Further reading: Climate change and emerging markets after Covid-19

As unprecedented stimulus has been pumped into the global economy, governments across the developed world have been announcing large ‘green recovery packages’ to accelerate the transition towards low carbon economies. But the countries most vulnerable to climate change and in most need of drastic action are those in emerging markets, according to a recent report, Climate change and emerging markets after Covid-19, by Pictet Asset Management and the Smith School of Enterprise and the Environment at the University of Oxford.

Using sophisticated modelling techniques, the Oxford researchers forecast that if current climate change policies are not made stricter, global average temperatures will be 2.8 degrees above pre-industrial levels by the end of the century. That’s well ahead of Paris Agreement’s central aim of keeping a global temperature rise this century well below 2 degrees celsius above pre-industrial levels.

The report goes on to predict what the economic impact of climate change could be across developing countries. The researchers predict that without climate action by both developed and developing economies, GDP per capita in countries in the tropics and sub-tropics, such as Brazil, India and Indonesia, could be up to 59 per cent lower than the baseline by 2100.

Indian agriculture looks particularly vulnerable, since around 70 per cent of rural Indian households depend on agriculture for their livelihoods. The research predicts that any 1°C increase in annual mean temperature would result in a 12.7 per cent reduction in agricultural yield in the average district and a 12.6 per cent reduction in the value of production. 

The report goes through what each of the major risks are for a number of emerging markets. It says global warming is dramatically changing rainfall patterns, and parts of China face a serious risk of increased flooding, while two thirds of Brazil’s land mass is set to be classed as ‘arid’ by  the end of the century. Meanwhile Mexico has extensive coastlines covered with critical infrastructure, which could be wrecked by rising sea levels. 

Worldwide energy demand is expected to increase by at least 50 per cent in 2050 relative to 2018, according to the US Energy Information Administration, much of which will be driven by China and India. Water scarcity is one of a number of problems that makes this a real challenge. 

Summary of the estimates for climate impacts across three plausible global warming scenarios

Source: Climate change and emerging markets after Covid-19

The need to invest in adapting to climate change

While governments are investing massively in rescuing and rebooting their economies in a climate friendly way, what  happens during this decade will be critical to whether we can avoid catastrophic climate change, the report says, adding that the effects of climate change on emerging economies will to a large extent be determined by their own actions.

Governments have an arsenal of low-carbon support policies that are labour intensive with relatively high economic multipliers. These include targeted grants, investment tax credits, currency hedging instruments, feed-in-tariffs and renewable energy auctions.

Private-sector investors, for their part, can take action to minimise their exposure to assets that are subject to the physical and transition risks of climate change, such as the decline in oil prices. Fossil fuel investors risk owning assets that are stranded by increasingly unfavourable economics, and it therefore makes sense to look for the new opportunities that green markets can provide.

Pictet's report says that investment is currently too heavily concentrated on climate change mitigation, comprising 93 per cent of total flows in 2017/2018, while investment focussed on how we can cope with the effects of climate change only made up only 5 per cent of flows. When it comes to the private sector, only 0.1 per cent of capital invested is focussed on adaptation.

Adaptation to climate change can take many forms. The report recommends more large infrastructure projects, such as dikes, to increase climate resilience at regional and systemic level. Small-scale investments in cooling could also prove extremely valuable as heatwaves become more frequent and modernisation of disaster insurance will be required to reduce the impact of climate change on livelihoods.

“This lack of interest in adaptation may mean that private assets are improperly defended, while hugely profitable opportunities may be missed,” the researchers explain. “In emerging economies, this lack of interest may be caused by many factors, such as the high cost of capital, the lack of access to capital for small and medium businesses, insufficient awareness about climate change and regulatory failures, such as the lack of property rights.” 

Overall, it is estimated that for every dollar invested in adapting to climate change, the returns could be $2 to $10.  The Global Commission on Adaptation estimates that investing $1.8 trillion globally in early warning systems, climate-resilient infrastructure, improved dryland agriculture, global mangrove protection and making water resources more resilient between 2020 and 2030 could generate $7.1 trillion in total net benefits.

The difficulty with prompting government and private enterprises to invest in scaling climate adaptation finance is that it tends to be cost saving in nature - which appears less attractive than revenue generating investments – and projects tend to have high upfront costs. 

And the world economy has a wider problem in the distribution of green financing. Most climate finance – 76 per cent of the tracked total – is still invested in the same country in which it is sourced, revealing a strong “domestic preference” among investors who understand local risks better.