The role of the banking system in preserving biodiversity
Dr Nikolaos Papanikolaou, Senior Lecturer in Finance, discusses the need for banks to invest in projects that promote biodiversity.
1 September 2023
If we are to protect and preserve biodiversity, we need banks to invest in projects that promote biodiversity. The development of a new index that will assess if biodiversity is at risk can help banks operate in ways that support this purpose.
The protection of biodiverse ecosystems was at the top of the agenda at the United Nations Climate Change Conference (commonly known as COP27) in Sharm el-Sheikh, Egypt, in November 2022.
During the Biodiversity Day, the World Wildlife Fund for Nature (WWF) released a report that revealed the disastrous effects of human activity on biodiversity.
The role of banks
The level of biodiversity loss is dangerous for the future of our planet because biodiverse ecosystems are natural carbon sinks that lose their efficiency when they become threatened. One of the key challenges nowadays for banks worldwide is to prioritise the Sustainable Development Goals (SDGs). The latter can promote economic growth,
while protecting the planet and generate more resources for biodiversity conservation. Despite the key role of the banking system in financing green projects in recent years - such as renewable energy projects – banks have yet to develop a robust framework to address the impact of their lending activity on biodiversity.
Bank financing in the below activities can harm biodiversity and distort the fragile balance in critical ecosystems:
- ill-conceived infrastructure development
- improper land use changes
- fossil fuel energy development
- monoculture agricultural production
It is fundamental for banks to cease extending credit to investment projects that can threaten biodiversity. Such projects can, amongst other things, negatively affect indigenous and traditional local communities, harm wilderness areas, and fragment critical ecosystems.
Analyse and measure
To preserve and promote biodiversity, it is a prerequisite to analyse how banks can develop biodiversity-friendly credit products and financing instruments. Banks must acquire the necessary tools to help them measure the impact of their financing activities on biodiversity and to set solid targets to reduce this impact.
In this context, banks must understand how to integrate natural resource management and natural capital allocation into their investment strategies. More specifically, they must effectively link bank credit to the concept of biodiversity. This implies that some common standards should be put in place along with a shared understanding of what the underlying biodiversity assets are, what they represent in respect to the natural capital and resources, and what their estimated monetary values are (ie biodiversity must be ‘monetised’).
Banks must acquire the necessary tools to help them measure the impact of their financing activities on biodiversity and to set solid targets to reduce this impact.
A financing index
In one of my current research projects, I propose the construction of a biodiversityfriendly financing index, which accounts for all the various factors such as:
destruction of local habitats water usespecies diversityecological stability, and others which are all related to unsustainable, extractive and socially harmful activities that can threaten biodiversity and cause potential damage to critical ecosystems.
This is a composite index, which is based on individually weighted factors through the development of dynamic optimisation algorithms. The proposed index will reflect the assessment of the biodiversity risk of an investment project within a dynamically changing environment: the higher the value of the index, the higher the risk and vice versa. In other words, the index is built upon a mathematical programming technique that looks for the minimum risk path.
My research is expected to deliver an integrated tool for banks and create a new paradigm in the field of financing biodiversityfriendly investment projects to promote social and environmental justice.
The proposed weighted composite index can be used as a part of the green and responsible banking strategies that most of the banks around the globe have lately adopted. The Financial Technology (FinTech) industry can also employ the index to harness digital technologies to embrace biodiversity conservation projects.
Championing people and planet
The challenges today’s banking system faces from a societal perspective are unprecedented. Banks must ensure they align with environmental and social values and demonstrate global responsibility. They must evolve their business models to incorporate sustainability, social justice, equality and respect to local communities and individuals.
To become a champion for people and the planet, reaching a sustainable future that is built to last; and deliver on the responsible banking principles to change the world for everyone.
by Dr Nikolaos Papanikolaou - Senior Lecturer in Finance, Newcastle University Business School
Article originally published in Reach magazine, September 2023