## Embedded in Nature: Nature-Related Economic and Financial Risks and Policy Considerations (clnea2024002) ## Source details **Canonical URL:** [Embedded in Nature: Nature-Related Economic and Financial Risks and Policy Considerations (clnea2024002)](https://www.imf.org/-/media/files/publications/staff-climate-notes/2024/english/clnea2024002.pdf) ## Other formats - [Markdown version](/-/media/files/publications/staff-climate-notes/2024/english/clnea2024002.pdf.md) - [Structured JSON version](/-/media/files/publications/staff-climate-notes/2024/english/clnea2024002.pdf.json) --- ### Key messages and framing - Nature’s continued degradation calls for system-wide changes in the global economy. - Biophysical stress and policy changes to address it could have implications for macroeconomic and financial stability. - Policy frameworks in advanced, emerging, and developing economies need to evolve to embrace environmental sustainability. - Economy embedded in nature; nature defined to emphasize biodiversity, ecosystems, ecosystem structure and functioning, the evolutionary process, the biosphere, living natural resources, shared evolutionary heritage, and biocultural diversity (Díaz and others 2015). - The world faces a “planetary crisis” characterized by the triple emergency of climate change, biodiversity loss, and pollution (Robinson and others 2023). ### Planetary boundaries, biodiversity loss, and magnitude - Out of nine planetary boundaries, six have been crossed: biosphere integrity, climate change, land system change, biochemical flows (nitrogen and phosphorus), freshwater, and novel entities (Steffen and others 2015; Richardson and others 2023). - Biodiversity decline: a documented sixth great biological extinction since life began about 3.7 billion years ago (Kolbert 2014; IPBES 2019; Dasgupta 2021). - Extractive land-use change accounts for over 90 percent of biodiversity loss and water stress (Oberle and others 2019; UNEP 2024a). - Global Biodiversity Framework (GBF) adopted in 2022 after failure to meet 20 Aichi Biodiversity Targets for 2011–20 (UNCBD 2022). ### Nature–Climate nexus and distinct risk features - Climate change and nature loss are bidirectionally linked; cascading effects and feedbacks can accelerate both processes (example: forests and soils absorbed 1.5–2.6 Gt of CO2 in 2023, down from 9.5 Gt in 2022 due to poor forest and soil health) (Ke and others 2024). - Nature-related risks differ from climate risks: - Can be more acute (major tipping points may be crossed sooner). - Quantification is more challenging due to multidimensionality. - Uncertainty is higher—biosphere processes, Earth system dynamics, sectoral dependence, socioeconomic consequences. - Require deeper understanding of local patterns. ### Conceptual macroeconomic and macro‑financial framework - Four capital types: nature, social, produced, and human; links to flows and production sustainability states: sustainable, unsustainable, irreversible collapse (based on Dasgupta Review). - Categories of nature-related risks: - Physical: ecosystem service degradation and nature shocks. - Transition: policy and market adjustments. - Litigation: compliance, legal costs, liability. - Institutional: governance and trust changes. - Additional systemic threat: “Derailment” — Earth system instability reducing capability for stabilization and diverting policy action. ### Real economy and fiscal channels - Real-sector impacts via labor, capital, and productivity; examples: - Mangrove degradation: average mangrove protection regions experience cumulative growth rate drops of 6.1 to 8.2 percent post-storm, versus 2.6 to 5.5 percent in well-sheltered regions (Hochard, Hamilton, and Barbier 2019). - Biodiversity loss (loss of pest control by bats) linked to higher insecticide use and increased infant mortality from internal causes (Frank 2024). - Productivity: pollution and degraded ecosystem services depress natural capital and labor productivity (Hanna and Oliva 2015; Chang and others 2019). - Supply chains: damaged infrastructure and amplified natural disasters disrupt agriculture, energy, technology, manufacturing, mining, utilities, timber. - Fiscal impacts: - Tourism dependency example: global receipts from visits to protected natural areas represented 8 percent of the tourism market in 2015 (Balmford, Green, Phalan 2015). - Harmful subsidies reallocation and insurance limitations discussed; adaptive climate investments may inadvertently harm ecosystems (seawalls, intensive irrigation). - Debt and external sector: - Fiscal pressures and weaker growth can raise debt-to-GDP ratios and sovereign debt premia. - Example: 2010–12 droughts in China, Russia, Ukraine doubled wheat prices and affected terms of trade (Sternberg 2012, NGFS 2023a). - Inflation and food security: - Provisioning service shifts impact inflation via food and commodity shortages; droughts and floods drive global food price fluctuations (Weber and others 2024). ### Macroeconomic magnitude: estimates, caveats, and uncertainty - Modeling limitations lead to conservative GDP-impact estimates: - Ranger and others (2023): water-related risks dominate at 7 to 16 percent of GDP; effects on pollination, air, and water quality about 1 to 3 percent of GDP (value of nature at risk for five ecosystem services). - Johnson and others (2021): partial collapses in three ecosystems estimate an annual loss equivalent to 2.3 percent of global GDP by 2030. - Impacts larger in low-income and lower-middle income countries: drop in GDP expected to reach up to 10 percent in 2030. - Caveats: estimates often consider only subsets of services, assume substitutability and rapid technological change, exclude direct climate effects on ecosystem services and knock-on societal impacts. ### Macro‑financial transmission and systemic amplification - Double materiality: financial institutions both affect and are affected by nature-related risks. - Five main macro-financial channels identified (framework reference to Figure 4 and Annex 1). - Financial risk types and mechanisms: - Credit risks: increased counterparty risk; exposure to companies active in protected areas; supply-chain disruptions. - Market risks: abrupt asset price changes from nonfinancial losses and updated transition paths. - Liquidity risks: funding withdrawal from institutions with high exposures. - Underwriting risks (insurers): higher claims and changing premia; potential reduction in insurability. - Operational risks: disruptions to facilities, suppliers, technologies; litigation and reputational risks. - Systemic concerns: - Interactions among credit, market, liquidity, and underwriting risks can generate “nature Minsky moments” and systemic crises. - Cross-border contagion through trade, portfolios, and expectation shifts. ### Empirical focus: transition and physical risk evidence - GBF Targets used as policy proxies: - Target 18: identify, eliminate, phase out, or reform incentives harmful for biodiversity; substantially and progressively reduce them by at least US$500 billion per year by 2030. - Target 3: conserve at least 30 percent of terrestrial, inland water, and coastal and marine areas by 2030. - Harmful subsidies: - Harmful subsidies reached $1.7 trillion in 2022, driven by fossil fuel consumption subsidies. - Subsidy breakdown: - $640 billion in energy - $520 billion in agriculture - $350 billion in water - $155 billion in forestry - $50 billion in fisheries - Sectoral exposure: agriculture, forestry, fishing, and mining face highest transition risks; nearly 38 percent of bank loans are extended to sectors heavily reliant on harmful subsidies; mining accounts for about 6 percent of total bank loans. - Conservation target exposure: - Using MSCI indicators, sectoral averages show on average 44 percent of bank loans are exposed to fragile areas targeted for protection under GBF Target 3. - Syndicated loan context: all outstanding syndicated loans underwritten by the 100 largest global banks amount to $18 trillion in total, as of July 2024. - Assumption: operations in highly fragile ecosystems will be completely discontinued and percent of operations affected equals percent of bank loans defaulted on. ### Banks’ policy integration, preparedness, and disclosure gaps - Policy-strength landscape for top 100 global banks: - One fifth have no published policy on nature or are in preliminary stages (absent policy). - A third have initiated steps to integrate nature into strategy, risk management, and reporting (moderate or strong policy). - Between 10 percent and a third have made most headway (predominantly in Europe and some Asia-Pacific) in integrating due diligence and risk management. - No bank in the sample has a fully fledged policy spanning sectors and forms of financing, including general corporate purpose lending and bond underwriting. - Exposure vs preparedness (industry-level MSCI and ENCORE analysis): - Correlation between exposure and preparedness for full sample: 0.37. - Correlation for top company subsets: - 0.70 for the top-50 subset by market capitalization. - 0.50 for the subset forming 75 percent of market capitalization. - Exposure scores for the top 50 group are on average 33 percent higher than full sample; preparedness scores for the top 50 group in every industry are on average 47 percent below their respective industry average. - Coverage rates (Annex Figure 2.2) — percent of companies reporting: - Exposure variables: Land-use exposure 93%; Percent of revenues in high risk areas 93%; Percent of assets in high fragile areas 93% (other exposure items also 93% or 36% as specified). - Preparedness variables: Carbon emissions management 91%; Water risk monitoring 32%; Water reduction program (operations) 32%; Climate change risk management 2%; E-waste management 1%; other preparedness items low coverage. - Data, methodology gaps: - Need breakdown of allocation and elasticity effects of harmful subsidies; substitutability of activities in biodiversity-sensitive areas; effects by country income level; indirect supply-chain effects and feedbacks with physical risks. - Move beyond exposure metrics toward advanced risk assessments and scenario granularity. ### Insurance sector: exposures, liabilities, and instruments - Insurers face asset-side risks (credit, market, liquidity, solvency) and liability-side risks (higher underwriting claims, litigation, reputational and regulatory risks). - Insurance-specific vulnerabilities: - Potential decline in insurability due to correlated and systemic nature shocks; insurance gap risk with systemic repercussions (ACPR 2024). - Current policies inadequate across most large insurance firms except some European firms. - Nature finance relevance for insurers: - GBF finance-related Targets: 14 (alignment), 15 (reduce negative impacts), 16 (supply chain transparency), 18 (phase out harmful subsidies by $500 billion by 2030), 19 (mobilize $200 billion per year). - Scale of flows and gaps: - Nature-negative financial flows estimated at $7 trillion per year globally, $5 trillion from private sector (UNEP 2023). - Financing flows to nature-based solutions estimated at $200 billion in 2022. - GBF estimates meeting Targets 18 and 19 requires closing a gap of $700 billion per year; other studies suggest shortfalls up to $1 trillion by 2030 (Deutz and others 2020). ### Nature finance instruments: features, limits, and policy preconditions - Use-of-proceed debt (thematic debt): ringfenced proceeds; monitoring and project pipeline challenges; minimum institutional investor issuance size hurdles (minimum of $200 million in developed debt markets, preferably $1 billion versus $100 million in emerging debt markets). - Outcome-based debt (sustainability-linked debt): coupon adjustments tied to KPIs; scalability limited by lack of transition planning and need for sufficiently strong penalties. - Blended finance: concessional capital to mobilize private finance; complexity and replicability challenges; public sector capacity required for de-risking. - Debt-for-nature swaps (DNS): bespoke arrangements with limited debt reduction, high transaction costs, governance and additionality concerns, and scalability limits. - Policy and institutional preconditions emphasized: robust information architecture, assurance standards, institutional capacity, investor base with appetite for atypical assets, engagement with Indigenous Peoples and Local Communities. ### Regulation, disclosure, and international initiatives - EU: Regulation 2024/1623 (31 May 2024) further implements ESG risk requirements including ecosystem/biodiversity factors; EBA draft guidelines 2024 set minimum standards to identify, measure, manage, monitor ESG risks. - Disclosure frameworks and standards: - TNFD recommendations published in 2023; Sector Guidance Version 2.0 June 2024. - ISSB launched a disclosure project on nature-related risks and opportunities in April 2024. - France mandates investors to disclose biodiversity-related risks and strategies in addition to EU rules. - Taxonomies (status as of July 30, 2024): taxonomy adoption and development across jurisdictions with varying degrees of biodiversity and ecosystem protection incorporation; list of jurisdictions and categories provided (44 jurisdictions/regions data collection noted). ### Data limitations, coverage, and recommended transparency - Sample and coverage statistics: - 100 largest global banks sample; total assets amounting to $112 trillion as of 2023. - Total outstanding syndicated loans underwritten by the 100 largest banks: $18 trillion as of July 2024. - Global estimate of harmful subsidies reported approximately $800 billion per year (OECD 2021) in Annex methodology (source also reports $1.7 trillion in 2022 driven by fossil fuel consumption subsidies). - Data gaps: - Proprietary vendor datasets often lack third-party verification and uniform