The urgency with which we need to restore the natural environment has never been greater. Neither has the cost of not doing so. Nature faces additional pressures from climate change but also offers solutions. It can sequester carbon, reduce flood risk and improve water quality. If investors were to pay for benefits like these, more money could be raised for nature. At Esmée Fairbairn Foundation we are keen to explore the potential of this kind of investment and to consider some of the specific challenges it brings.
The Government recognised the need for a mix of public and private funding and financing for projects that protect and enhance nature in its 25 Year Plan for the Environment. It subsequently announced a £10 million Natural Environment Impact Fund, aiming to stimulate private investment. At the same time Esmée Fairbairn Foundation commissioned Environmental Finance and Ecosystem Knowledge Network to review the state of emerging funding opportunities for the natural environment. The review showed that impact investment to deliver environmental outcomes is still in a development phase in the UK but has considerable potential.
Esmée Fairbairn Foundation is best known for making grants, but we have a strong track record as an impact-led social investor. Our budget for grant making is linked to the performance of our endowment but if we can recycle funds then our impact could be greater. We are also looking at how we manage the endowment itself to leverage our position as an investor in influencing corporate behaviour and investing in businesses aligned with our own mission.
I will use the rest of this blog to briefly explore some of the questions that the application of investment finance might raise.
Is public policy supporting the solution or part of the problem?
Poorly designed policy, even if well intentioned, can cause environmental harm. Examples include the tax breaks that drove afforestation of peatlands in the 1970s and 80s or the rules on eligibility of land under the Basic Payment Scheme that discouraged farmers from establishing woodland or wetland. Policy changes, intended to support private sector investment in environmental restoration, might have similar unintended consequences, but this risk can be minimised through a collaborative approach to policy design.
What is the role of rules and regulations?
Private investment in environmental outcomes does not replace the need for well-designed, consistently enforced regulation, rather it depends on it. In England, water companies provide most of the current private sector investment in the environment. Ofwat, the regulator responsible for approving company spending plans, should be confident that customers are not asked to pay for improvements that would be addressed through compliance with existing rules. Similarly, approaches to offsetting should be applied through a consistent framework that is evidence-based and avoids greenwashing or double-counting.
Is the solution consistent with the environmental principles?
The environmental principles, such as that the polluter should pay, influence the way in which environmental legislation is applied. They help to ensure not only that policy is effective but that it is fair. Approaches that depend on investment finance will often work on the principle that the beneficiary should pay. In the case of a flood benefit, this might enable an upstream landowner to fund interventions that reduce downstream flood risk through a charge on businesses that benefit from the avoided costs. That might seem reasonable, but if a landowner is undertaking activities that increase downstream flood risk and those homes and businesses pay to provide compensatory flood protection, then that is unfair. The latter case would run counter to the ‘polluter pays’ principle. There might be reasons to apply funding solutions that are not consistent with the principles,but they provide a starting point if costs are to be distributed in the fairest way possible.
Does the solution support the delivery of ‘public goods’?
We are experiencing a catastrophic decline in the state of the natural world and yet the benefits of restoring nature cannot be valued in the same way as reduced flood risk or cleaner drinking water. As such, if investment decisions are made purely on expectation of financial returns or avoided costs, benefits to nature are likely to be incidental. Maintaining free access to nature provides a similar challenge. It might be possible to restore a wetland and cover upfront costs by charging those who subsequently visit but in doing so you restrict access to those who can pay. Of course, if the alternative is that the wetland never gets restored then the decision to charge might be the right one, but we should be aware that funding projects that way comes with a cost and that should not always fall to those most easily excluded.
Our review showed that there are exciting opportunities to engage investors in environmental outcomes. If we maintain a focus on impact, rather than on structures designed to maximise financial returns, then we attract investors motivated by that impact. What is more, private investment will not work if it is seen as an alternative to an ambitious grants programme or to regulation, rather the exciting opportunities for holistic restoration of the natural world will depend on the creative application of all three.
Philanthropic funders can focus on impact and support the organisations and communities with ideas, ensuring that they have access to the technical assistance they need. They can fund proof of concept models and exemplars. Finally, they can use their financial resources strategically, to catalyse a greater range of capital. Investment finance must not be the only tool we use but it should certainly take its place in the toolbox.
Simon Wightman is Funding Manager at the Esmee Fairbarn Foundation.
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