A new report examines the externalized costs that companies place on global society, looking at major environmental sectors such as water use and greenhouse gas emissions. Incorporating this “natural capital” into the global economy could revolutionize environmental mitigation and climate adaptation.
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The environment is a public good. We all share and depend on clean water, a stable atmosphere, and abundant biodiversity for survival, not to mention health and societal well-being. But under our current global economy, industries can often destroy and pollute the environment—degrading public health and communities—without paying adequate compensation to the public good. Economists call this process “externalizing costs,” i.e. the cost of environmental degradation in many cases is borne by society, instead of the companies that cause it. A new report from TEEB (The Economics of Ecosystems and Biodiversity), conducted by Trucost, highlights the scale of the problem: unpriced natural capital (i.e. that which is not taken into account by the global market) was worth $7.3 trillion in 2009, equal to 13 percent of that year’s global economic output. In other words, under our current economic system companies are forcing global society, their governments, and future generations to pick up a $7.3 trillion tab, and that was just in 2009. Just as importantly, the study found that none of the “high impact” industries would be profitable if they accounted for their natural capital.
The study, entitled Natural Capital at Risk: the Top 100 Externalities of Business, incorporates six major environmental impacts (land use, water consumption, greenhouse gas emissions, air pollution, land and water pollution, and waster) in 500 business sectors across the world. Of these, greenhouse gas emissions are the elephant in the room: accounting for 38 percent of the world’s unpriced natural capital. Water use and land use account for nearly a quarter each (25 percent and 24 percent respectively), while air pollution represents 7 percent, land and water pollution 5 percent, and waste 1 percent. But even the smaller percentages are still sizable: for example, land and water pollution cost global society $300 billion in 2009, while land use (such as deforestation and ecosystem loss) was valued at $1.8 trillion.
According to the report the five least sustainable industries (i.e. those that pay least for the natural capital they impact) are coal power in Eastern Asia (number one) and in North America (number three), cattle ranching in South America (number two), wheat farming in Southern Asia (number four), and rice farming in Southern Asia (five). Wheat and rice farming rises to the top due to their high consumption of water sources, while cattle ranching is leading to rainforest destruction, and coal energy is the worst in terms of carbon emissions.
“These sectors appear most frequently in the top 20 ranking of sectors on total costs from natural resource use, pollution and waste in different regions,” the authors note.
In fact, the report found that none of the industries in the top twenty would be profitable if environmental impacts were paid for.
“Average pre-tax profit margins for companies listed in the MSCI World Index before natural capital costs are included were found to range from 7 percent for iron and steel manufacturing, to 19 percent for crude petroleum and natural gas extraction. After natural capital costs are included, the range is -67 percent for cement manufacturing to -1 percent for crude oil petroleum and natural gas extraction,” the authors write.
While energy is the obvious major player in environmental degradation, the authors note that agriculture plays a major, often overlooked, role. Of the top 20 most highly-ranked sectors over all environmental impacts, half are related to agriculture.
“The extent to which agricultural sectors globally do not generate enough revenue to cover their environmental damage is particularly striking from a risk perspective,” the authors note. “Reducing damage from cattle ranching and crop production, for example, would help mitigate risk from volatile input costs. Severe price fluctuations make critical commodities unaffordable, slow growth, provoke public protest and increase geopolitical tension. However, the sector can adopt an ecosystems approach to increase resilience to adapt to climate change impacts, while reducing greenhouse gas emissions.”
Cattle ranching in South America, particularly by chopping down rainforests, is seen as agriculture’s most problematic industry. While the industry took in $16.6 billion in revenue in 2009, it ate up natural capital worth a shocking $353.8 billion or over 1,800 percent of its revenue.
“Due to both magnitude of land use for cattle ranching in Brazil, and the high value of ecosystem services of the virgin land used, the impact of cattle ranching in South America is especially significant (17% of global land use costs),” the authors write. While Brazil has taken recent steps, many of them successful, to counter deforestation, the Amazon continues to shrink.
Although palm oil production is not at the top of the list (number 64 overall), the authors signal out the industry due to its “comparatively large impact…given the relatively small area of land used.”
Palm oil, they write, “is driving forest clearance in the tropics, one of the most diverse terrestrial ecosystems and an important carbon stock.” For its part, palm oil cost $20.5 billion in natural capital in 2009, but only made $8.7 billion.
In addition to agriculture and energy, other industries that fall in the top 20 include iron and steel mills and cement manufacturing, both which produce hefty greenhouse gas emissions; water supply in Southern Asia, Western Asia, and Northern Africa also fall into the top 20 (numbers 10, 15, and 18 respectively); while global fishing is listed as number 16 on the study, devouring natural capital worth $80 billion that year.
Surprisingly, logging is not seen as hugely problematic compared to other industries (logging in Eastern Asia is number 61), but largely because as the author’s admit, “the analysis only covers legal logging, most of which is of planted areas that are estimated to continue to provide some ecosystem services.” They note that worldwide “logging is responsible for only 14% of deforestation, while commercial agriculture is responsible for 32% and subsistence farming 42%. In Brazil, 70% of deforestation is due to livestock production.”
Incorporating natural capital in to the global economy would bring about an economic—and environmental—revolution. Some industries, such as coal, would likely be shelved altogether given that even company’s large profits cannot pay for their massive impact on the climate, not to mention air and water quality. While other industries would have to adapt and change: agriculture, in particular, would need to innovate to grow food with a smaller environmental footprint.
“The risk to agricultural commodity prices is particularly striking, where the natural capital cost is universally higher than the revenue of the sectors,” the authors write. “However, within sectors, there is significant variation between countries based on energy mix, yields (impacting land use), fertilizer and irrigation rates.”
But if the global economy took natural capital into account who would pay the higher prices? ”If unpriced natural capital costs are internalized, a large proportion would have to be passed on to consumers,” the authors write.
However, it must be remembered that ignoring the cost of natural capital doesn’t make it go away, these costs are already being paid by global society and will continue to be paid by future generations. Adding natural capital into the marketplace would shift the burden from those impacted by environmental damage to those consuming the goods. Such a change would mean industries would have to find more sustainable ways of doing business in order to become profitable. There would be new winners and losers like all shifts in economics, but now there would be a real impetus in the market for a sustainable economy, a shift that has not occurred yet despite the hype. As climate change worsens and ecological destruction continues to widen, the costs on society will only widen and deepen.
“As the recent U.S. drought shows, these impacts are likely to be increasingly internalized to producers and consumers through environmental events,” the authors write. “Therefore those companies that align business models with the sustainable use of natural capital on which they depend should achieve competitive advantage from greater resilience, reduced costs and improved security of supply.”