standards. - Voluntary reporting biases and low coverage in preparedness indicators. - Lack of geolocated asset data, disaggregated subsidy data, and cross-border interdependency data. - Directions to improve nature data: - TNFD public nature data facility proposal (nature data catalog, centralized database, distributed access). - NGFS and G20 Sustainable Finance Working Group priorities include improved nature data collection, standardization, and assessment. ### Policy recommendations (financial sector focus) — prioritized actions - Integrate nature-related risks into policy frameworks alongside climate using a mix of informational, prudential, and conduct policies. - Build robust global reference frameworks for nature to scale up nature finance and support transition planning: - robust taxonomies prioritizing nature-related objectives and the “do no harm” principle; - taxonomy development starting with nature-relevant sectors and supply-chain impacts; - scenario analysis to project science-based targets and ecosystem protection pathways; - global collaboration to develop and ensure access to reliable and comprehensive data on nature. - Regulators and supervisors should: - support corporate disclosures integrating nature (in line with TNFD, ISSB, IOSCO); - develop supervisory expectations for integrated transition plans including climate and nature-related targets; - promote risk analysis across the financial sector and encourage firms to identify and manage nature-related risks, impacts, dependencies, and opportunities. - Largest nonfinancial corporations should publish integrated transition plans incorporating nature and the climate–nature nexus, emphasizing the “do no harm” principle. - Largest global banks significantly exposed should develop nature-related due diligence and risk management across all lending, investments, and underwriting activities, including assessments of key biodiversity areas and hotspots. - Governments should transparently disclose subsidies; a consistent transparency framework across countries is essential. ### Research priorities and further work - (1) Exploring implications of nature loss for debt sustainability. - (2) Analyzing role of domestic economic and financial constraints in locking countries into nature-degrading growth models. - (3) Developing the concept of a “nature Minsky moment” and implications for macroprudential policies; strengthen financial sector vulnerability assessments. - (4) Identifying regulatory and institutional preconditions for nature finance instruments to function at scale. - (5) Enhancing nature scenarios and modeling to include additional ecosystem services and better represent nonlinearities and tipping points. *IMF | Staff Climate Notes — clnea2024002, Introduction and Annex excerpts* ### Introduction ### Introduction ### Key messages - Nature’s continued degradation calls for system-wide changes in the global economy. - Biophysical stress and policy changes to address it could have implications for macroeconomic and financial stability. - Policy frameworks in advanced, emerging, and developing economies need to evolve to embrace environmental sustainability. ### Framing and problem statement - The economy is embedded in nature and dependent on natural resources and processes for its existence and functioning. - Nature is defined as “the natural world with an emphasis on the diversity of living organisms and their interactions among themselves and with their environment. [...] It includes categories such as biodiversity, ecosystems, ecosystem structure and functioning, the evolutionary process, the biosphere, living natural resources, shared evolutionary heritage, and biocultural diversity” (Díaz and others 2015). - Over the past two centuries, economic activity has caused degradation of nature at unprecedented rates, exceeding the planet’s ability to provide ecosystem services (UNCBD 2022). - The world faces a “planetary crisis” characterized by the triple emergency of climate change, biodiversity loss, and pollution (Robinson and others 2023). ### Planetary boundaries and biodiversity - Out of nine planetary boundaries, six—related to biosphere integrity, climate change, land system change, biochemical flows (nitrogen and phosphorus), freshwater, and novel entities—have been crossed (Steffen and others 2015; Richardson and others 2023). - Biodiversity is declining faster than at any time in human history; researchers document a sixth great biological extinction since life began about 3.7 billion years ago (Kolbert 2014; IPBES 2019; Dasgupta 2021). - Extractive land-use change through industrial and agricultural activities accounts for over 90 percent of biodiversity loss and water stress (Oberle and others 2019; UNEP 2024a). - The 20 Aichi Biodiversity Targets for 2011–20 were adopted by 196 countries; no country achieved them. In 2022, over 200 countries adopted the Global Biodiversity Framework (GBF) to halt and reverse nature loss (UNCBD 2022). --- ### Nature–Climate Nexus and Risks ### Interlinkages and cascading effects - Climate change and nature loss are bidirectionally linked through feedbacks between the biosphere and climate forcing (Figure 2). - Cascading effects can trigger feedbacks and create vicious cycles accelerating both climate change and nature loss. - Example: forests and soils absorbed 1.5–2.6 Gt of CO2 in 2023, down from 9.5 Gt in 2022, largely because of poor forest and soil health (Ke and others 2024). - Despite interconnections, climate change and nature degradation often remain addressed in separate domains (Pörtner and others 2021). ### Definition and policy salience - Nature-related risks result from the interaction of nature-related hazards, exposures, vulnerabilities, and responses, involving any natural process, including climate, weather, and biodiversity loss (IPCC 2022; NGFS 2022). - Nature loss is growing on the global policy agenda (FSB 2024; G20 forthcoming). - Studies find nature loss is a source of financial risk via loss of ecosystem services and asset devaluation (van Toor and others 2020; Svartzman and others 2021; Boldrini and others 2023; Prodani and others 2023). ### Ways nature-related risks differ from climate risks - Four main differences: - They can be more acute (major tipping points may be crossed sooner). - Quantification is more challenging because nature is multidimensional. - Uncertainty is higher—due to incomplete knowledge on biosphere processes, Earth system dynamics, sectoral dependence on nature, and socioeconomic consequences of nature shocks. - They require deeper understanding of local nature-related patterns. --- ### Conceptual Framework: Nature-Related Macroeconomic and Macro-Financial Risks ### Four-component macroeconomic framework (based on Dasgupta Review) - Connects four types of capital—nature, social, produced, and human—to economic and financial flows. - Relates flows to potential states of the world based on production sustainability: sustainable, unsustainable, and irreversible collapse. - Describes main nature-related risks associated with each state of the world. - Maps macroeconomic transmission channels linking nature-related risks to the real economy and the financial sector, emphasizing “double materiality” (financial institutions both affect and are affected by nature-related risks). ### Categories of nature-related risks - Physical: disruption of economic activities from ecosystem service degradation, nature-related shocks, and related economic and financial effects. - Transition: arising from adjustments in policy and market forces (new laws, regulations, policies; changes in human behavior and technology). - Litigation: arising from higher compliance costs, materialization of transition risks, and legal costs impacting firms. - Institutional: arising from changes in governance and trust. ### Additional systemic threat: “Derailment” - Derailment: worsening consequences of Earth system instability reduce societies’ ability to carry out environmental action, preventing stabilization of natural systems and potentially diverting policy action toward immediate socioeconomic crises. --- ### Macroeconomic Channels and Impacts ### Real sector impacts - Nature-related risks influence near- and long-term growth via impacts on labor, capital, and productivity. - Examples: - Mangrove degradation: regions with average mangrove protection experience cumulative growth rate drops of 6.1 to 8.2 percent post-storm, versus 2.6 to 5.5 percent in well-sheltered regions (Hochard, Hamilton, and Barbier 2019). - Biodiversity loss (loss of pest control by bats) linked to higher insecticide use and increased infant mortality from internal causes (Frank 2024). - Productivity impacts: - Pollution depreciates natural capital and affects labor productivity (Hanna and Oliva 2015; Chang and others 2019). - Changes in regulation and maintenance services (water, air purification) affect health and cognitive ability; provisioning services (freshwater, biochemicals) affect agriculture and medicine. - Supply chains and production processes: - Damaged infrastructure and logistics from amplified natural disasters cause supply chain disruptions across agriculture, energy, technology, manufacturing, mining, utilities, timber. - Reduced substitutability of natural capital can lead to larger global supply chain impacts. ### Fiscal impacts - Fiscal pressures increase via revenue losses and higher spending on recovery and restoration. - Examples: - Global receipts from visits to protected natural areas represented 8 percent of the tourism market in 2015 (Balmford, Green, Phalan 2015); nature degradation can reduce tourism receipts. - Potential responses: - Relocate funds from inefficient subsidies (fuel, electricity, water) toward nature protection. - Governments may transfer risks to insurance, but common risks correlated at the country level limit insurance effectiveness, causing large-scale losses to produced capital and fiscal capacity (Dasgupta 2021). - Adaptive climate investments can reduce future fiscal risks but may inadvertently harm ecosystems (seawalls, intensive irrigation). ### Debt and external sector impacts - Fiscal pressures and weaker growth can raise debt-to-GDP ratios and sovereign debt premia. - Natural resource depletion may increase commodity imports, straining external balances and external debt sustainability. - Commodity price shocks from ecological events can affect terms of trade and exchange rates (example: 2010–12 droughts in China, Russia, Ukraine doubled wheat prices and affected terms of trade) (Sternberg 2012, NGFS 2023a). ### Inflation and food security - Shifts in provisioning services can impact inflation via supply-side shortages in food and other commodities. - Droughts and floods are root causes of global food price fluctuations; commodity price changes can translate into inflation (Weber and others 2024). --- ### Macroeconomic Magnitude: Estimates and Uncertainty ### Modeling limitations and conservatism - Estimates of GDP impacts vary considerably depending on drivers and modeling techniques; most are conservative. - Reasons for conservatism: - Models capture only subsets of nature loss drivers and ecosystem services. - Models poorly represent interactions among ecosystem services and between services and the economy. - Regulation and maintenance services are less captured; models often focus on provisioning services. - Key assumptions (substitutability of inputs, rapid technological change) may downplay impacts. - High uncertainty around nature-related risks (biosphere processes, Earth system dynamics). ### Selected estimates (with caveats) - Ranger and others (2023): value of nature at risk of five ecosystem services—water-related risks dominate at 7 to 16 percent of GDP; effects on pollination, air, and water quality are about 1 to 3 percent of GDP. - Johnson and others (2021): partial collapses in three ecosystems estimate an annual loss equivalent to 2.3 percent of global GDP by 2030. - Impacts are larger in low-income and lower-middle income countries: drop in GDP expected to reach up to 10 percent in 2030. - Caveats: estimates may underestimate effects because they: - Consider only some ecosystem services. - Use models that may overestimate economies’ ability to adjust. - Exclude direct negative effects of climate change on ecosystem services, knock-on effects of output declines (societal conflicts), and nonquantifiable socioeconomic impacts. --- ### Macro-Financial Transmission ### Nature-related risks to the financial sector - Financial institutions and companies contribute to the build-up of nature-related risks and are exposed to them (double materiality). - Nature-related risks affect the economy through damages to real and financial assets, and legal liabilities. - Macro-financial amplification: - Households, nonfinancial corporations, and sovereigns adjust consumption, production, investment, and loss-sharing in response to nature shocks. - Sovereign shock-absorbing roles can crowd out productive investment and social protection or lead to higher taxes. - Cross-border effects through trade and supply chains can amplify or mitigate shocks. ### Main transmission channels to financial sector (introduction) - The note presents a macro-financial conceptual framework identifying five main channels through which nature-related risks could transmit to the financial sector (see Figure 4 and Annex 1 for details). --- *IMF | Staff Climate Notes — clnea2024002, Introduction* ### 1. Credit risks are driven by an increase in counterparty risks, including by financial portfolios’ exposure to ### 1. Credit risks are driven by an increase in counterparty risks, including by financial portfolios’ exposure to companies active in protected areas or whose operations impact nature, and disruptions to production processes and supply chains. ### Major types