The previous post provided details on the most common types of climate financing: adaptation and mitigation. The definition of climate change mitigation is the promotion of “efforts to reduce or limit greenhouse gas (GHG) emissions or enhance GHG sequestration”. This includes improving energy efficiency, switching to renewable energy equipment, avoiding loss of soil carbon through erosion control measures, and reducing non-CO2 GHG emissions from agricultural and animal husbandry activities.
The general definition of climate change adaptation is “addressing current and expected effects of climate change”. Adaptation can include protecting a physical asset (including a home) against a natural disaster, such as storms and floods. However, most of the deeper work on adaptation is applied to agriculture. Building resilience against climate change in agriculture can involve managing water resources, drought-resistant farming practices, increasing soil fertility, crop insurance, and diversifying farm household income. Another key area is climate-smart agriculture, which includes conservation agriculture, access to climate information, agroforestry systems, drip irrigation, planting pits, and erosion control techniques. Compared to mitigation finance, adaptation finance is more challenging because the impact is difficult to measure and monitor.
There are other types of climate financing that are important from the perspective of environmental protection, but are less relevant for smallholder farmers and micro-entrepreneurs, namely protecting biodiversity, promoting circular practices, and pollution prevention.
Protecting biodiversity
Biodiversity finance refers to expenditures that contribute––or intend to contribute––to the conservation, sustainable use, and restoration of biodiversity. However, like adaptation finance, there is as yet no internationally harmonized approach for assessing and tracking biodiversity finance.
Conservation and restoration are usually financed by public sector organizations, NGOs, and philanthropic foundations because such funding rarely provides a return on investment. However, business and financial organizations both depend on and in turn impact biodiversity. Furthermore, private businesses and households own or lease large areas of land. The private sector, therefore, has a fundamental role in managing and financing biodiversity.
According to the Organization for Economic Cooperation and Development (OECD), private sector spending on biodiversity encompasses biodiversity offsets, sustainable commodities, forest carbon finance, payments for ecosystem services, water quality trading and offsets.
Other than buying offsets, the most common biodiversity financing initiatives link conservation with diverse commercial revenue streams, such as tourism projects and sustainable agriculture. However, since it is often difficult for conservation and tourism alone to sustain a community, investments in other economic activities are crucial to meeting ecological goals. Empowering them to sustain themselves while caring for land and wildlife is crucial to successful conservation.
Another approach to promoting biodiversity and eco-systems is by reducing emissions from deforestation and forest degradation (known by the acronym REDD+), which has been included in the United Nations Framework Convention on Climate Change (UNFCCC) since 2005. It has the objective of mitigating climate change through reducing net emissions of greenhouse gases through enhanced forest management.
Under the REDD+ framework, there are five eligible activities:
- Reducing emissions from deforestation
- Reducing emissions from forest degradation
- Conservation of forest carbon stocks
- Sustainable management of forests
- Enhancement of forest carbon stocks
In practice, what this means for financial institutions is that loans for agro-forestry or alternative livelihoods that either maintain existing forest cover or reduce the trend in deforestation are considered green finance. There is no need to introduce new technologies (solar, biogas, no-till agriculture, etc.), but simply ensure that people living in or near forests and whose current livelihoods involve clearing forests switch to another source of income. Given that protecting forests at scale requires significant investment, the potential business for financial institutions is large. If forest protection can be certified, financial institutions can earn carbon credits that can be sold––an extra source of income for them.
Promoting circular practices
It is estimated that energy efficiency and switching to renewable energy will only address 55% of global greenhouse gas (GHG) emissions. Circular practices can reduce a significant proportion of the remaining 45% of GHGs. For example, circulating products and materials––instead of producing new ones––can help cut energy demand, by maintaining the energy that went into making them. In agriculture, adopting circular principles is an effective way to sequester carbon in the soil.
Circular practices include:
- Designing out waste and pollution to reduce GHG emissions across the value chain
- Keeping products and materials in use to retain the energy embodied within them
- Regenerating natural systems to sequester carbon in soil and products
More specifically, the European Union has created a categorization system for circular economy activities that can require financing: (a) Circular Product Design and Production Models that increase resource efficiency, durability, functionality, modularity, upgradability, easy disassembly and repair; (b) Circular Use Models such as the reuse, repair, refurbishing, repurposing of remanufacturing of end-of-life or redundant products, movable assets and their components that would otherwise be discarded; and (c) Circular Value Recovery Models which collect and recover materials from waste in preparation for circular value retention.
Pollution prevention
Pollution prevention (P2) is any practice that reduces, eliminates, or prevents pollution at its source. Also known as “source reduction,” P2 can be practiced by modifying equipment and production processes, promoting the use of nontoxic or less toxic substances, implementing conservation techniques, and reusing materials rather than putting them into the waste stream.
Key areas of P2 include:
- Water use and treatment, including sanitary water, process water, and boiler water use
- Solid waste streams from production, maintenance, office areas, and warehousing
- Hazardous waste streams from production and maintenance departments
- Energy use; focusing particularly on lighting, HVAC systems, compressed air systems, and steam systems
Strategies that are applied to prevent pollution which may require financing include:
- Increasing energy efficiency / energy conservation
- Reducing water and chemical inputs
- Modifying processes or equipment to produce less waste
- Using non-toxic or less toxic chemicals as cleaners, solvents, etc.
- Improved, ongoing employee P2 training
- Recovering material inputs for reuse within the process (energy, water, waste)
- Improved maintenance and housekeeping procedures, including preventative maintenance
- Material tracking and inventory control
Although this long list may appear to give financial institutions a broad array of opportunities to increase their pipeline, it is not as easy as it sounds. This kind of lending differs from conventional lending in one important way: whereas normal investment or working capital loans can be used for a wide variety of purposes, the usage of green loans must be directed toward specific technologies. These technologies must be appropriate for the context, available, accessible, affordable, and accepted by clients. This means that effective green lending requires more than a well-designed product––at a minimum, it requires partnerships (with technology providers), promotional schemes, and monitoring tools that are significantly more advanced than for regular loans.