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Biosphere Value Nature

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commentary Economic returns from the biosphere Industrial companies and environmentalists are traditional opponents. But conflict may not be necessary: there is money to be made in projects that embrace environmental goals. Graciela Chichilnisky and Geoffrey Heal 8 Several large ‘dirty’ corporations, including British Petroleum, Monsanto, Dupont, Compaq, 3M, S. C. Johnson, Dow Chemical, Weyerhauser and Interface, are improving their financial performance by cleaning and ‘greening’ their opera
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  Nature © Macmillan Publishers Ltd 1998    8 Graciela Chichilnisky andGeoffrey Heal Several large ‘dirty’ corporations, includingBritish Petroleum, Monsanto, Dupont,Compaq, 3M, S. C. Johnson, Dow Chemical,Weyerhauser and Interface, are improvingtheir financial performance by cleaning and‘greening’ their operations 1 . Last year,Costanza et al. 2 suggested that environmentalservices have great value, without indicatinghow this value can be realized. Here we pro-pose various economic instruments thatwould allow investors to obtain economicreturns from environmental assets, such asforests and landscapes, while ensuring theirconservation. G. C.’s proposal 3 for the cre-ation of an international financial institutionto promote this process was officially adoptedby the group of 77 developing countries andby China at the Kyoto meeting last December.The environment’s services are, withoutdoubt, valuable. The air we breathe, the waterwe drink and the food we eat are all availableonly because of services provided by the envi-ronment. How can we transform these valuesinto income while conserving resources?We have to ‘securitize’ (sell shares in thereturn from) ‘natural capital’ and environ-mental goods and services, and enrol marketforces in their conservation. This meansassigning to corporations — possibly by public–private corporate partnerships —the obligation to manage and conserve nat-ural capital in exchange for the right to thebenefits from selling the services provided.E. O. Wilson 4 identifies “the need to drawmore income from the wildlands withoutkilling them, and so to give the invisiblehand of free market economics a greenthumb”. Privatizing natural capital andecosystem services is a vital step, as it enlistsself-interest and the profit motive in thecause of the environment. Regulation canthus be confined to the more difficult cases. Investing in the biosphere In 1996, New York City invested between $1billion and $1.5 billion in natural capital, inthe expectation of producing cost savings of $6 billion–$8 billion over 10 years, giving aninternal rate of return of 90–170% in a pay-back period of 4–7 years. This return is anorder of magnitude higher than is usually available, particularly on relatively risk-freeinvestments. How did this come about?New York’s water comes from a watershedin the Catskill mountains. Until recently,water purification processes by root systemsand soil microorganisms, together with fil-tration and sedimentation during its flowthrough the soil, were sufficient to cleanse thewater to the standards required by the USEnvironmental Protection Agency (EPA).But sewage, fertilizer and pesticides in the soilreduced the efficacy of this process to thepoint where New York’s water no longer metEPA standards. The city was faced with thechoice of restoring the integrity of the Catskillecosystems or of building a filtration plant ata capital cost of $6 billion–$8 billion, plusrunning costs of the order of $300 millionannually. In other words, New York had toinvest in natural capital or in physical capital.Which was more attractive?Investment in natural capital in this casemeant buying land in and around the water-shed so that its use could be restricted, andsubsidizing the construction of bettersewage treatment plants. The total cost of restoring the watershed is expected to be $1billion–$1.5 billion. Hence an investment of $1 billion–$1.5 billion in natural capitalcould save an investment of $6 billion–$8 bil-lion in physical capital. These calculationsare conservative, as they consider only onewatershed service, although watersheds(which are typically forests) often provideother important services, such as the supportof biodiversity or carbon sequestration.The commercial value of biodiversity canbe partly captured by biological prospectingdeals such as that between Merck and CostaRica’s InBio (see below). Joint implementa-tion offers the possibility of commercializingthe carbon sequestration role, allowing car-bon emitters in industrial countries to becredited with emission reductions that they support financially in developing countries.In other words, it allows them to buy abate-ment credits through bilateral trade. Severalsuch deals have been brokered by the GlobalEnvironment Facility.The implementation of a global multi-lateral carbon-emission market, as proposedby the United States in the context of theKyoto negotiations, will