of nature-related financial risks - Credit risks: driven by increased counterparty risks, including exposure to companies active in protected areas or whose operations impact nature, and disruptions to production processes and supply chains. - Market risks: can be triggered by abrupt changes in asset prices from nonfinancial sector losses, shifts in investor demand, and updated nature transition paths at national, regional, or company level. - Liquidity risks: driven by funding withdrawal from financial institutions with high exposures to nature-related risks. - Underwriting risks (insurers): could rise because of nature-related increases in asset damages or human health deterioration, increasing claims and altering availability and premia of insurance services. - Operational risks: disruptions in financial institutions’ processes (for example, facilities, suppliers, technologies) and nature-related litigation, which may also entail reputational risks. ### Transmission channels, amplifications, and systemic concerns - Both banks and nonbank financial institutions face transmission and amplification channels; banks are mainly exposed to credit risks, nonbank financial institutions are more vulnerable to market risks, especially in advanced economies. - Nature-related shocks may affect future insurability following unexpected underwriting losses in catastrophe, property, and health insurance lines; higher premiums could reduce insurability and transfer risks to governments, with large redistributive impacts and additional effects on financial stability. - Second-round effects and interactions between credit, market, liquidity, and underwriting risks can generate systemic risks through changes in expectations and risk aversion. - Sudden devaluation/revaluation of assets from expectation shifts and increased risk aversion could cause cascading “nature Minsky moments,” potentially leading to systemic financial crises with widespread value destruction, stranded assets, and job losses. - Cross-border financial risks: interdependencies among financial institutions and changes in expectations can generate destabilizing dynamics (fire sales, procyclical behavior, common portfolio exposures), amplifying initial shocks across institutions and jurisdictions. ### Empirical focus: Transition and physical sources of nature-related financial risks - The empirical analysis in this unit focuses on two sources from the conceptual framework: transition risks and physical risks, illustrating the framework and contributing evidence on magnitude of risks facing large financial institutions and nonfinancial companies. - Scenario analysis recommendations: should cover varying complexity, plausible future paths, collaboration across economists and natural scientists, and assess macroeconomic transmission channels including impacts of nature loss and policies on systemically important prices and financial stability. Detailed scenario work is beyond this note’s scope. ### Transition risks: GBF (Kunming–Montreal Global Biodiversity Framework) as a proxy - The analysis focuses on GBF Targets 18 and 3 as primary policy transmission channels: - Target 18 (harmful subsidies): identify, eliminate, phase out, or reform incentives harmful for biodiversity; substantially and progressively reduce them by at least US$500 billion per year by 2030, starting with the most harmful incentives, and scale up positive incentives. - Target 3 (conserve at least 30 percent of land and water areas by 2030): ensure and enable that by 2030 at least 30 per cent of terrestrial, inland water, and of coastal and marine areas are effectively conserved and managed. ### Findings on harmful subsidies (GBF Target 18) - Harmful subsidies reached $1.7 trillion in 2022, driven by an increase in fossil fuel consumption subsidies. - Subsidy breakdown (as reported): - $640 billion in energy - $520 billion in agriculture - $350 billion in water - $155 billion in forestry - $50 billion in fisheries - Sectoral exposure and risk: - Agriculture, forestry, fishing, and mining sectors face the highest transition risks due to dependence on harmful subsidies. - Nearly 38 percent of bank loans are extended to sectors that are heavily reliant on harmful subsidies. - The mining sector accounts for about 6 percent of total bank loans. ### Findings on conservation target exposure (GBF Target 3) - Using MSCI indicators of companies’ vulnerability to ecosystem impacts, sectoral averages show: - On average, 44 percent of bank loans are exposed to fragile areas targeted for protection under GBF Target 3. - Analytical assumptions and data mechanics: - All outstanding syndicated loans underwritten by the 100 largest global banks amount to $18 trillion in total, as of July 2024. - The analysis assumes company operations in highly fragile ecosystems will be completely discontinued, and the percentage of operations affected equals the percentage of bank loans defaulted on; panels on vulnerability and impacts are constructed by multiplying loan values by percent of debtor revenues gained in highly fragile ecosystems and by percent of debtor operations disturbing highly fragile ecosystems. ### Banks’ policy integration and exposure heterogeneity - Policy-strength landscape among the top 100 global banks: - One fifth of the banks have no published policy on nature or are in preliminary stages (labeled as absent policy). - A third of the sample has initiated steps to integrate nature into strategy, risk management framework and reporting (labeled as moderate or strong policy). - Between 10 percent and a third of the sample have made the most headway in integrating nature into due diligence and risk management frameworks, predominantly in Europe and, to a lesser extent, the Asia-Pacific region. - Observations on policy scope and limits: - Banks with stronger policies tend to have lower loan exposures to fragile ecosystems but focus mainly on project finance, which is a small portion of portfolios and has limited exposure to the sectors most vulnerable to nature-related transition risks. - Existing bank policies often target specific industries (forestry, agriculture, mining, energy) with varying consistency and ambition; coverage is typically limited (for example, UNESCO World Heritage and Ramsar sites) and often overlooks climate–nature nexus transaction risks. - No bank in the sample has a fully fledged policy spanning sectors and forms of financing, including general corporate purpose lending and bond underwriting, indicating a general lack of understanding of nature-related risks. ### Data, methodology gaps, and priority next steps - Key data gaps to advance risk assessment: - Breakdown of allocation and elasticity effects of harmful subsidies. - Substitutability of economic activities in biodiversity-sensitive areas. - Specific effects by country income level. - Indirect effects across supply chains and feedback effects with physical risks (including dependencies on ecosystem services). - Modeling and scenario improvements needed: - Develop models and scenarios to assess resilience to combined policy and nature shocks and granular transmission channels to the banking system. - Move beyond exposure metrics toward advanced risk assessments bridging data gaps and improving scenario granularity. *Source: IMF staff climate note (clnea2024002).* ### 1. Number of Banks by Level of Policy Strength across Regions ### 1. Number of Banks by Level of Policy Strength across Regions ### Assessment of banks’ nature-related policies - Coverage and methodology - Assessment based on the 100 largest banks’ disclosed policies (e.g., ESG strategy, sectoral due diligence policies, risk management policies) as ranked by S&P Global (methodology described in Annex 2 and Annex Table 2.1). - Main distinction: a “strong” policy versus a “fully fledged” policy hinges on scope of financial instruments (project finance versus all types of instruments). - Scope of nature-related risks in this assessment is wider than transition-related risks. - Panel 2 uses aggregated amounts of project finance loans and bonds (project finance debt by sector reported in millions $). - Comparative and methodological caveats - Two issues affect comparisons and evaluation of banks’ policies: 1. Endogeneity: banks initially less exposed to nature-related risks and those headquartered in regions with more stringent environmental policies and regulations may publish more ambitious policies. 2. Temporality: recent focus on nature since the adoption of the GBF may explain delays in policy updates and thus ambition. - European Central Bank thematic review (November 2022) found many banks started with high-level qualitative assessments, sector-specific focus (for example, agriculture), exclusion-based approaches, and few assessed biodiversity impacts of individual projects or corporate clients. ### Insurance sector vulnerability and scope for further analysis - Conceptual inclusion - Framework includes insurance sector vulnerability: exposure arises from investments and underwriting/risk coverage operations (including potential insurance gap risks). - Empirical status - Insurance firms’ policies and practices assessed (see Annex table 2.2); further analysis needed on holdings of corporate and government bond and equity focusing on sectors most exposed to nature-related transition risks (Annex 3). ### Physical sources of risk: framework, data, and industry-level findings - Theoretical anchor - Physical risk analysis ideally starts from Ψ* (tipping point) — the minimum value of S_t (natural capital) needed to avoid irreversible collapse (see Annex 1). - Tools with a strong sustainability approach can identify ecosystem degradation levels by country, biome, or other scales (reference: NGFS 2023a). - Data approach and indices - Given data constraints, analysis uses private vendor datasets (MSCI) to assess nature-related physical risks via two industry-level index measures: 1. Business dependence on natural capital (industry-wide exposure to nature loss). 2. Preparedness and mitigation index (self-reported readiness to manage reliance on natural resources and mitigate risks). - Detailed methodology described in Annex 2. - Key empirical findings - Correlation between exposure and preparedness for full sample: - Correlation coefficient of 0.37, implying industries most exposed to nature loss are not correspondingly prepared, based on self-reported scores. - Subsample analysis for largest companies within industries: - Two subsets: (1) the 50 largest companies in each industry by market capitalization, and (2) the largest companies that together form 75 percent of total market capitalization. - Correlation coefficients: 0.70 for the top-50 subset, and 0.50 for the 75-percent market-cap subset. - Interpretation: within these large-company segments, preparedness corresponds more closely with exposure; largest companies most exposed tend to report higher preparedness scores relative to less-exposed peers. - Discrepancies and reporting biases: - Exposure scores for the top 50 group in each industry are on average 33 percent higher than those for the full sample (with wide variation across industries). - Preparedness scores for the top 50 group in every industry are on average 47 percent below their respective industry average. - Voluntary, self-reported data likely biased and possibly skewed toward a more positive representation of preparedness; gaps may mean results are not fully representative. - Disclosure and governance gaps - High coverage for variables indicating exposure risk, but low coverage across resource management indicators in ESG metrics — indicating transparency deficiencies. - Among preparedness variables, carbon emissions management is the only area in which more than 50 percent of companies report. - Just under 55 percent of companies that report on water risk management say they have integrated water-related issues into their long-term business plans. - Lack of uniform criteria for measuring effectiveness of nature-related risk management. - Recommendations implied by findings: - Broaden scope of disclosures and reporting on how companies manage exposures to identify systemic weaknesses. - Introduce specific indicators on governance (board and management oversight, incentives tied to management of nature-related risks, strategic planning with time-bound and quantifiable targets, and supply chain incorporation). ### Nature-related financial sector policies and initiatives across countries - Role of financial sector policy instruments - Policy instruments include: 1. Informational and market conduct policies to develop information architecture, address underpricing and lack of transparency of nature-related risks, and promote impact-based financial securities for conservation and restoration. 2. Supervisory approaches and tools to facilitate quantification and management of nature-related risks. 