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21 September 2021updated 10 Nov 2021 8:07am

How FDI can drive forward climate action

The 13th UN Sustainable Development Goal is in some ways the most urgent – to combat climate change and its impact upon the world. How can FDI further the energy transition and play its part in this fight?

By Sofia Karadima

Taking urgent action to combat climate change and its impact upon the world, which is the UN’s 13th Sustainable Development Goal (SDG13), is now a pressing priority for many investors looking to expand or relocate their business in the post-pandemic world.

This comes as “human-induced climate change is already affecting many weather and climate extremes in every region across the globe”, according to a report published by the International Panel on Climate Change (IPCC) in August 2021.

News reports are filled with footage of fires and floods, as the impact of climate change becomes more apparent. (Photo by Angelos Tzortzinis/AFP via Getty Images)

Analysis by Investment Monitor, a sister publication to Energy Monitor, finds that 35.2% of countries around the world are considered to be ‘high risk’ when it comes to the impact of climate change, while 48.6% of countries face a ‘medium risk’, and 16.2% are in the ‘low-risk’ category.

More specifically, the Climate Change Risk Index 2021 finds that China faces the biggest climate-related challenges, with scores based on greenhouse gas (GHG) emissions, change in temperatures and the Environmental Performance Index (EPI).

How FDI can help

The IPCC report states that many of the climatic changes the world is facing are unprecedented, and some are irreversible, including the continued rise in sea levels. However, it also stresses there is still time to limit climate change. This could be done by strong and sustained reductions in emissions of carbon dioxide (CO2) and other GHGs, which would improve air quality and stabilise global temperatures over a 20–30-year period.

Foreign direct investment (FDI) has a role to play in limiting climate change by backing projects that reduce CO2 emissions, as well as green projects that promote sustainable development.

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Anna Para, assistant professor at SGH Warsaw School of Economics, says there is huge potential in investments supporting decarbonisation. “Reducing the carbon intensity of energy use is very important in central and eastern Europe," she says. "I believe that investments that reduce carbon intensity are set to positively impact on environmental, social and economic sectors. Supporting electromobility is an example of such investments, as it contributes to the reduction of air pollution."

Para stresses that such investments offer positive social effects, such as reducing the number of premature deaths in a city or country.

There are also economic benefits, according to Para. “Electric vehicles, and more specifically their batteries, can serve as distributed energy storage, which results in an efficient balancing of supply and demand in the electricity sector,” she says.

Para adds that there are also opportunities for decarbonising the construction and infrastructure sectors, as they are are among the biggest contributors to global carbon emissions. This can be done by implementing new technologies such as the internet of things to manage resources more efficiently and reduce their carbon footprint.

Other investment opportunities in the energy sector that could help to reach the targets of SDG13 include: biodiesel production plants, biofuel and ethanol production, and biomass energy; distributed community solar generation technology; energy storage and energy transmission infrastructure; and hybrid mini-grids.

Electric vehicles, and more specifically their batteries, can serve as distributed energy storage, which results in an efficient balancing of supply and demand in the electricity sector. Anna Para, SGH Warsaw School of Economics

How companies can help

"Climate change is a global problem, and capital allocation can play an important role in incentivising companies to improve their sustainability and long-term value," says Matthew Sekol, industry advisor within US capital markets at a technology company. "The more companies make this shift, the more impact we will see worldwide.

“When I look at each sector through the lens of the risks and opportunities, I believe all sectors could be improving," he says. "Climate change and social issues need to be embedded into a company, but this is tough due to no clear tie for these intangibles to financials. In other words, investment alone might not be enough. Capital markets firms need to consider actively engaging their investments and mentoring to help leaders connect the dots and drive change.

"I see technology and data playing crucial roles in surfacing insights, risks and opportunities that can help both corporates and capital markets firms make better decisions in this area. In my opinion, operational modernisation can go a long way when environmental, social and governance [ESG] factors are embedded into the organisation.”

Embedding climate change and social issues into its everyday operations should be a top priority for any company. One tool that can be used to achieve this is reporting on climate-related financial disclosures.

Research by EY reveals that reporting on climate-related financial disclosures varies by market, and the coverage and quality of this reporting is better where there is a regulatory requirement.

More specifically, the 2021 EY Global Climate Risk Disclosure Barometer states that "the most advanced reporting is in countries leading the way with strong climate disclosure regulations and clear policy signals. However, even in geographies less engaged in the climate debate, investor pressure has driven progress.”

On top of that, the report also adds that “sectors with the most significant exposure to transition risk generally scored higher for their disclosures”. Such sectors include finance, energy, manufacturing, telecommunications and technology, and transportation.

Accelerating climate action

“FDI can be considered as a way to accelerate the switch to a more sustainable future," is how Para at the SGH Warsaw School of Economics sees the role of foreign investment in reaching the SDG13 targets. She continues: "I strongly believe that FDI is one of the key factors in achieving the SDG goals. FDI generates most international capital flows to developing countries and contributes to the exchange of good practices and know-how.”

Covid-19 and climate change risk have shifted some boards and leadership teams to consider ESG issues broadly, but not all have integrated related changes into their operations. Matthew Sekol, advisor

However, the Covid-19 pandemic has impacted negatively FDI flows and the economic development of several areas. Data from the UN Conference on Trade and Development shows that global FDI flows dropped by 35% in 2020, to $1trn from $1.5trn in 2019.

This drop poses a threat for several countries, as it will slow down their economic growth, which in turn will make it tougher for them to achieve the SDG13 targets. However, despite the negative impact of Covid-19 on FDI, it has also presented a silver lining as the pandemic has pushed more investors to rethink their ESG strategies and to try to embrace responsible investing.

“Covid-19 and climate change risk have shifted some boards and leadership teams to consider ESG issues broadly, but not all have integrated related changes into their operations," says Sekol. "However, from a climate change action perspective, I don’t think we have done enough in this past year to move the needle forward, although capital allocation remains a strong motivator. Still, for those boards unaware of the broader trend, there remains a risk of inertia, keeping them in the status quo and resulting in little change.”

The fight against climate change, and achieving the targets of SDG13, present a number of challenges for investors, but also many opportunities. However, investors must put embracing climate action at the very core of their operations, if only to mitigate long-term risks and usher in sustainable development, regardless of the country or location they are based in.

The original version of this article appeared in our sister title Investment Monitor.

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