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Climate risk: What is its impact on business?

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When it comes to export transactions and international contracting, businesses are finding themselves under pressure to assess the impact that climate change will have on their business model.

19th Jan 2022
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For businesses, climate change is fast becoming both the biggest risk and largest commercial opportunity. 

Sales of adaptation goods and services such as flood protection and resilience measures, engineering, finance and insurance products and services geared to mitigating the impact of climate change have continued to grow in recent years. 

But compared to other countries such as Japan, France, Russia, USA, Italy, Brazil and Germany where the adaption has been strongest, many UK firms have yet to exploit and grasp the opportunities of diversifying into the arena where the development of new adaptation technology can have a positive impact on economic growth and new job creation.

“The consequences of climate change are raising country risk and impacting on export transactions and international trade. Transportation services are already under immense strain from the Covid-19 pandemic. These ‘roadblocks’ – both literal and figurative – affect productivity levels and ultimately, global trade volumes,” says Kevin Anthony, associate director at iResearch Services.

“Climate change has tangible impact, with rising sea levels and hazardous weather events including drought and heatwaves. These events can also damage livelihoods and communities, contributing to falling GDP per capita and creating added strain on unsustainable debt burdens.”

Economic impact

The Notre Dame Global Adaptation Initiative (ND-GAIN) maps the vulnerability (such as the consequences for food supply, access to water, health and living environment) and readiness (such as economic, business climate, political stability and quality of ICT infrastructure) to assess climate change and its impact on country risk of 182 countries from 1995 to the present day.

According to research by Swiss Re, the global economy could lose 10% of its total economic value by 2050 due to climate change, and as much as 18% of GDP could be wiped off the worldwide economy if global temperatures rise by 3.2°C.

But a new study by UCL researchers says that economists are substantially underestimating the cost of continued warming. Realistically it could be as much as six times higher, and by 2100 global GDP could be 37% lower.

There remains uncertainty about how much climate damages continue to affect long-term growth and as such researchers warn that the economic cost could be as high as 51% of global GDP.

Support for businesses to adapt

To help them adapt to climate change, emerging economies such as Africa, Latin America and the Asia-Pacific region are receiving support from various organisations such as the World Bank’s Adaptation and Resilience Action Plan that is supporting those in the agricultural sector with climate-smart solutions such as improved seeds and diversification of food production, and smart irrigation systems.

“Low-income countries are most vulnerable to climate change. These countries lack the financial resources and technology to increase their resilience and adapt to changing weather conditions. Though some countries are lagging, many of them, often helped by multilateral or bilateral partners, take measures for both the short and long term, thereby creating business opportunities,” says Berg Burger, senior economist at Atradius.

In South Africa for instance, the French company Mascara Renewable Water has partnered with a local company to build a solar powered desalination plant to convert sea water into fresh water, and Independent Energy B.V. a Netherlands-based company that exports to countries across Africa, the Middle East and South America is involved in creating solar energy systems.

“Climate change in the first place is a threat for most countries in the world, and especially the less wealthy ones in Africa, Latin America and the Asia-Pacific region,” says Burger and Zeilstra. “Internationally operating companies can benefit from the opportunities climate change creates and make a positive contribution to the climate adaptation initiatives of these countries.”

However, the global ‘climate policy gap’ between government pledges to cut carbon emissions and policies in place poses a significant regulatory risk for both financial and non-financial organisations.

“Governments and businesses are currently working to tackle climate change, but they are still playing catch up,” comments Anthony. “There is still a mountain of work to be done in order to create sustainable environments which will minimise country risk and mitigate risk to international trade.”

Environmental, Social and Governance

Environmental, Social and Governance (ESG) and the desire to ‘do good and do well’ is giving rating agencies the opportunity to consider the financial impact of climate change in credit and equity ratings.

Currently, Fitch Ratings is the only credit rating agency with an entity/transaction-specific approach to show sector and issuer level ESG credit risks. A recent study by Hermes Investment Management shows that corporates with the highest ESG scores tend to have the narrowest distribution of CDS spreads and are therefore more likely to avoid insolvency compared to companies with below average scores.

Banks play a major role in the transition to a net-zero economy. At Cop26’s Finance Day, the Chancellor announced plans for the UK to become the world’s first net-zero aligned financial centre.  

In the USA, a consortium of 19 banks including Bank of America, Wells Fargo & Co, and Royal Bank of Canada are developing stands to integrate climate risk management throughout their operations. 

“Whilst Cop26 can be referred to as a global ‘staging post’ – a gathering point for government, business and civil society to discuss the issue. We must hope it will also be a historical turning point,” says Dr Nick Murry FIEMA, head of sustainability and climate change at Asesoria Group.

“The challenge for all of us is to keep up the momentum and transition to net zero as quickly and equitably as possible.”

Adopt long term strategic thinking

When advising their clients, accountants need to stress the implications of climate change for their clients’ businesses helping them to create a scenario analysis whereby several possible futures for a business can be analysed and tested. 

This will help accountants encourage their clients to adopt longer-term strategic thinking about the risks and opportunities of climate change, and in turn guide them in creating an innovative future-proof business model.

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