3. Enhancements to financial institution governance frameworks to mitigate short-term biases. - Global and regional activity - Regulatory and supervisory authorities vary in stage of engagement; some jurisdictions cover nature-related risks within overall environmental frameworks (FSB 2024). - Global collaborative initiatives: Financial Stability Board, NGFS, G7, and OECD — NGFS and OECD developed nonregulatory frameworks to assess biodiversity-related financial risks. - Regional and national initiatives exist across income levels, including emerging market and developing economies (Brazil, Chile, China, Honduras, Malaysia, Mexico, Morocco, Nepal, Nigeria, Peru, and the Philippines), sometimes with World Bank support. - Many authorities are still at the monitoring stage; a few have not initiated work due to data/methodological deficiencies and questions about financial materiality (FSB 2024). - Supervisory guidance examples - Brazil: - Central bank strengthened prudential regulatory framework on environmental risks. - Since 2008: exclusion rules for granting concession on rural credit to protected or embargoed areas, and indigenous lands. - Hong Kong Special Administrative Region: - Since 2020: monetary authority requires banks to manage environmental risks including environmental degradation, biodiversity loss, and deforestation as part of a common assessment of the banking sector. *IMF | Staff Climate Notes — clnea2024002* ### 3. European Union: The Capital Requirements Directive and Regulation for banks, in its latest ### 3. European Union: The Capital Requirements Directive and Regulation for banks, in its latest amendment, ### Summary of regulatory changes and scope - EU Regulation 2024/1623 of the European Parliament and of the Council of 31 May 2024 further implements ESG risks requiring disclosures, governance, and management of ESG risks, including specified factors such as environmental degradation of ecosystems and biodiversity loss. - The review underlines the importance of banks incorporating ESG risks, with a specific emphasis on biodiversity and nature-related, into their strategies and processes for evaluating internal governance and capital needs. It requires banks to: - disclose transition plans; - report on governance arrangements; - manage environmental risks. - The European Banking Authority issued draft guidelines in 2024 establishing minimum standards for banks to identify, measure, manage, and monitor ESG risks, including those from ecosystem degradation and biodiversity loss. - Banks must have internal procedures to: - assess their counterparties' ESG risk profile; - identify natural capital dependencies in nature-related or biodiversity risks analyses; and - assess additional risk-based metrics and targets in their transition plans. ### Developments in nature-related disclosure and standards - In 2023, the Task Force on Nature-Related Financial Disclosures (TNFD) published a set of disclosure recommendations and guidance encouraging nonfinancial corporations and financial companies to assess, report, and act upon their nature-related dependencies, impacts, risks, and opportunities (FSB 2024). - The guidance for financial institutions includes metrics tailored to banks’, (re)insurance companies’, and asset managers’ dependencies and impacts on nature. - In April 2024, the International Sustainability Standards Board launched a disclosure project on nature-related risks and opportunities. - A few jurisdictions in Europe and large emerging market economies (Brazil, China, Türkiye) have endorsed TNFD recommendations or implemented nature-related disclosure requirements for listed companies. - To date, only France mandates investors for the disclosure of biodiversity-related risks and a strategy to eliminate biodiversity-related impacts, in addition to EU rules (Corporate Sustainability Reporting Directive, Sustainable Financial Disclosure Regulation). ### Biodiversity measurement methodologies and tools - Efforts to develop biodiversity measurement methodologies are underway, targeting financial institutions (Finance for Biodiversity 2024) at both asset and portfolio levels. - Methodologies are developed jointly by global institutions and scientific bodies (for example, IUCN), public biodiversity agencies, and data providers. They include: - sector-screening methods to identify sectors with moderate or high nature dependencies; - location-screening methods to determine with which biomes and specific ecosystems institutions’ priority portfolio sectors interact; - tools to evaluate dependencies and assess impacts, including: - Biodiversity Footprint Financial Institutions; - Biodiversity Impact Analytics; - Biodiversity Impact Assessment Tool; - Corporate Biodiversity Footprint; - Global Biodiversity Score for Financial Institutions; - Global Impact Database. - The most used approach is Exploring Natural Capital Opportunities, Risks and Exposure. - Examples of integrated tools include the Integrated Biodiversity Assessment Tool and the Nature and Biodiversity Metrics. ### Taxonomies: status as of July 30, 2024 - Current situation: few taxonomies include nature-related objectives and criteria, but incorporation is gaining momentum. - Table 1 categories and jurisdictions (Data as of July 30, 2024): - Taxonomy Adopted / Biodiversity and ecosystem protection is fully or partially incorporated (as a standalone objective, with substantial contribution criteria for priority or a broad range of economic activities): - ASEAN, China, Colombia, Dominican Republic, Egypt, European Union, Georgia, Kazakhstan, Korea, Mongolia, Panama, Russian Federation, Singapore, Sri Lanka, Thailand - Taxonomy under Development / Biodiversity and ecosystem protection is fully or partially incorporated: - Costa Rica, Latin America and Caribbean Common Framework (coordinated by UNEP) - Taxonomy Adopted / Biodiversity and ecosystem protection is a broad objective, sometimes supported by “do no significant harm” criteria: - Bangladesh, Ecuador, Indonesia, Malaysia, Mexico, Papua New Guinea, South Africa - Taxonomy under Development / Biodiversity and ecosystem protection is a broad objective, sometimes supported by “do no significant harm” criteria: - Brazil, Chile, India, Kenya, Peru, Rwanda, Senegal, Vietnam - Taxonomy Adopted / Biodiversity and ecosystem protection is listed as a future objective: - New Zealand, Philippines, Türkiye, United Arab Emirates, United Kingdom - Taxonomy Adopted / Biodiversity and ecosystem protection is not yet included: - Argentina, Australia, Canada, Hong Kong SAR, Kyrgyz Republic - Taxonomy under Development / Biodiversity and ecosystem protection is not yet included: - Democratic Republic of the Congo, Madagascar, United States, Venezuela - Note: Source indicates taxonomy data collection for 44 jurisdictions and regions. ### Key policy considerations and takeaways - Nature loss has implications for macroeconomic and financial sector policies; the combination of nature- and climate-related uncertainty implies that worst-case scenarios—whose probability cannot be quantified—cannot be ruled out. - An integrated approach to nature and climate is needed given Earth system dynamics and synergies between climate change and nature loss. - A “do no harm” principle could be developed to ensure climate objectives do not harm nature objectives, and vice versa. - Policy frameworks should: - acknowledge planetary boundaries and biophysical tipping points; - build social and political consensus on transitioning away from non-sustainable economic activities; - reorient policies to prioritize rapid transformation of the productive structure to align with planetary boundaries. - Market failures and nonlinearities in biosphere processes imply that: - pricing instruments and market creation can internalize some external costs, but may be insufficient where ecosystem regime shifts and nonlinearity exist; - quantity restrictions, or mixed price-quantity approaches, may sometimes be more effective. ### Financial sector policy recommendations (focus) - Start incorporating nature-related risks in policy frameworks alongside climate, using a mix of informational, prudential, and conduct policies. - Build robust global reference frameworks for nature to scale up nature finance and drive nature-oriented transition planning and risk assessment, including: - robust taxonomies prioritizing nature-related objectives and the “do no harm” principle; - taxonomy development starting with nature-relevant sectors and supply-chain impacts; - scenario analysis to project science-based targets and ecosystem protection pathways; - global collaboration to develop and ensure access to reliable and comprehensive data on nature. - Financial regulators and supervisors should: - support corporate disclosures integrating nature, in line with TNFD, ISSB, and IOSCO efforts; - develop supervisory expectations for integrated transition plans including climate and nature-related targets; - consider impact assessments and investment pathways; - encourage supervised firms to identify and manage nature-related risks, impacts, dependencies, and opportunities, starting with the largest nonfinancial and financial companies and those facing the highest short-to-medium-term risk; - enhance their own assessments of nature-related transition and physical risks and promote risk analysis across the financial sector. - Largest nonfinancial corporations should consider publishing integrated transition plans that: - incorporate nature and address the climate–nature nexus; - include complementary targets and emphasize nature and mitigation co-benefits; - place the “do no harm” principle at their core. - Largest global banks significantly exposed to nature-related risks should: - gradually develop nature-related due diligence and risk management approaches; - expand scope beyond project finance to all lending, investments, and underwriting activities as data improves; - emphasize global corporate loans and bonds, including syndicated transactions among lead arrangers; - include assessments of key biodiversity areas and hotspots and knock-on effects from climate- and nature-relevant economic activities; - integrate these assessments with existing climate-related risk frameworks as required by international standards. - Governments should transparently disclose subsidies; a consistent transparency framework across countries is essential to align economic policies and activities with the objective of reversing nature loss. ### Areas for further research - (1) exploring the implications of nature loss for debt sustainability; - (2) analyzing the role of domestic economic and financial constraints related to the international monetary and financial architecture in locking countries into nature-degrading growth models; - (3) developing the concept of a “nature Minsky moment” and understanding its implications for macroprudential policies, and strengthening financial sector vulnerability assessments, including banks and nonbank financial institutions; - (4) identifying the regulatory and institutional preconditions for nature finance instruments to function in the ways and at the scale envisioned; - (5) enhancing nature scenarios and modeling to include additional ecosystem services. *IMF | Staff Climate Notes (excerpt from the content unit clnea2024002).* ### 1. It is silent and invisible: regulating and maintenance services are largely hidden from view and, ### 1. It is silent and invisible: regulating and maintenance services are largely hidden from view and, ### Key characteristics of nature and ecosystem services - Silent and invisible regulating and maintenance services: their value is felt primarily when absent; provisioning and cultural services have observable outcomes. - Mobility of impacts: examples include warm water weakening ice sheets and phosphorus discharge contributing to ocean acidification and ocean anoxia. - Nonlinearity and systemic features: tipping points, positive feedback, path dependence, irreversibility, and catastrophic risks driven by nonlinear biosphere processes. - Difficulty of attribution: these features make it hard to trace adverse effects back to specific economic agents. - Differences between ecosystems and produced capital: - Depreciation: often irreversible. - Replicability: depleted or degraded ecosystems cannot be replicated. - Collapse: ecosystems can collapse abruptly. - Limited substitutability: “little-to-no substitution possibilities between key forms of natural capital and produced capital and for that matter any other form of capital” (Dasgupta 2021, p. 328). - Strong vs. weak sustainability framing: the “strong sustainability” approach emphasizes nonsubstitutability of life-supporting natural capital (Neumayer 2013, p. 193). ### Ecosystem tipping points (ETPs) and systemic risk - Definition: nonlinear, self-amplifying, and irreversible changes in ecosystem states that can occur rapidly and on a large scale. - Marsden and others (2024) — five key findings: - 1. Demands on nature from economic activity are increasing the risk of ETPs. - 2. Several ETPs could threaten Earth system stability: Amazon rainforest dieback; boreal forest cover transitions; tropical peatland collapse; coral reef die-off; mangroves dieback. - 3. ETPs have global feedback effects on climate change. - 4. Loss of critical ecosystems would have large adverse impacts on the global economy, including through lower food and energy security, damaging assets including infrastructure, and health risks. - 5. ETPs are associated with major nature loss, limiting adaptation and substitution possibilities. - Broader cascading effects: political instability, civil unrest, and geopolitical confrontation; cascading feedbacks are hard to predict and model and can amplify climate impacts (see Kemp and others 2022). ### Empirical quantification of nature-related risks - Ranger and others (2023) estimates (noted as lower bound because five ecosystem services out of 20 were assessed): - Water-related risks: 7 to 9 percent of global GDP. - Agriculture-related risks: 14 to 18 percent of global GDP. - Pollination-related risks: 12 percent of global GDP. - Cascading feedbacks could amplify these impacts and act as a risk multiplier on climate change, affecting economies and the global financial system. ### Institutions, social capital, and behavioral drivers - Institutions: defined as “the humanly devised constraints that structure political, economic and social interaction,” including informal and formal rules (North 1991). - Social capital: mutual trust, confidence in governments and markets, and institutional arrangements enabling engagement for mutual benefit (Helliwell and Putnam 2004); central to the economics of biodiversity (Dasgupta 2021, p. 165). - Social preferences and