Assessing the Materiality of Nature-Related Financial Risks for the UK

First-of-its-kind analysis, led by the Green Finance Institute (GFI), has quantified the impact that nature degradation, both domestically and internationally, could have on the UK’s economy and financial sector.

The report “Assessing the Materiality of Nature-Related Financial Risks for the UK”, references that the deterioration of the UK’s natural environment could lead to an estimated 12% loss to GDP by the 2030s. This is put in the context that the financial crisis of 2008 took around 5% off the value of the UK GDP, while the Covid-19 pandemic cost the UK up to 11% of its GDP in 2020.

The analysis, produced with technical input from the Environmental Change Institute at the University of Oxford, the University of Reading, the UN Environment Programme World Conservation Monitoring Centre, and the National Institute of Economic and Social Research, direction from the Department for Environment, Food and Rural Affairs, HM Treasury and the Taskforce on Nature-related Financial Disclosures (TNFD), and input from the Financial Conduct Authority, concludes that the risks posed by nature degradation amount to a material cost that has not been sufficiently factored into financial and business decision-making by financial institutions and corporates. The report’s authors raise concerns that this approach is leaving the economy and financial sector exposed.

The report is structured around three key sections:

• A first section sets out the “UK Nature-related Risk Inventory” (NRRI) that was drawn up by the authors of the report to complement existing risk inventories including the UK National Security Risk Assessment (NSRA) and the UK Climate Risk Assessment.  The NRRI is a new creation which the report proposes could be incorporated in its current form into the NSRA’s “live” risk register. 
• A second section sets out a “Risk-based Analysis” which concludes with an assessment of the economic value at risk for specific sectors of the economy based on the identified nature-related risks. 
• Finally, a section containing “Scenario-based Analysis” presents an assessment of key nature-related risk scenarios developed and applied to the UK economy (to produce GDP impact projections) as well as more narrowly on the UK’s financial institutions.

As for the scenario-based analysis, the report bases its projections on three key risk scenarios:

• a UK domestic scenario assessing continued chronic risks including soil health decline, water pollution, water scarcity, air pollution and biodiversity loss, combined with shocks (“acute risks”) such as heatwaves, droughts and wildfires;
• an international supply chain scenario that focuses on impacts to supply chains, especially in respect of food supplies; and
• a health scenario focusing on the possibility of future pandemics and lockdowns triggered by anti-microbial resistance or livestock and poultry diseases.

At the sectoral level, it comes as no surprise that the agricultural sector is proportionately facing the largest risk. However, given their significance to the economy, the report references that the sectors most exposed in absolute monetary terms are the services and manufacturing sectors – in large part due to international supply chain risks. Furthermore, “stress-tests” carried out on the portfolios of the UK’s seven largest banks while producing quite widely varying results, with exposure greatest for banks with greater credit exposure to sectors that are more at risk, suggest that the banks’ domestic loan portfolios are likely to be materially affected by nature-related risks. The impact, it is argued, will result in material adjustments to the value of banks’ portfolios before the end of the decade.

As explored in our “Nature and Biodiversity Round-up”, nature and biodiversity have at times appeared to be the ‘poor cousin’ of climate change, generally attracting less policy, media, and legislative attention. This report emphasizes that nature-related risks are as detrimental to the economy as those from climate risks, and that there are strong feedback effects between the loss of natural capital and climate change.

In response to these findings, the GFI and technical team make several recommendations for the public and private sectors. These include disclosures of nature-related risks (including under TNFD) and taking urgent action to meet the targets included within the Global Biodiversity Framework.

In our latest podcast, Slaughter and May’s Head of Environment and Climate Change, Samantha Brady, speaks to Helen Avery, the GFI’s Director of Nature Programmes, to explore what the report's findings mean for corporates and financial institutions and the practical steps for organisations to consider in order to address nature-related risks and opportunities. Search for ‘Horizon Scanning Slaughter and May’ on your preferred podcast app to listen to the episode.