. A range of risks could drive up insurance premiums globally, which would exclude the poor even further.
Vulnerability is not just exposure to physical harm from climate stresses but also the financial consequences of not having a safety net.
Crude distinctions between mitigation and adaptation are passé. Financing for resilience and coverage for loss and damage are missing. Climate liabilities can unravel insurance companies; climate vulnerability can undo progress in poverty alleviation. Without finance, there is no growth. When it comes to climate risks, however, finance remains conspicuous by its absence.