externalities: - Competitive preferences: “a desire for high social status relative to that of others.” - Conformist preferences: “a desire to be like others, to not stand out” — can enable moderation in consumption if practiced collectively (Dasgupta 2021, p. 230). - Financial system role: channels financial flows to economic activities, enables investment in conservation and restoration, and influences societies’ demands on nature. ### Policy implications from the Dasgupta Review framework - Pigouvian taxes and subsidies for all nature-related externalities are infeasible in practice due to observability and verification constraints. - Need for quantity restrictions: given infeasibility of comprehensive Pigouvian pricing and the possibility of ecosystem breakdown, governments may need to impose quantity restrictions (Dasgupta 2021, pp. 192–195). - Precautionary principle: apply when approaching zones of ecological unsustainability due to uncertain location of tipping points. ### Conceptual framework connecting nature, macroeconomy, and finance - Natural capital (St) as one of four capital types; has use-value and nonuse values; evolves via regeneration (Gt) and degradation from extraction/waste; provides: - Extracted goods (Rt): provisioning services with market value (food, freshwater, timber, biochemicals). - Maintenance and regulation services: nonmarket public-good ecosystem services (climate regulation, flood control, water purification, pollination, disease regulation). - Regeneration and planetary limits: - Natural capital regenerates (Gt) but is bounded above; subject to planetary boundaries and a tipping point Ψ*, beyond which ecosystems may not survive. - Ψ* represents the minimum value of St needed to avoid irreversible collapse. - Nonlinearities and discontinuous dynamics characterize these processes. - Productivity definition: efficiency of production subject to preservation of the material basis (nature); apparent productivity gains from increased labor or capital that associate with nature loss overestimate true productivity gains. - Production sustainability states over time: - State (A) sustainable: total net extraction over time remains well below gap between nature’s initial state and its tipping point. - State (B) unsustainable: natural capital still above tipping point but approaching it; cumulative net extraction greater than the gap between nature’s initial state and its tipping point. - State (C) irreversible collapse: unsustainable production over time leads to collapse; natural recovery unfeasible and critical productivity declines follow. ### Important limitations and risks in applying tipping-point concepts to policy and economics - Impossibility of determining Ψ* with certainty: physical, paleoclimate, and modeling evidence support existence of Ψ* but do not provide precise determination; justifies precaution and scale-appropriate definitions (global, national, regional, municipal, or biome/ecosystem). - Transposition risks: large number of unknowns and systemic interdependencies make it risky to transpose tipping-point equations directly into economic analysis; multidisciplinary work to determine Ψ* would require extensive data, financing, and political support, and uncertainty will likely remain high. - Uncertainty representation: tipping point uncertainty represented as ε in the framework; ε is randomly drawn from a distribution that allows for negative values and can cause earlier-than-expected crossing of thresholds. ### Risk transmission and policy urgency - Risk transmission channels connect nature, macroeconomic, and financial sources; materialization at macro scale occurs only in states (B) and (C). - Policy window: only in state (B) can interventions effectively mitigate and reverse degradation; in state (C) irreversibility prevents natural recovery and leads to severe productivity declines. - Emergency framing: urgency rises when intervention time left is small relative to reaction time, amplifying need for timely action. *Source: IMF Staff Climate Note (content unit: "1. It is silent and invisible: regulating and maintenance services are largely hidden from view and,")* ### Annex Figures 1.2 and 1.3 present general and detailed feedback loops, respectively: ### clnea2024002 - Annex Figures 1.2 and 1.3 present general and detailed feedback loops, respectively: ### General feedback loops (Annex Figure 1.2) - Main positive and negative feedback loops link different forms of capital to output and its main ecological consequences: the global ecological footprint, climate change, and regeneration of natural capital (Gt). - Positive feedbacks: - Higher output contributes to climate change directly (through higher emissions). - Higher output increases the global ecological footprint (expression shown in source), which itself contributes to climate change (notably through deforestation). - Climate change reduces the rate of natural capital regeneration. - Negative feedbacks: - Increased output directly reduces the regeneration rate of natural capital. - Consequences of higher output (climate change and lower regeneration) negatively impact: - Natural capital (for example, lower soil fertility). - Social capital (for example, prolonged drought-induced political instability and conflicts over land and natural resources). - Built capital (for example, impact of water shortages on hydropower infrastructure). - Human capital (lower labor productivity). ### Detailed feedback loops (Annex Figure 1.3) - Framework decomposed into three steps (groupings are arbitrary, chosen for clarity). - Step 1 (positive feedbacks): - Higher output → larger global ecological footprint and climate change. - Climate change and footprint → critical nature degradations affecting planetary boundaries: freshwater depletion, soil erosion, biodiversity decline, and pollutions. - Step 2 (negative feedbacks to health indicators): - Nature degradations → plant health (notably agriculture), human health, animal health, and zoonoses. - Reinforcing negative feedback within this step: urban sprawl → habitat/biodiversity loss → changes to wildlife communities → increased wildlife-human contact → increased zoonotic disease transmission (cited example: Hassell and others 2017). - Additional channels: nature loss contributes to climate change which strengthens disease vectors and pathogen distributions; ecosystem disruptions can lead to population explosions of disease-carrying species. - Step 3 (positive feedbacks to socioeconomic shocks and final negative feedbacks to output): - Health and nature effects → socioeconomic shocks: food and water security crises, conflicts, migration, and political instability (Annex Figure 1.6). - These shocks feed back negatively to output through channels including supply and demand shocks, inflationary shocks, financial crises, and export restrictions. ### Litigation risks and relevance for the financial sector (Annex Figures 1.4 and 1.5) - Litigation as an additional source of financial risk: - Historically targeted states and public institutions; firms and financial institutions increasingly face lawsuits (NGFS 2024b). - Nature-related litigation can produce financial concerns through multiple transmission channels and legal points of entry. - Indirect channels: - Lawsuits against states/public entities can strengthen or accelerate public policies to protect nature (for example, subsidies, sectoral norms), raising transition risk and compliance costs for firms. - Litigation interacts with international accords and national legislation (examples cited in source). - Litigation against clients/counterparties may affect financial institutions (corporate sustainability due-diligence legislation, shareholder rights, tort law). - Direct corporate impacts: - Firms may face negligence or breach-of-duty suits with balance-sheet impacts: legal and sanction-related costs, costs of damages, impacts on stock prices, increased insurance costs. - Rising legal focus on directors’ duties to consider firms’ nature-related risks (Commonwealth Climate and Law Initiative 2024). - Systemic and prudential implications: - Litigation risk may drive prudential risk categories including credit, market, operational, and liquidity risk (NGFS 2024a). - Given the core-periphery structure of the financial system, litigation may amplify physical and transition nature-related risks with repercussions for other financial institutions and the financial system (through common portfolio exposures, cross-sector and cross-border contagion). - Climate–nature nexus in litigation: - Many cases combine deforestation and climate-change arguments; lawsuits also target ocean degradation and plastic pollution. - Expectation of increasing legal actions on prudent management of climate and environmental risks, including nature and biodiversity risks. - NGFS anticipates a rise in nature-related cases (especially rights-based cases against states/public entities and corporate responsibility cases) and advises central banks, supervisors, and financial institutions to closely monitor developments in nature-related litigation. ### Nature loss and international trade (Annex Figure 1.7) - Consumption based on internationally traded goods: - Consumption based on internationally traded goods drove 25 percent of the global impacts on biodiversity in 2011, a 3-percent increase relative to 2000. - Top importers and exporters of deforestation (panel summary from source): - Top three importers: US, China, and Japan. - Top three exporters: Democratic Republic of the Congo, Tanzania, and Myanmar. - Additional statistics reported: - Advanced economies may import up to 40 percent of pollinator-dependent crops from developing economies (Silva and others 2021). - Among net exporters, 35 percent of domestic species threats are associated with exports. - Among net importers of primary products, 45 percent of their biodiversity footprint is associated with imports (Lenzen and others 2012). ### Macroeconomic shocks, external financing constraints, and nature degradation (Annex Box 1) - Recent dynamics: - Since the 2000s many developing economies have experienced prolonged slowdown or reversal in income convergence with advanced economies. - Since 2020, a series of shocks disproportionately affected developing economies, increasing foreign exchange needs. - Fiscal and external pressures: - In 2023, 54 developing economies allocated at least 10 percent of government revenues to debt servicing (UNCTAD 2024). - Large foreign exchange needs drive short-term pressures to obtain foreign exchange via sovereign debt issuance, official development assistance, foreign direct investment, tourism receipts, commodity exports, or foreign takeover of natural resources. - Trade specialization and nature pressures: - Premature deindustrialization and re-primarization in many developing economies emphasize commodity exporting specializations (Rodrik 2016; Alami and Dixon 2024). - Top ten net importers of deforestation are large advanced economies and China; top ten net exporters include low-income countries, Indonesia, and Paraguay (Mittempergher, Vergez, and Puydarrieux 2023). - Consumption based on internationally traded goods drove 25 percent of the global impact on biodiversity (Marques and others 2019). - Risk of lock-in to extractive models: - Interaction of large foreign exchange needs and nature-degrading exports could lock countries into extractive growth models and nature-degrading investments (examples cited: soy production and mining leading to deforestation and nature loss). ### Debt sustainability and nature - Interlinkages: - Unsustainable exploitation of natural resources that surpasses regeneration capacity can lead to economic effects that push debt trajectories toward unsustainability. - Negative feedbacks from nature loss on social, built, and human capital exacerbate fiscal vulnerabilities. - Country sensitivity: - Public finances of advanced economies and emerging market and developing economies, including mega-biodiverse countries, are especially sensitive to natural capital loss, reducing resilience to climate change and environmental risks. - Countries with structural deficits and low debt carrying capacity face exacerbated risks. - Mechanisms affecting sovereign risk and financing: - Natural resource depletion can reduce potential output, approach ecosystem collapse tipping points, and precipitate declines in sectoral receipts (for example, tourism), affecting public finances and debt sustainability. - Natural resource depletion may increase commodity imports, straining the balance of payments and external debt sustainability. - Rising costs of nature-related adaptation and mitigation add fiscal pressures (Kraemer and Volz 2022). - Transition to nature-positive economies elsewhere could result in trade limitations as importers implement sustainable supply chain regulations. - Investors may demand a risk premium on sovereign debt of countries depleting natural capital and potential output growth, raising borrowing costs. - Policy and assessment implications: - Sovereign credit risk assessments should consider long-term impacts of nature loss on growth and projected investment needs to reduce reliance on natural capital depletion. - Discussions on bridging the nature financing gap should include impacts on debt sustainability, increased debt servicing costs, and effects of foreign currency debt repayments on public investment needed for the transition to a nature-positive economy (Dempsey and others 2024). *Source: IMF staff climate note Annex Figures and accompanying text.