Possibility to invest in Natural Capital is getting a lot of traction among academia, business, and policy. There are a number of research and policy initiatives currently implemented in Australia, many of which were presented at a recent Symposium in Sydney organised by the AARES NSW Branch. Due in part to these initiatives, investment community is expressing great interest in the possibility to invest in Natural Capital (NC) at scale, but there is currently no clear and established mechanism of how the value proposition (or revenue stream) will materialise from this investment. Put it differently, while there is willingness to invest in NC, there are no financial instruments that will enable investors to obtain return on their investment.
A lot of research, discussions, and practical action about investing in NC has been related to agriculture. While dealing with investment in NC in agriculture is challenging, there is the attenuating point that the investment in NC will bring long-term returns to the landowners that invest. In that sense, investment in NC in agriculture can demonstrate the value proposition required for investment. However, investing in NC in agriculture is considered small scale in the financial world. The discussions there are in terms of many billions of dollars of investments that will need to be invested at much larger scales than just in agriculture.
Attending the Symposium got me thinking about the type of financial instruments that could be suitable for NC investment, which reminded me of a workshop that I attended this June in Rimini, Italy on Green Bonds and Environmental Finance . I also did a bit of digging around and found this very nice article on the economics of Green Bonds.
This then led me thinking about the possibility of using Natural Capital Investment Bonds (NCIBs) as a financial instrument that can bridge the gap between the willingness to invest and the real-life opportunities to invest in NC, which currently exists in the finance world. Here, I give a brief and very coarse sketch of the possible mechanism of the NCIBs, and discuss the necessary institutional infrastructure that is needed to effectively facilitate their implementation.
So how could NCIBs work? One straightforward approach is for governments (e.g. Commonwealth and State governments) to start issuing NCIBs in much the same way as they issue sovereign debt bonds. A key distinguishing feature of NCIBs is that they will be very long-term, 30 or even up to 50 years, simply because any dividends from investment in NC will take relatively long time to materialise. Another feature is that NCIBs should make no coupon payments, i.e. no annual payments to holders. This implies that they will be purchased by investors at a sizable discount to their nominal or face value. The amount of the discount will be dependent on the perceived riskiness of the issuer, and on the integrity of the actual investment in NC that can be demonstrated by the issuer. This last point leads to the crucial element: all proceeds from the sale of the NCIBs should go to a central agency, perhaps called Natural Capital Investment Commission, which in case of Australia should be a commonwealth government agency. The role of the Commission will be to channel investment in natural capital improvement projects based on the principle of greatest long-term productivity gains for the Australian economy to be realised from these projects. So, the more convinced investors are that the projects in which the Commission invests will bring increased overall productivity of the economy over the long term due to improved NC, the lower the discount from the face value of the bonds they will require. In a way, investing in credible NC projects will ensure better returns on other investments over the long-term.
Of course, there are many, many details to be worked out, but it seems that harnessing the knowledge and experience we have with Green Bonds and applying them to the investment in Natural Capital is a good avenue to be explored. The mechanism of NCIBs discussed here is fundamentally a type of purpose-based intergenerational borrowing that will payoff over long term by ensuring that the productivity of the largest capital asset base on this planet – the Natural Capital – is maintained and enhanced. Investing now to ensure the viability of getting good returns on all investments in the future makes good sense!