Adaptation and resilience investment: How do we get the capital it needs

This article is brought to you thanks to the collaboration of The European Sting with the World Economic Forum.

Author: Rania Al-Mashat, Minister of International Cooperation, Egypt, Gim Huay Neo, Managing Director, World Economic Forum, Jyotsna Puri, Associate Vice-President, Strategy and Knowledge Department, International Fund for Agricultural Development (IFAD), Jonathan Phillips, Director, James E. Rogers Energy Access Project, Duke University

• Over $200 billion is required annually to meet adaptation and resilience investment targets in sectors such as water, energy, agriculture and early-warning systems – three times current funding.
• Investing in adaptation and resilience reduces exposure to climate risks and yields financial benefits for all stakeholders.
• Accurate measurement and monetization of resilience are essential to creating market-based financial instruments such as resilience credits.

More than $200 billion is needed annually for adaptation and resilience investments in water and energy systems, agriculture improvements and early-warning systems. This is set to rise if the 1.5 degree Celsius threshold is breached.

Yet, today, adaptation and resilience investments are less than one-third of the level needed, with public budgets contributing 98% of total investment. And private capital, constituting most global capital reserves, is not flowing into relevant projects and companies, particularly those serving the most climate-vulnerable in developing countries.

A more climate-proof economy is undoubtedly less risky and more profitable for all stakeholders, including private enterprises. Mobilizing the capital needed to build more resilient economies, especially across the Global South, starts with measuring impact and demonstrating the value enhanced resilience provides investors, governments, farmers and other stakeholders.

Just as carbon measurement and monetization underpin capital mobilization for climate mitigation, a similar sustained focus is needed to understand better adaptation and resilience investment impacts and project financing pathways.

Prospects of adaptation and resilience investment

Private investors have at least two main reasons to invest in adaptation and resilience. Firstly, effective investments in these areas reduce exposure to climate-related disruptions in supply chains, improve labour productivity and lower operational costs. These positive impacts translate into higher credit ratings, access to lower-cost capital and increased profitability.

Secondly, many private entities recognize the long-term value of responsible investing, particularly for climate justice. Between 2021 and 2026, institutional investment in environmental, social and governance projects is projected to grow by 84%, reaching $34 trillion and representing over a fifth of assets under management. Therefore, resilience could be an attractive proposition for many investors if these investments were as accessible as mitigation projects.

Against this background, the Egyptian Ministry of International Cooperation, the International Fund for Agriculture and Development and Duke University, together with the NDC Partnership and the World Economic Forum, launched the “Resilience Monetization and Credit Initiative,” which was first introduced in the Sharm El Sheikh Guidebook for Just Financing, a 2022 United Nations Climate Change Conference (COP27) Presidency Initiative, aiming to address three key challenges in building the adaptation and resilience market:

• Measuring resilience.
• Valuing or monetizing resilience.
• Establishing a market-based financial instrument.

Different actors value resilience differently

Efforts to measure resilience are gaining traction but the harder challenge of valuing resilience so that investment aligns with supply and demand has received less attention. However, governments, consumers and businesses could potentially indicate how much economic and social value these investments in resilience hold for them or broader society.

The effectiveness of the investment tool depends on the measurability of resilience benefits. So, monetizing resilience requires pricing a future dividend based on expected yet uncertain future shocks and resulting damages.

While climate-related shocks and stresses will always be unpredictable, knowing which interventions will help communities and people withstand and recover from those events is predictable. Investing in those measures will reduce risk. More precise measurements of these interventions and impacts instill investor confidence by ensuring value for investment.

Resilience is also context-specific, making it difficult to assign a clear market value. Resilience will thus represent different values for different players in the market.

The case of agriculture

In the agriculture sector, for example, farmers are highly vulnerable to natural (droughts, plagues etc.) and economic shocks (e.g. price spikes or collapses). They may be willing to invest in resilience to help reduce their vulnerabilities but limited resources and competing needs remain barriers.

Affordable loans are hard to access and more information is needed regarding a suitable and effective investment in resilience and expected outcomes. Together, these barriers disincentivize investment. Rapidly changing climate patterns are also changing the goalposts on risks and exposures. These developments compound challenges to understanding small-holder farmers’ true valuations for resilience.

Moreover, local financial institutions view resilience differently. They may not be able to issue loans due to the high risks of default among this class of borrowers, especially given their vulnerabilities. Lenders need a risk-mitigation mechanism to encourage them to lend money to farmers.

Valuing resilience for lenders can be measured through potential profits from interest on future loans. If farmers can invest in successful resilience-building, their risk of default should decline over time and the bank could issue new loans.

As the COVID-19 pandemic made clear, disruptive effects of shocks can percolate and destabilize entire systems when resilience is low, multiplying costs. Consequently, governments and public policymakers should adopt a holistic view incorporating positive social impact – communities and economies with more resilient agents will ultimately work better.

Reconciling differing resilience values

Within this stakeholder ecosystem, valuation can take several approaches.

The most appealing and scalable is to observe a market price for resilience credits according to investor demand for and uptake of opportunities. However, experiences from the carbon and other markets suggest that over-reliance on market forces can hinder growth. Information gaps, risks, unpriced externalities or knock-on effects necessitate a more nuanced approach.

To that end, valuing outcomes would help catalyze additional incentives to the marketplace. For example, price floors or default guarantees could be portfolio subsidies to encourage investment in this area. Valuation should include financial benefits to specific stakeholders, such as farmers’ increased income or lenders’ higher profits, as well as non-financial social returns, such as health and human capital improvements. Together, they would form a holistic social cost-benefit analysis.

While methods for valuing benefits outside of conventional markets have a long history in environmental economics and can theoretically be used to value some of the positive outcomes of resilience, those values will likely vary across regions, populations, intervention types and other variables. Performing a detailed cost-benefit analysis for every potential investment becomes impractical.

Practical implementation

A pragmatic approach involves supporting a framework that correlates the factors influencing the value of different resilience interventions, leveraging existing and new data sources.

This systemic analysis can provide insights into the average value of specific investments and help understand their varying outcomes, illuminating their upside and downside potential. Scenario modelling with different levels of resilience would complement this approach.

In line with this monetization strategy, in 2024, there is a plan to pilot specific measurement and valuation tools on real-world projects and introduce the idea of resilience credits into policy frameworks of global climate finance discussions. The benefits would be multi-fold:

• A new asset class and tradable credit aligning public and private capital.
• Enhanced resilience in climate-vulnerable communities.
• A comparison and prioritization mechanism for investments in different contexts.
• Adequate measurement of co-benefits, supporting a price premium for carbon projects that deliver on sustainable development goals.
• Informed and motivated end-consumers interested in climate justice.
• Better policy development.
• Bridged funding gap for climate change adaptation in developing countries.
• Double the available capital for adaptation by mobilizing the private sector.

Investors, development partners and governments are increasingly prioritizing adaptation and resilience investment goals. The rising involvement in adaptation investment working groups highlights the urgency of building a climate safety net in boardrooms.

The next critical step is to consolidate investor interest to enhance measurement and monetization, which will fast-track the creation of resilience credits and other innovative, data-driven investment models.