* ### Annex Figure 1.8. Feedback Loops: Debt Sustainability and Nature ### Annex Figure 1.8. Feedback Loops: Debt Sustainability and Nature ### Data gaps and constraints - Existing proprietary vendor databases may have had little third-party verification or assessment, leading to dependability concerns. - Lack of agreed-upon reporting standards and accounting rules complicates comparisons across enterprises, sectors, and locations. - Some data are relatively diluted (for example, giving binary yes/no replies) and have minimal granularity. - Voluntary nature of reporting introduces biases and potentially entails greenwashing risks. - Lack of regulatory focus on nature-related risks means available data may not fully represent the broader industry landscape. - Data constraints on geographical, subindustry, and company size breakdown of harmful subsidies limit identification of causal links between subsidies and harmful effects. - Monetary amount of a subsidy does not necessarily correspond to the extent of its harmful effect: relatively small subsidies can have major negative impacts, and vice versa (UNDP 2024). - Location-specific nature of subsidies and lack of precise data on species and spatial patterns of biodiversity across regions require further data collection and research. ### Impacts of data gaps on comparability, consistency, and relevance - Lack of systematic reporting, particularly in emerging market and developing economies and low-income countries, prevents a global assessment of physical and transition risks. - Distinction between input data on the state of nature and output data on companies’ dependencies, risks, impacts, and opportunities is often overlooked. - Scarcity of data on key ecosystem services hampers understanding of business dependencies and impacts (UNEP 2021). - Absence of detailed sector-specific data (for example, banks’ bilateral loan data, sectoral credit portfolio statistics, temporal perspectives, and disaggregated subsidy data) restricts precise assessments. - Lack of asset location data complicates understanding of direct impacts of companies’ activities and supply chains on natural ecosystems. - Significant knowledge gaps on cross-border data make it challenging to assess transnational nature-related risks and impacts on global supply chains. - Inadequate data on interdependencies between ecosystems complicates understanding of cascading effects. - Conceptual challenges remain on substitutability of different ecosystem services across economic sectors (Calice and others 2023). ### Directions and ongoing efforts to improve nature data - NGFS 2023 argues that nature-related data is essential for scenario analysis and effective risk management; data disaggregation is crucial (for example, time-series data on geospatial patterns of biodiversity and ecosystems). - G20 Sustainable Finance Working Group included nature data into its priorities for 2023, recommending improvements in nature and biodiversity data collection, standardization, and assessment. - Task Force on Nature-Related Financial Disclosures (TNFD) is working on setting up a public nature data facility comprised of a nature data catalog, a centralized database, and a distributed access public data facility to address credibility, collection, consistency, and connection challenges (TNFD 2023). ### Methodologies — sample, indicators, and data sources - Sample: 100 largest global banks as ranked by S&P Global, with total assets amounting to $112 trillion as of 2023. - Sample composition: banks from dominantly advanced economies as well as emerging markets; among those, 28 banks are represented, with 20 of those being from China. - Harmful subsidies: - Global estimate of harmful subsidies amounts to approximately $800 billion per year (OECD 2021), based on OECD and IEA data (self-reported by countries). - Sectoral approach focused on agriculture, fisheries, energy, forestry and water sectors (UNEP and BIOFIN 2024). - Identified subsidy characteristics: direct vs indirect transfers; type of subsidy (for example, chemical fertilizer, infrastructure development support); impact on nature and biodiversity; estimated size (if available); estimated impact (price and supply elasticity). - Findings: agriculture, fisheries, mining, and forestry sectors most at risk (“highly harmful subsidies”); manufacturing and energy (power) sectors less at risk (“harmful subsidies”). - Company exposure indicators (MSCI): - Impact proxy: BIODIV_LAND_USE_HIGH_RISK_BUS_PCT — Estimated percentage of operations in business segments with high potential disturbances to land and marine areas (%) (Impact). - Vulnerability proxy: BIODIV_LAND_USE_HIGH_RISK_GEO_PCT — Estimated percentage of operations located in geographies with highly fragile ecosystems (%) (Vulnerability). - Bank loan exposure: - Used Dealogic syndicated loan data; focus on syndicated loans because of data availability. - Assumption: leading banks equally underwrite tranche amounts. - Total outstanding syndicated loans underwritten by the world’s 100 largest banks amount to $18 trillion as of July 2024. - Assumption for indirect exposure: company operations in high fragile ecosystems are completely discontinued, and percentage of operations being affected equals percentage of bank loans being affected. - Equation used: Bank loans' indirect impacts on the ecosystem = sum over i (averaged company impacts_i * bank loans_sector_i) / Total bank loans. - Project finance exposure: - Used Refinitiv data aggregating project finance loans and bonds. - Bank exposure to fragile ecosystems estimated by multiplying sectoral exposure by proportion of sectors associated with fragile ecosystems. - Assessment of banks’ and insurance firms’ policies: - Banks: assessed disclosed policies of the 100 largest global banks across regions; methodology classifies policies as No policy, Weak policy, Moderate policy, Strong policy, Fully fledged policy (see Annex Table 2.1 for criteria). - Insurance firms: assessed disclosed policies of eight major global insurers (based on 2016 Global Systemically Important Insurers list); methodology classifies policies as No policy, Weak policy, Strong policy, Fully fledged policy (see Annex Table 2.2 for criteria). ### Physical risks — exposure and preparedness construction - Data sources: ENCORE (Exploring Natural Capital Opportunities, Risks and Exposure) and MSCI. - Raw exposure index: - Industry-level ENCORE indicators for freshwater ecosystem use, solid waste, terrestrial ecosystem use, biological interference, marine ecosystem use, water use, and other resource use are summed to construct total natural capital use. - ENCORE database examines interdependence of 86 different production processes and 21 ecosystem services, connected to eight types of natural assets. - All ENCORE indicators are measured on a scale with values from 0 to 10. - Company-level MSCI indicators combined: operational exposure to ecosystem degradation; weight of biodiversity and land use key issue in ESG ratings; percentage of total revenue from activities that involve disturbance to land or marine areas; percentage of total assets located in fragile ecosystems. - Indicators converted to a min/max measure and summed to form the total raw exposure score. - Preparedness and mitigation measure: - MSCI data combined on company ESG ratings factors including presence of programs to (1) monitor water risk in operations, (2) reduce operational water usage, and (3) reduce water usage in its supply chain; environmental risk exposure management score relating to lending or underwriting activities; biodiversity risk exposure—management score; operational carbon intensity risk exposure score; climate change physical risk exposure management score; e-waste risk exposure management score; resource consumption in assets management score; ability to manage exposure to transition to renewable energy; ability to manage reliance on packaging materials and efforts to reduce environmental impact; management of exposure risk to carbon intensity of its products; environmental contamination or toxic waste risk exposure management; and water stress risk exposure management. - Each factor converted to a min/max measure and summed to obtain the total preparedness score. - Limitations: - Granular analysis hindered by deficits in data availability and quality. - Incomplete scientific understanding of interlinkages between climate change, nature loss, and magnitude of economic dependency on natural systems. - No consensus on how to quantify economic value added of natural capital; empirical assessments of global impact of nature loss on growth or prices are limited. ### Key statistics and coverage rates - Sample and totals: - 100 largest global banks; total assets amounting to $112 trillion as of 2023. - 28 banks from emerging markets in the sample; 20 of those from China. - Total outstanding syndicated loans underwritten by the world’s 100 largest banks: $18 trillion as of July 2024. - Global estimate of harmful subsidies: approximately $800 billion per year (OECD 2021). - ENCORE indicators scale: values from 0 to 10. - Annex Figure 2.2 — Rate of Coverage (Percent of Companies Reporting): - Exposure Risk Variables: - (i) Land-use exposure: 93% - (ii) Land-use weight: 36% - (iii) Percent of revenues in high risk areas: 93% - (iv) Percent of revenues in medium risk areas: 93% - (v) Percent of assets in high fragile areas: 93% - (vi) Percent of assets in medium fragile areas: 93% - Preparedness Variables: - (i) Water risk monitoring: 32% - (ii) Water reduction program (operations): 32% - (iii) Water reduction program (supply chain): 24% - (iv) Financing environment impact: 6% - (v) Land-use management: 7% - (vi) Carbon emissions management: 91% - (vii) Climate change risk management: 2% - (viii) E-waste management: 1% - (ix) Green building management: 6% - (x) Renewable energy management: 2% - (xi) Packaging waste management: 5% - (xii) Carbon footprint management: 9% - (xiii) Toxic emissions management: 22% - (xiv) Water stress management: 32% *Source: IMF staff.* ### Annex 3. Nature-Related Risks and the Insurance Sector ### Annex 3. Nature-Related Risks and the Insurance Sector ### Overview - The Staff Climate Note’s conceptual framework includes nature-related risks affecting nonbank financial institutions, including insurance firms, via both investments and risk-coverage operations. - The Global Biodiversity Framework (GBF) frames government and stakeholder roles, including the financial community and the insurance industry, with a resource mobilization plan and monitoring framework highlighting insurers’ role (UNEP FI 2023). ### GBF relevance to the insurance industry (Goals A–D) - Goal A: Emphasis on ecosystem integrity, connectivity, and resilience implies insurers need to reduce risks from extreme weather events through preservation and restoration of natural ecosystems; insurers can integrate nature-related considerations into risk management and product development addressing biodiversity loss. - Goal B: Focus on sustainable use of biodiversity and valuation of nature’s contributions addresses decline in ecosystem services, which raises risks related to climate change and natural disasters for insurers; recognizing and integrating the value of nature helps manage and mitigate these risks. - Goal C: Fair and equitable sharing of benefits from genetic resources and traditional knowledge implies insurers must ensure compliance with international agreements (for example, the Nagoya Protocol) and collaborate with Indigenous peoples and local communities, relevant to sectors such as pharmaceuticals and health care. - Goal D: Need for adequate implementation means to close the biodiversity finance gap implies insurers must manage financial risks related to nature loss and support capacity-building and knowledge transfer, particularly in developing and vulnerable regions. ### Asset-side risks for insurers - Types of asset risks: credit, market, liquidity, and solvency risks. - Mechanisms: - Nature loss can impair debt repayment capacity of investee companies via physical shocks (for example, loss of ecosystem services) or transition shocks (for example, new regulations imposing stricter biodiversity protection measures). - Investment losses and potential stranded assets in insurers’ portfolios (stocks, bonds, real estate, and other financial instruments) due to nature-related risks. - Increased volatility from disrupted supply chains and commodity price changes can affect portfolio performance, especially where diversification is insufficient. - Liquidity risks from sudden disruptions in ecosystem services increasing liquidity needs; insurers are generally less exposed to such disruptions than banks. - Losses in asset value and failure of financed companies could challenge insurers’ compliance with solvency requirements. ### Liability-side risks for insurers - Underwriting risk: - Physical impacts of nature loss on real assets across sectors can increase number and magnitude of claims, particularly in property, casualty, and agricultural insurance. - Rising claim costs can strain insurers’ financial resources and lead to higher premiums for policyholders. - Liability claims and litigation: - Lawsuits if firms fail to mitigate their environmental impact or contribute significantly to nature loss; such claims may be included in liability coverage. - Insurers themselves could face litigation for inadequate disclosure or management of exposure to nature-related risks. - Reputational and regulatory risks: - Reputational damage from underwriting or investing in projects harmful to nature could lead to customer attrition. - Stricter environmental regulations can impose fines or restrictions on noncompliant insurers. - Insurance gap risk: - Decline in nature complicates insurability criteria, increases measurement difficulty, and raises correlation between previously independent risks, potentially leading to systemic repercussions and unpredictable maximum losses (ACPR 2024). - Other specific liabilities: claims due to impacts of nature loss on health and on property