Climate change is one of the world’s most pressing issues, with significant implications on the global economy. Governments around the world will need to work collectively in order to achieve net zero emissions by 2050. The United Nations’ Sustainable Development Goals serve as a sound blueprint to address global challenges related to climate change, global warming and environmental degradation.
Humans have been the driving force of rising greenhouse gas (nearly half of all global GHG emissions in 2020) emissions over the last century. The top seven emitters of GHGs (China, the United States, Russia, the European Union, Indonesia and Brazil) accounted for . Countries, businesses and financial institutions must work together to achieve common goals.
With the introduction of environmental, social, and governance (), climate-related disclosures are in the spotlight and now being mandated by governments for both public and private companies. The recognition of ESG in the investment decision-making process has become extremely controversial, despite the long-term benefits it can bring to society.
Now, let’s discuss how climate change, GHG emissions and ESG impact the global economy.
What Is Climate Change?
Climate change refers to the long-term changes in the earth’s temperature and weather patterns. These changes can be a result of both natural causes and human activity. It is evident that humans are the largest contributors to climate change due to the burning of fossil fuels like coal, oil and gas.
Climate scientists have acknowledged that humans are responsible for nearly all global warming over the last 200 years. Global warming is described as an increase in the global mean surface temperature (GMST). This measurement in earth science calculates the earth’s average temperature over sea and land. Although global warming and cooling have alternated throughout history, global warming has been particularly persistent over the last half century.
The industrial revolution in the mid-19th century was the precursor to the rapid rise in the earth’s temperature. From the early 1800s to the mid-19th century, coal was the world’s most dominant energy source. The burning of fossil fuels largely contributes to the warming of the earth’s temperature. According to NASA’s Earth Observatory, the average global temperature of the earth increased by 1.1 degrees Celsius (or 1.9 degrees Fahrenheit) since 1880. However, the majority of the earth’s warming has occurred since 1975, at a rate of roughly 0.175 degrees Celsius per decade.
Introduction to GHG Emissions
GHGs are gases that trap heat in the earth’s atmosphere. The earth’s atmosphere absorbs, reflects and filters energy from the sun, commonly known as the “Greenhouse Effect.” The most common GHGs are carbon dioxide, methane and nitrous oxide.
The earth’s various systems (Atmosphere, Biosphere, Hydrosphere, Cryosphere) can be incredibly complex and change with time. In earth science, the interactions and changes are known as “feedbacks.” There can be both negative and positive feedback loops, and adaptation is important as society continues to evolve.
A negative feedback reduces the effects of climate change, while a positive feedback loop reinforces the effects. An example of negative feedback can be the “Greening Effect.” This process indicates that an increase in carbon dioxide in the earth’s atmosphere spurs plant growth and life. While this can be true, the “Greening Effect” can evolve and become a positive feedback loop as nitrogen plays a more important role in plant growth.
There are different ways that corporations can track and measure their GHG emissions. Established in 2001, the GHG Protocol is the most widely recognized framework to track and measure emissions. It provides a standard for companies to develop a GHG emissions inventory. In 2016, 92% of Fortune 500 companies used GHG Protocol to respond to CDP on climate-related disclosures. With that in mind, the disclosure of GHG emissions in investment decision making will eventually become the norm.
Emissions disclosures and classifications continue to rapidly evolve. The introduction of Scope 1, Scope 2 and Scope 3 emissions aim to provide a more holistic way of categorizing and quantifying GHG emissions. Nonetheless, there is still much work to be done in order for the global economy to reach net zero emissions by 2050.
Environmental, Social and Governance (ESG)
ESG is a lens that investors apply to companies that consider environmental, social and corporate governance factors. Over the last two decades, ESG has become a central component to the investment industry. At the same time, it has also faced its fair share of criticism.
Sustainability and corporate governance in the investment community continues to gain prominence. With the establishment of Principles for Responsible Investment ( ) in 2005, there is growing support for investors incorporating ESG into their decision-making processes. The main goal of PRI is to foster leadership and accountability while working toward achieving the UN’s Sustainable Development Goals.
ESG-rating agencies have also played a crucial role in asset managers allocation strategies. Some of the world’s most recognized ESG-rating agencies include Sustainalytics, MSCI (NYSE:MSCI), ISS and S&P Global Ratings. Over the last decade, ESG assets have soared, and they are projected to reach $53 trillion by 2025.
Blackrock (NYSE:BLK) is currently the largest ESG asset manager in the world. The company has been under fire in recent years, as investment decision-making processes are swayed by political interests. Elon Musk has been a big denouncer of ESG, calling it a “scam” after Tesla (NASDAQ:TSLA) was booted from the S&P ESG Index in May 2022. However, the company has since been added back to the index in June 2023 after providing more climate-related disclosures.
Over the years, ESG has become both extremely politicized and highly controversial. While it is important to set ambitious sustainability goals, they should not be compromised or swayed by political interests. Socially responsible investing practices can be done right and can be a net benefit to society and the stakeholders that they represent.
Impacts of Climate Change on the Global Economy
Climate change continues to have unprecedented impacts on the global economy. It will not only affect economic prosperity of individual countries but also the prospects for international trade. According to the Swiss Re Institute, climate change could wipe 18% of global gross domestic product (GDP) by 2050. Some of the hardest hit sectors will include agriculture, manufacturing and tourism.
The rising intensity and frequency of severe weather events can pose serious risk to global transportation infrastructure. For example, the transportation sector accounted for one-fifth of global GHG emissions in 2021. As the global economy looks to electrify the transportation sector, lowering GHG emissions can limit damage to existing infrastructure and supply chains.
In 2022 alone, natural disasters cost the global economy $313 billion in losses. Much of those losses are a result of extreme heat waves and droughts, with approximately 31,300 people losing their lives in the process. Climate change poses systemic risks to the economy and global supply chains. Therefore, it must be addressed as global energy consumption continues to rise alongside increased technological innovation.
On the date of publication, Terel Miles did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.