Author : Nilanjan Ghosh

Expert Speak Terra Nova
Published on May 05, 2023
Despite the acknowledgement of the undeniable significance of climate adaptation at the highest of forums, nothing much has been done so far to ensure steady funds
Financing climate adaptation: How do we equate the social and the economic rates of return? It is now a stylised fact that adaptation is a crucial component of effective climate action policy. While this is a global imperative, it becomes even more important for the economies of the Global South, given that their call for a just transition by addressing the equity concerns of inclusivity and fairness will entail herculean efforts and resources. Despite the acknowledgement of this undeniable significance of climate adaptation at the highest of forums (e.g., Conference of Parties or COPs, or the United Nations Sustainable Development Groups), it needs constant reiteration at all levels. This reiteration becomes essential especially when one notes the predilections of financial institutions in placing their funds in favour of mitigation projects that mostly entail energy transition. Adaptation financing somehow faces the brunt of this bias.

Two imperatives for financing adaptation

There are two imperatives for financing adaptation projects. From an epistemological standpoint, one may be classified as “positive” in nature, while the other one is “normative”. The “positive” part is related to the social cost of carbon. The social cost of carbon (SCC) is based on the marginal cost principle of neoclassical economics and provides an estimate of the monetary value of the damage imposed on the society and economy by the emission of an additional ton of carbon. Therefore, the SCC also provides an estimate of the benefit of cutting off an additional ton of carbon from the atmosphere. Mitigation projects like those of energy transition (e.g., adoption of EVs) reduce the carbon from the atmosphere, thereby helping society not to incur the social cost. On the other hand, adaptation projects do not address the concern of carbon but help reduce the social cost of carbon without even cutting off atmospheric carbon. This brings us to the second point which is more “normative” in nature from an ethical perspective. Large components of the Global South are historical victims of the unbridled and unsustainable consumption growth of the Global North. The former needs time for their “just transition” and various nations across the globe have set their “net-zero” targets. However, in the intervening period, the Global South needs to adapt to the unenviable changes brought to their lives and livelihoods by climate change. How else can one create resilient communities under such dire situations? This makes adaptation a bigger imperative for the Global South as compared to the Global North.
The Global South needs to adapt to the unenviable changes brought to their lives and livelihoods by climate change.

Adaptation financing blues

There are multiple reasons why adaptation projects have historically found much less traction among the financing community as compared to mitigation activities. First, returns on investments for mitigation projects are perceptible in the short run, while the same is often not applicable for adaptation projects. Second, the “public goods” nature of adaptation projects inhibits flows of private sector finance. Third, there remains the problem of identifying the right sectors to finance adaptation efforts, due to a lack of empathy for the on-ground adaptation efforts across society. Though regulatory and governmental policy interventions could have helped, there is hardly much policy initiative that can incentivise or make funds flow in this direction. Fourth, adaptation projects are often not understood properly, due to their complex nature. Unlike mitigation, which often involves relatively straightforward measures such as switching to renewable energy, adaptation projects are often more complex and require a more nuanced approach. For example, adaptation measures like “strategic retreat” entail understanding the community characteristics, counselling, capacity building and reskilling, infrastructure development, industrial development, service sector development, job creation, etc., and can even face opposition from the community itself. However, the risks of not financing climate adaptation are not just limited to the present but extend to the future. The traditional financing mindset often fails to take into account the social and environmental costs associated with climate change, such as increased risks to public health and safety, damage to infrastructure and property, and impacts on ecosystems and biodiversity that increase the SCC. These costs can have significant economic and social impacts, yet they are often not factored into investment decisions. Failure to invest in adaptation measures can also have significant long-term economic impacts, including reduced agricultural productivity and damage to infrastructure. In addition, climate change can lead to the displacement of communities, as rising sea levels and other impacts force people to relocate. Further, climate change has been causing irreparable damage to the ecosystem structures, functions and eventually to the ecosystem services on which large populace in the developing and the underdeveloped world are dependent. Their concerns cannot be addressed by mitigation efforts, but their resilience needs to be improved to combat such adverse forces. Without adequate investment in adaptation measures, these economic and social costs can be significant and difficult to quantify.
The traditional financing mindset often fails to take into account the social and environmental costs associated with climate change, such as increased risks to public health and safety, damage to infrastructure and property, and impacts on ecosystems and biodiversity that increase the SCC.

Where do we need the changes to happen?

To address these challenges, a shift in mindset is needed. This shift involves recognising that financing climate adaptation is not just a moral imperative, but also a smart investment. Investing in adaptation can generate significant economic benefits, such as reduced losses from natural disasters, increased agricultural productivity, and improved public health outcomes, as also addressing crucial equity concerns like poverty. Those who are most vulnerable to the impacts of climate change are often the least able to finance adaptation efforts. This means that to meet the cause of distributive justice, there is a need for adaptation financing to be targeted to create capacity and resilience for those who need them most. This implies that the myopic short-term economic rates of return are not going to work here. As such, private sector and financial institutions which are more concerned with their bottom lines and meeting their fiduciary requirements cannot be enticed to pay in this adaptation financing game, unless they are incentivised or mandated by governments or regulators. The social rate of return on a long-term planning horizon needs to be looked at here, while banks and the private sector are looking at the short-term returns on investments. The fact remains that there is indeed a business case for adaptation if one takes up the long-term planning horizon and the social returns. According to the Global Commission on Adaptation, investing US$ 1.8 trillion in climate adaptation measures over the next decade could generate US$ 7.1 trillion in total net benefits. This includes benefits such as reduced losses from natural disasters, increased crop yields, and improved public health.
Private sector and financial institutions which are more concerned with their bottom lines and meeting their fiduciary requirements cannot be enticed to pay in this adaptation financing game, unless they are incentivised or mandated by governments or regulators.
The big question is: how and under what circumstances the social and the economic rates of return be equated? This can happen with: a) making it mandatory for the private sector to place part of their Corporate Social Responsibilty (CSR) spending portfolios in adaptation financing; b> creating incentives for financial institutions and/ or private players by offering tax holidays on the amount of and the return on adaptation funding.

Conclusion

Adaptation needs various types of institutions and instruments. While green bonds, climate insurance, impact investing, weather derivatives, etc. are in vogue, there are innovative mechanisms like water futures markets in the western US. These mechanisms have the potential to unlock significant private-sector funding for adaptation. It is also important to recognise that adaptation efforts are not a one-size-fits-all solution. Different regions and communities face different challenges and require tailored approaches to adaptation. This means that there is a need for increased collaboration and coordination between different actors, including governments, private sector investors, and local communities.
Nilanjan Ghosh heads the Centre for New Economic Diplomacy (CNED) and Kolkata Centre at the Observer Research Foundation (ORF). 
The views expressed above belong to the author(s). ORF research and analyses now available on Telegram! Click here to access our curated content — blogs, longforms and interviews.

Author

Nilanjan Ghosh

Nilanjan Ghosh

Dr Nilanjan Ghosh is a Director at the Observer Research Foundation (ORF) in India, where he leads the Centre for New Economic Diplomacy (CNED) and ...

Read More +