damage. ### Current policy coverage and corporate practices - Further research needed on major global insurance firms’ corporate and government bond, and equity security holdings to sectors-at-risk to identify significant sources of risk. - Current policies are inadequate across most large insurance firms, with the notable exception of those headquartered in Europe (see Annex Figure 3.1). - Industry policy focus includes supporting a transition to a nature-positive economy via product design, investment policies, and underwriting aligned with environmental sustainability (UNEP FI 2023; WWF and Deloitte 2023). - Examples of industry actions: - Adequate risk assessment and management (for example, due diligence practices). - Sustainable underwriting (for example, excluding or limiting coverage for activities that significantly harm nature). - Investment in nature-positive solutions. - Development of cross-sectoral policies aligned with GBF objectives. - Development of insurance products addressing nature-related risks (for example, liability product design and claims management). ### Research gaps and capacity needs - Need to identify, assess, and prevent financial and nonfinancial risks related to nature loss in the insurance sector (EIOPA 2023). - Further work required on portfolio-level exposures, policy adequacy, and standardized assessment methodologies. ### Scaling up nature finance (context in Annex 4, as summarized here) - Policy imperative: reallocate capital from activities harmful to nature to those beneficial to nature, including development of nature-specific financial products for protection, restoration, and sustainable land management. - GBF targets and finance-related elements: - Target 14: emphasizes “alignment” of financial flows with GBF goals and targets. - Target 15: financial institutions and businesses need to reduce negative impacts and increase positive impacts on biodiversity, including through reporting. - Target 16: supply chain transparency and certification programs. - Target 18: incentives for nature-positive choices, including phasing out harmful subsidies by $500 billion by 2030. - Target 19: mobilizing $200 billion per year from all sources. - Scale of current misaligned flows and financing shortfalls: - Nature-negative financial flows are estimated at $7 trillion per year globally, of which $5 trillion are from the private sector (UNEP 2023). - Financing flows to nature-based solutions were estimated to be $200 billion in 2022. - GBF estimates that meeting Targets 18 and 19 requires closing a gap of $700 billion per year; other studies suggest shortfalls of up to $1 trillion by 2030 (Deutz and others 2020). - Most estimates are approximations given large uncertainties and methodological and data issues. - Obstacles to scaling up nature finance: - Lack of policy support for conservation, restoration, and sustainable use of nature (for example, environmentally harmful subsidies). - Lack of bankable project pipelines (small and localized projects, sectoral fragmentation, inconsistent project assessments, limited technical capacity). - Uncertainties regarding integrity of market mechanisms and limited buy-in from industries and communities. - Insufficient coordination between public and private market participants. - Absence of standardized data and key performance metrics. - Current policy frameworks and market initiatives tend to be focused on risk, overlooking opportunity dimensions and potentially delaying financial innovation and market interest. - Noted mechanisms and limitations: - A wide range of nature financing mechanisms exists (including sustainable debt issuance, blended finance instruments, and debt-for-nature swaps), but credibility, impact, and scalability issues remain for some instruments (for example, debt-for-nature swaps). *Annex 3. Nature-Related Risks and the Insurance Sector, clnea2024002* ### Annex Table 4.1. Overview of Existing Nature Finance Instruments ### Annex Table 4.1. Overview of Existing Nature Finance Instruments ### Common challenges across types of instruments - Design, transaction, monitoring, and due-diligence costs. - Need for a robust pipeline of projects. - Impact reporting and measurement challenges. - Replicability limitations. - Additionality challenges. - Limited participation of indigenous peoples and local communities. ### Use-of-proceed debt instruments (thematic debt) - Distinctive characteristics - Strict commitment by the issuer to invest proceeds raised by the issuance in predefined nature/biodiversity-oriented projects (for example, ocean conservation and development of marine protected areas, blue infrastructure, reforestation), that is, ringfencing. - Issuance documentation - The loan or bond framework's use-of-proceeds section must identify the project's qualifying categories, the facility agreement must have pertinent information and covenants, and the issuer must guarantee accurate reporting for the purpose of a project to be labeled. - While the issuance is not supported by key performance indicators (KPIs), the instrument’s issuance framework includes specific environmental metrics designed to track use of proceeds. - Financial conditions - Repayment takes place though project revenues (usually for corporate debt issuance) or state budget, grants and donor capital (for sovereign or multilateral development bank [MDB]/development finance institution [DFI] debt), or a combination of these. - Key challenges to achieve credibility, impact, and scalability - Costs of monitoring, due diligence, and enforcement. These may be high, depending on the issuance framework’s project characteristics and context-specific nature of projects. - Issuance requires a robust pipeline of projects that can receive funding using the instrument’s revenues. - Economic and methodological challenges to channel revenues to biodiversity protection and restoration, including: - a lack of income-generating projects at scale, - technical difficulties in aggregating nature-related projects, - the absence of corporate and sovereign issuers’ nature protection and restoration plans and targets, - a lack of nature-related input and output data, - the slow development of reporting standards and financial sector policies on nature. - Capturing and quantifying nature-related impacts may be technically complex. Impact KPIs are often skewed toward nature-based solutions (for example, forestry projects for carbon capture) that are easier to report on. - Regulatory and institutional preconditions for instruments to function at scale - Existence of a robust information architecture (nature-related data, reporting standards, taxonomy) and assurance standards (for example, ex-post verification) to ensure credibility and standardization. - An institutional setting and regulatory framework that enable permanent, systematic, and systemic engagement with Indigenous Peoples and Local Communities and ecosystem building. - Strong state capacity enabling systematic provision of high-quality technical assistance and capacity building; interministerial coordination and a high degree of public accountability, including environmental agencies and financial regulators formally integrated into private sector-led initiatives. - A large investor base with appetite for atypical assets characterized by highly uncertain returns that materialize over a long period of time; challenges arise from misalignment between institutional investors’ conditions and the financial characteristics of nature-related projects. - Footnotes and explicit numeric thresholds noted in text - The minimum bond issuance size typically required by most institutional investors can be a hurdle for issuers (minimum of $200 million in developed debt markets, preferably $1 billion versus $100 million in emerging debt markets). - Institutional investor conditions include competitive returns, diversification, standardized investment terms, credit assurances, liquid secondary markets, and scale (large transaction sizes). ### Outcome-based debt instruments (sustainability-linked debt) - Distinctive characteristics - Objective is to achieve specific nature-related targets, with a coupon price structure based on predefined KPIs; no ringfencing or use-of-proceed criteria. - Each KPI is usually supported by a trigger event that can change the instrument's price structure (usually a coupon increase) if not met. - Issuance documentation - No restrictions on use of proceeds, but issuance is supported by a commitment to achieve predefined targets (for example, decrease in nitrogen secretion levels in the maritime industry, reintroduction of threatened species, increase in native forest coverage). - Environmental integrity can be supported by designs that combine loan repayment penalties contingent on KPIs measured relative to benchmarks (for example, native forest coverage) or contingent financial conditions tied to conservation rather than extraction. - Financial conditions - Repayment takes place through project revenues and the issuer’s general revenues (for corporate and sovereign issuance). - Key challenges to achieve credibility, impact, and scalability - Limited scalability potential considering the lack of nature transition planning (at both corporate and sovereign level). - Issuer sustainability credentials depend on ability to meet KPIs; penalties must be set high enough to motivate issuers to achieve targets. - To achieve material impact, penalties associated with missing the target need to provide sufficient incentive for private issuers to fulfill targets. ### Blended finance - Distinctive characteristics - Broadly, strategic use of a limited number of concessional resources to mobilize financing from public and private financial institutions to achieve climate-related impacts. - Includes pooled investment funds combining capital from various entities (public and private); MDBs, DFIs, or sovereign/sub-sovereign entities may make equity or mezzanine investments or give guarantees to de-risk and crowd in private investors. - May include specific facilities (earmarked allocation of public funding) and bonds, such as conservation bonds (debt instruments in which proceeds finance development projects that generate a return and interest payments directly financing conservation activities instead of being paid to investors). - Financial conditions - Aims to reduce credit (by elevating to investment-grade finance), currency, and political risks, and resolve information asymmetry issues. - Credibility is enhanced by selection of underlying debt instruments and their certification process. - Key challenges to achieve credibility, impact, and scalability - Complexity of arrangements may lead to limited replicability. - Public sector plays a strong role in risk mitigation, concessional, and grant funding, entailing capacity and technical assistance funding needs. - De-risking may represent an overly expensive use of government investment capacity in some cases. - Environmental and financial credibility of underlying debt instruments is crucial. ### Debt-for-nature swaps (DNS) - Distinctive characteristics - Instruments to promote specific investments and policy actions, usually nature conservation-oriented, and provide some debt relief (rather than comprehensive debt relief or restoring debt sustainability) on a country’s external public debt. - Recent arrangements have involved bilateral debt (Seychelles) and commercial debt (Belize, Barbados, Ecuador, Gabon). - Some DNS have benefited from a political risk guarantee (for example, US Development Finance Corporation), which has allowed them to benefit from a higher credit rating (ceteris paribus). - Financial conditions often involve debt buyback with replacement of a eurobond (or portion of bond notes across multiple eurobonds) with blue or green bonds (with a haircut), whose proceeds are used for nature-related investments, and with additional clauses related to mandatory environment-related policy measures. - Key challenges to achieve credibility, impact, and scalability - Small-scale, bespoke financial arrangements, and limited potential debt reduction (excludes LICs without market access, which contain 22 percent of the world’s biodiversity). - Mechanisms are complex and time consuming; high transaction costs; hard to replicate. - Unclear additionality; DNS do not address root causes of nature loss. - Limited impact on fiscal space to date. - Historically, DNS have not provided comprehensive debt relief or restored debt sustainability. - Concerns over democratic governance of marine or other natural resources, debtor country ownership, and relative power of domestic authorities in environment-related policy choices. - Long value chain of industry players and limited involvement of local stakeholders generate or perpetuate political economy challenges over use of natural resources and limit environmental impact potential. - Limited participation of indigenous peoples, local communities, and civil society in the definition and implementation of DNS. - Lack of systematic monitoring, accountability, and evaluation of impacts of DNS. - Use of “tied aid” approaches favoring creditor country interests in use of freed-up resources. - Some DNS have relied on tax havens (for example, the Belize DNS), raising questions about tax evasion and scalability. - Loan arrangements within DNS programs have included large interest margins for participating NGOs, with unclear or unspecified use of funds. - Credit guarantees (for example, political risk guarantees) may be required to make DNS attractive to debtor countries, generating potential for socialization of losses. - Risk of privatization of profits and socialization of losses if environmental and debt reduction objectives are not achieved. - Regulatory and institutional preconditions for instruments to function at