provide a morerobust way of selling sequestration servicesby allowing credits for carbon sequestrationthat can be cashed in the emissions market.In principle, then, a forest ecosystem can sellmany different services. Recent provisions inCosta Rica recognize this: forested conserva-tion areas are credited with income for theservices that they provide both as watershedsand as carbon sinks, at a rate of $50 perhectare for the former and $10 per hectarefor the latter. This is sufficient to tip thebalance in favour of conserving land of marginal agricultural value.Agriculture provides another example of the returns from investing in biodiversity topreserve genetic variation. In the early 1970s,the ‘grassy stunt’ virus posed a major threatto Asia’s rice crop, but was defeated by thetransfer of an immunity-conveying genefrom wild rice to commercial varieties. In1976, another threatening disease wasdefeated by transferring to commercial vari-eties the immunity carried by certain strains Economic returns from the biosphere Industrial companies and environmentalists are traditional opponents. But conflict may not be necessary: there ismoney to be made in projects that embrace environmental goals. commentary NATURE | VOL391 | 12 FEBRUARY 1998 629 Attractive prospect: conservation of the environment can provide economic benefits for investors.  Nature © Macmillan Publishers Ltd 1998    8 of wild rice, preserved for just this reason by the International Rice Research Institute inthe Philippines. The returns to this invest-ment in conservation are incalculably large. ‘Securitizing’ the biosphere To address its water problem (see above),New York City has floated an ‘environmentalbond issue’, and will use the proceeds torestore the functioning of the watershedecosystems responsible for water purifica-tion. The cost of the bond issue will be met by the savings produced: the avoidance of a capi-tal investment of $6 billion–$8 billion, plusthe $300 million annual running costs of theplant. The money that would otherwise havepaid for these costs will pay the interest on thebonds. New York City could have ‘securi-tized’ these savings by opening a ‘watershedsavings account’ into which it paid a fractionof the costs avoided by not having to buildand run a filtration plant. This account wouldthen pay investors for the use of their capital.This same financial structure is already used in securitizing the savings fromincreased energy efficiency in buildings. Thisprocess involves issuing contracts (securi-ties) entitling their owners to a specified frac-tion of the savings. These contracts are oftentradeable, issued to the providers of capital,and can be sold by them even before the sav-ings are realized. This is a way of makinginvestment in saving energy attractive, anddoes not imply any transfer of ownership of the underlying asset. The US Department of Energy has a standard protocol for estimat-ing the savings from enhanced energy effi-ciency in buildings. Several financial agen-cies are willing to accept these estimates of energy savings as collateral for loans.The introduction of market forces couldbe taken a step further. Imagine a corpora-tion managing the restoration of New York’swatershed, with the right to sell the servicesof the ecosystem. In this case, the service isthe provision of water meeting EPA stan-dards. Ownership of this right would enablethe corporation to raise money from capitalmarkets to meet the costs of conserving NewYork’s watershed. If the issue was biodiversi-ty, rather than a watershed, the corporationwould own and sell (or license) the rights tointellectual property derived from the bio-diversity. Such a framework would harnessprivate capital and market forces in the ser-vice of environmental conservation. Financing the biosphere How significant a contribution could securi-tization and privatization make to con-serving the biosphere? Many importantwatersheds are threatened by development:not only that of New York, but also the water-sheds of Rio de Janeiro, the basin of the riverParaibo do Sul in the Mata Atlantica coastalforest in Brazil (a biotically unique regionwhose conservation would convey benefitsfar in excess of the value of the water provid-ed), and the watershed for parts of BuenosAires. Arrangements of the type discussedhere could be applied to the watersheds of some of the world’s largest cities. In the Unit-ed States, more than 140 cities are consider-ing watershed conservation as an alternativeto water purification. Not only could this becost-effective, it could also stimulate conser-vation and a coming together of marketforces with the environment.The EPA recently estimated that ensuringsafe and adequate drinking water for theUnited States will need infrastructure invest-ment of $138.4 billion over the next 20 years.The equivalent figure worldwide will be inthe order of trillions of dollars. In the contextof the other pressing infrastructure needs of developing countries, this amount is almostcertainly not attainable by the public sector.Watershed conservation could substantially cut