scale - Debtor country must have strong ownership of and sovereignty over its fiscal and natural resources. - Debtor country must have the institutions and physical and informational resources to conduct high-quality impact assessments regarding conservation measures. - Debtor countries should not be vulnerable to the global financial cycle, which can more than offset any improvement in debt sustainability achieved by a DNS. - The correlation between the relative need for ecosystem protection and sovereign debt vulnerability should be sufficiently high. - Additionality principle is met when debt relief does not reduce amount of other funds provided by the creditor, and environmental measures implemented by the recipient country would not have occurred without the swap; data must be available to assess whether this principle is met. - Special purpose vehicles and companies used in DNS have in some cases relied on tax havens, raising questions about tax evasion and scalability. - Credit guarantees may be required for attractiveness, but generate potential for socialization of losses. ### Policy considerations and recommendations (Financial sector focus) - Scaling up nature finance requires assessing characteristics of existing financial instruments (including risk-sharing tools and concessional finance) and their potential impact and relevance across different contexts, income levels, and ecological and financial needs. - Important priorities - Develop instruments that incorporate robust conservation incentives for sovereign, quasi-sovereign, and private actors. - Closely consider credibility, impact, and scalability issues related to debt-for-nature swaps. - Develop strategies for nature-based finance in the context of the GBF, countries’ national biodiversity strategies and action plans, taxonomies, and integrating nature-oriented transition plans. - Build technical capacity, engage indigenous peoples and local communities, and implement robust monitoring and evaluation mechanisms. - Principles for approach - Use a comprehensive and adaptive approach that considers the diverse financial instruments available, their relative impacts in different contexts, and their linkages to climate. - Avoid a one-size-fits-all approach given heterogeneity of instruments across ecosystem protection and restoration priorities, availability of international financing and domestic resource mobilization, and other factors. - Address nexus between climate change mitigation and adaptation and nature conservation (for example, forest conservation, restoration of coastal mangroves). - Work with communities and scientific experts in designing policies and financial models that incorporate the climate–nature nexus. - Financial sector data, disclosure, and metrics - Global collaboration is essential to develop and ensure access to reliable and comprehensive data on nature for scenario analysis and effective risk management and to address financial flows’ misalignment with nature. - Standardization of nature-oriented transition plans, disclosures, and taxonomies across sectors and regions is important to support robust physical and transition risk assessment. - Design and use metrics on ecosystem state and vulnerability, and interdependencies (with an emphasis on species and ecosystem-level indicators). - Policy initiatives should consider geographical location, dependence and impacts on nature across sectors, and supply chain traceability. - Enhanced global and country-level accounting of public and private financial resources employed for nature conservation and restoration will be critical. - Demand for quality nature data calls for substantial technological advances in data generation and analysis to improve data credibility, collection, consistency, and connectivity. - The work by international standard setters, including the International Sustainability Standards Board (ISSB) and the International Organization of Securities Commissions (IOSCO), is critical in leading the work on strengthening nature-related disclosures. - Role of financial regulators and supervisors - Regulators and supervisors can support alignment of the financial sector with nature-related risks and goals and facilitate a constructive feedback loop between national biodiversity strategies and action plans, nationally determined contributions, corporate and financial institution transition plans for nature. - While acting within core mandates of financial stability, market integrity and investor protection, regulators can support a shift in capital allocation from harmful to nature-beneficial activities and projects, affecting investment, lending, and underwriting while managing risks in capital markets. - Such transition could support the implementation of the Paris Agreement and the GBF. - Roles for nonfinancial and financial institutions - Entities, especially those faced with high levels of nature-related risks, should identify and mitigate adverse impacts on nature, understand their impacts, and align activities and assets with global commitments; policy processes should involve indigenous peoples and local communities. - Nonfinancial and financial institutions (banks and non-bank financial institutions), including investment fund managers and insurance firms, should consider integrating nature-related risks into practices (shareholder and client engagement, risk management, investment strategy), starting with those most affected by nature-related risk. - Transparency on subsidies - Governments need to transparently disclose subsidies; the lack of detailed data on geographic and subindustry breakdowns of harmful subsidies, and by company size, poses significant hurdles to assessment and potential phasing out of harmful subsidies, although empirical analysis remains possible based on available data. *Source: IMF staff.* ### Annex 1). Therefore, introducing a consistent transparency framework that is comparable across countries is ### Annex 1 ### Transparency framework and policy alignment - Introducing a consistent transparency framework that is comparable across countries is essential to aligning economic policies and activities with the international objective of halting and reversing nature loss. - Consistent, comparable transparency can support international coordination of economic policy responses to nature-related risks and pressures. ### Insurance sector and nature-related risks - See Annex 3 on the insurance sector and nature-related risks. - The relationship between nature loss and financial sector exposures (including insurance) is identified as a material area for analysis and policy consideration. ### Key bibliographic references (excerpted from source) - Abram, Nerilie, Jean-Pierre Gattuso, Anjal Prakash, Lijing Cheng, Maria Paz Chidichimo, Susan Crate, Hiroyuki Enomoto, and others. 2019. “Framing and Context of the Report.” In Hans-Otto Pörrtner, and others (eds.). IPCC Special Report on the Ocean and Cryosphere in a Changing Climate pp. 73–129. Cambridge, UK, and New York, NY, USA: Cambridge University Press. doi: 10.1017/9781009157964.003 - Alami, Ilias, and Adam D. Dixon. 2024. The Spectre of State Capitalism: Critical Frontiers Theory, Research, and Policy in International Development Studies. Oxford: Oxford University Press. - Autorité de Contrôle Prudentiel et de Résolution. 2024. “French Insurers Facing the Risks Associated with Biodiversity Loss: Challenges and Lessons Learned for the Insurance Industry and Supervisors.” Analyses et Synthèses, No. 159. Autorité de Ccontrôle Pprudentiel et de Rréesolution, Paris. - Ayres, Robert U., and Allen V. Kneese. 1969. “Production, Consumption, and Externalities.” The American Economic Review 59 (3): 282–97. - Balmford, Andrew, Rhys Green, and Ben Phalan. 2015. “Land for Food and Land for Nature?.” Daedalus 144 (4): 57–75. - Black, Simon, Antung Liu, Ian Parry, and Nate Vernon. 2023. “IMF Fossil Fuel Subsidies Data: 2023 Update.” IMF Working Paper No. 23/169. International Monetary Fund, Washington, DC - Boldrini, Simone, Andrej Ceglar, Chiara Lelli, Laura Parisi, and Irene Heemskerk. 2023. “Living in a World of Disappearing Nature: Physical Risk and the Implications for Financial Stability. ECB Occasional Paper No. *IMF | Staff Climate Notes 59, page 74.* ### 333. Frankfurt: European Central Bank. ### 333. Frankfurt: European Central Bank. ### Major topics and thematic coverage - Central banks and climate/nature-related financial risks, including: - “Green swans’: Central Banks in the Age of Climate-Related risks.” Banque de France Bulletin 229 (8): 1–15. 2020. - NGFS reports: NGFS. 2022a; NGFS. 2022b; NGFS. 2023a; NGFS. 2023b; NGFS. 2023c; NGFS. 2024a; NGFS. 2024b. - Banque de France and De Nederlandsche Bank working papers exploring biodiversity loss and financial stability (e.g., Svartzman et al. 2021; Hadji-Lazaro et al. 2024; De Nederlandsche Bank. 2023; Prodani et al. 2023). - Nature-related financial risk frameworks, disclosures, and supervisory guidance: - Task Force on Nature-related Financial Disclosures (TNFD). Recommendations, September 2023; Sector Guidance Version 2.0, June 2024. - Financial Stability Board (FSB). 2016 list of global systemically important insurers (G-SIIs). FSB. 2024 stocktake on nature-related risks. - EIOPA. 2023 staff paper on Nature-Related Risks and Impacts for Insurance. - Biodiversity finance, instruments, and policy options: - Debt-for-Nature / Debt-for-Climate swaps: Chamon et al. 2022 (IMF Working Paper 22/162); Paul, Svartzman, and Weber. 2023; Nedopil, Yue, and Hughes; Carbon Brief. 2024. - Financing nature and closing biodiversity financing gap: Deutz et al. 2020; Finance for Biodiversity. 2024 Guide on Biodiversity Measurement Approaches. - Scaling blended finance and public policy on finance for biodiversity: NGFS. 2023c; OECD. 2021; UNEP. 2024b. - Empirical and modeling contributions on nature–economy interactions: - Global Earth-economy and integrated assessment approaches: Johnson et al. 2021; Salin, Kedward, and Dunz. 2024. - Ecosystem tipping points and planetary boundaries: Lenton et al. 2008; Lenton et al. 2019; Richardson et al. 2023; Marsden et al. 2024. - Land carbon sink decline and carbon budget analysis: Ke et al. 2024. - Valuation and services of ecosystems and biodiversity: Costanza et al. 2014; Gallai et al. 2009; Pascual et al. 2017. - Impacts of biodiversity and environmental change on economic activity and welfare: - Pollution and labor/productivity studies: Chang et al. 2019; Hanna and Oliva. 2015. - Impacts of ecosystem services on economic activity and risk reduction (e.g., mangroves, wetlands): Hochard et al. 2019; Sun and Carson. 2020; Ward et al. 2016. - Agricultural and pollinator-related risks: Klein et al. 2007; Millard et al. 2023; Murphy et al. 2022; Silva et al. 2021. - Measurement, data gaps, and monitoring: - Trends, gaps, and opportunities in species distributions: Oliver et al. 2021; Daru and Rodriguez. 2023. - IPBES and IPCC joint outputs and glossaries: IPBES. 2019; IPBES. 2020; IPBES. 2024; IPBES, IPCC. 2021; Pörtner et al. 2021; Pörtner et al. 2023. - SEEA and national accounting for stocks and flows: OECD. 2023. - Legal, institutional, and governance dimensions: - Rights, litigation and legal opinions: Commonwealth Climate and Law Initiative. 2024; Rodriguez-Garavito and Boyd. 2023; Setzer and Higham. 2024; Higgins, Short, and South. 2013. - Institutional and economic theory references relevant to environmental policy: North. 1991; Vatn. 2005; Neumayer. 2013. - Macroeconomic, financial stability, and policy analyses connected to climate and nature: - IMF contributions: IMF. 1991; IMF. 2022; IMF. 2023; IMF. 2024; Gardes-Landolfini et al. 2023. - Systemic risk, financial networks, and core-periphery structure: van der Leij, in 't Veld, and Hommes. 2016. - Inflationary and price effects from climate and biodiversity shocks: Kotz et al. 2024; Weber et al. 2024. ### Representative empirical and modeling outputs cited - IMF Working Paper 22/162: Chamon, Klok, Thakoor, and Zettelmeyer. 2022. “Debt-for-Climate Swaps: Analysis, Design, and Implementation.” - NGFS Occasional Paper: Ranger et al. 2023. “The Green Scorpion: The Macro-criticality of Nature for Finance – Foundations for Scenario-Based Analysis of Complex and Cascading Physical Nature-Related Risks.” - Banque de France Working Paper Series No. 826: Svartzman et al. 2021. “A ‘Silent Spring’ for the Financial System? Exploring Biodiversity-Related Financial Risks in France.” - De Nederlandsche Bank Occasional Studies, Volume 21-2: De Nederlandsche Bank. 2023. “The economic and financial stability repercussions of nature degradation for the Netherlands: Exploring scenarios with transition shocks”. ### Policy-relevant themes and approaches reflected in the references - Scenario analysis and stress testing for nature-related physical and transition risks (NGFS, DNB, Banque de France, Ranger et al. 2023). - Disclosure and measurement frameworks (TNFD Recommendations September 2023; TNFD Sector Guidance Version 2.0 June 2024; Finance for Biodiversity measurement guidance). - Use of blended finance and public instruments to mobilize private finance for biodiversity and nature-based solutions (NGFS. 2023c; Deutz et al. 2020; UNEP. 2024b; CPI. 2024 Toolbox). - Role of debt-for-nature and debt-for-climate swaps as instruments linking debt relief and biodiversity/climate outcomes (Chamon et al. 2022; Paul et al. 2023; Carbon Brief. 2024; Nedopil et al.). - Importance of integrating biodiversity and nature into macroeconomic and financial stability assessments (IMF publications; NGFS conceptual and scenario guidance). *Embedded in Nature: Nature-Related Economic and Financial Risks and Policy Considerations — IMF STAFF CLIMATE NOTES 2024/002* --- _Source: https://www.imf.org/-/media/files/publications/staff-climate-notes/2024/english/clnea2024002.pdf_