the investment needed, and securitiza-tion or privatization could ensure much of the balance is provided by the private sector.What do privatization or securitizationoffer for other types of ecosystem? Daily  5 identifies the following social and economicfunctions of ecosystem services: purificationof air and water; mitigation of floods anddroughts; detoxification and decompositionof wastes; generation and preservation of soils; control of most potential agriculturalpests; pollination of crops and natural vege-tation; dispersal of seeds; cycling of nutri-ents; maintenance of biodiversity; protec-tion of coastal shores from erosion; protec-tion from harmful ultraviolet; partial stabi-lization of the climate; and provision of aes-thetic beauty and intellectual stimulation.Which of these systems are amenable tothe approach described here? One prerequi-site is that the ecosystem must provide goodsor services to which a commercial value canbe attached. Watersheds satisfy this criteri-on: drinkable water is becoming increasingly scarce, and the availability of such water isone of the main constraints on healthimprovements in many poorer countries.Commercial value of an ecosystem serviceis necessary but not sufficient for privatiza-tion, and some of that value has to be availablefor appropriation by the producer. An impor-tant issue in deciding whether ecosystem ser-vices can be privatized is the extent to whichthey are public goods. These are serviceswhich, if provided for one are provided for all,making it hard to exclude those who do notcontribute to their costs from benefiting fromtheir provision. So providers cannot appro-priate all their returns, and for this reason wecannot be sure markets will allocate them effi-ciently. Water quality is a public good in thesense that if it is improved for one user it isimproved for all. But water consumption isexcludable, so the watershed case involvesbundling a public with a private good. Knowl-edge, an intermediate category and one of theservices of biodiversity, has to be commercial-ized carefully, as shown by the need for protec-tion such as patents and copyrights.Ecotourism is an ecosystem service thatcould be treated by securitization or privati-zation. It is natural to expect that privateinvestment will be forthcoming to financethe conservation of a region with significantecotourism potential, in return for the rightto some of the revenues. The growth of pri-vate game reserves is one obvious manifesta-tion. There is a close economic resemblanceto watersheds, in that the preservation of theecosystems supporting ecotourism is a pub-lic good and benefits all. But the hotel roomsand guide services are private goods whosevalue is enhanced by the public good.The commercial value of diversity isdemonstrated by the International RiceResearch Institute, which preserves geneticmaterial for a range of strains (which is usefulin providing immunity to new diseases, forexample). Costa Rica and the pharmaceuticalcompany Merck have made an innovativedeal in which Costa Rica conserves an area of forest, supported by a payment from Merck;Merck has access to the results of biologicalprospecting in this forest; and Merck will pay Costa Rica a royalty on products developedfrom the prospecting. The deal represents afirst step in providing a conservation agency in a developing country with a financial stakein the intellectual property of its biodiversity.Can biodiversity be securitized to encour-age private capital to conserve genetic varia-tion and capture some of its commercialvalue? The only product of Incyte, a biotech-nology company, is a database of informationabout genetic structures. This informationhas been heavily processed: biodiversity in itsnatural state represents unprocessed geneticinformation, which is less commercially usable. There may be a role for private capitalin establishing a ‘pre-processing’ centre forgenetic information from developing coun-tries. Such a centre could conduct some pre-liminary analysis and sell the right to use it,with a royalty to the srcinating country.For certain types of ecosystem service,privatization or securitization are real possi-bilities. They could be central in realizing theeconomic value of the underlying asset andso providing powerful economic incentivesto conserve it for the future. Graciela Chichilnisky and Geoffrey Heal are at the Columbia University Earth Institute, 535 West 116th Street, New York, New York 10027-6902,USA.e-mail: gmh1@columbia.edu 1. Business Week  10 November 1997, pp. 98–99.2.Costanza, R. et al.Nature  387, 253–260 (1997).3.Chichilnisky, G. Development and Global Finance: The Case for an International Bank for Environmental Settlements  (UNDP-UNESCO Office of Development Studies, New York, 1996).4.Daily, G. (ed). Nature’s Services: Societal Dependence on Natural Ecosystems  (Island, Washington DC, 1997).5.Wilson, E. O. The Diversity of Life  (Norton, 1993). Acknowledgements. Research support from UNESCO and GEF. commentary 630 NATURE | VOL 391 | 12 FEBRUARY 1998
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