Future of global environment hinges on surging flows of private capital

On a paper by Hilary F. French, WorldWatch Institute paper no. 139, 28 February 1998

WORLDWATCH PAPER NO. 139: Investing in the Future: Harnessing Private Capital Flows for Environmentally Sustainable Development, by Hilary F. French

International Policy Reforms Needed to Protect Environment and Economies in Developing Countries

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More than $1 trillion of private capital has moved into the developing world over the last decade—a financial force with growing power to make or break the health of the environment and the economy, reports a new Worldwatch Institute study. Long-term economic success will only come from investments that harvest natural wealth in ways that leave the resource base intact for future generations, says Hilary F. French, Worldwatch’s Vice President for Research and author of Investing in the Future: Harnessing Private Capital Flows for Environmentally Sustainable Development.

In the wake of Asia’s economic crisis, many experts are now warning that private financial flows into the developing world have outgrown existing financial regulatory structures. But few people are asking to what extent these capital flows have undermined the economy’s ecological foundations.

As investors search the world for the highest return, they are often drawn to countries with bountiful natural resources and weak environmental laws, a potentially disastrous combination for the environment and the economy, cautions French. But she also notes that international investment can benefit the environment. While private investors are helping to deforest the Brazilian Amazon and are financing coal-fired power plants in China, they are also underwriting eco-tourism ventures in Costa Rica and wind power projects in India.

The report identifies a number of strategies for shifting investment out of environmentally damaging activities and into the cleaner technologies and enterprises of tomorrow. As the process of devising international policies for a globalizing world gets under way in earnest, protecting the natural resource base that underpins the global economy merits a prominent place on the agenda, says French.

Private investors poured $244 billion into the developing world in 1996, nearly six times as much as public aid that year, according to World Bank estimates cited in the report. These private flows declined to $175 billion in 1997 as investors pulled their money out of Asia, according to preliminary estimates by the International Monetary Fund.

Much of the money now flowing into developing countries is underwriting projects that are potentially damaging to the environment, according to the report. International investment in resource extraction, for example, is flowing rapidly into many countries with valuable natural assets such as primary forests, mineral and petroleum reserves, and biological diversity. From 1991 to 1997, international spending on exploration for nonferrous metals grew six times in Latin America, almost quadrupled in the Pacific region, and doubled in Africa, notes the report. The major oil and gas companies are also increasingly striking deals-and oil-in new locales such as the Central Asian republics and the South American rainforests.

With their own forests badly depleted, Asian companies are now vying for vast timber concessions in Africa, Asia, and Latin America, threatening some of the world’s last remaining untouched forests. Brazil, Cambodia, Congo, the Democratic Republic of Congo (formerly Zaire), Guyana, Nicaragua, Papua New Guinea, the Solomon Islands, and Suriname are among the countries that have granted or are on the brink of granting rights to log large tracts of primary forests.

Countries rich in natural wealth all too often squander this bounty by investing in ill-conceived projects that mine natural resources for the short-term economic gain of political elites, at the expense of local peoples and future generations. A wiser long-term strategy would be to funnel capital into economic activities that preserve natural endowments, as a number of innovative experiments now under way aim to do, says French. Bioprospecting and ecotourism initiatives in Costa Rica and a sustainable forestry venture in Brazil offer promising models.

The spectacular growth of East Asian countries in the early 1990s was fueled by manufacturing, a strategy many other developing countries are now trying to replicate. The manufacturing takeoff is a two-edged sword, says French. International investment can facilitate access to new technologies that minimize energy use and waste generation, helping developing countries leapfrog over the most damaging phases of industrialization. But these funds can also bring highly polluting industries that jeopardize human and ecological health.

Hazardous industries, such as battery manufacturers, chemical companies, and computer manufacturing and assembly facilities, are becoming increasingly concentrated in developing countries as a result, where safety practices and environmental enforcement and monitoring are rudimentary at best. The report cites a review of 22 computer-related companies based in industrial countries, which found that more than half of their collective manufacturing and assembly operations-processes intensive in use of acids, solvents, and toxic gases-are now located in developing countries.

Major multinational automobile companies are also expanding into the emerging markets of Asia, Eastern Europe, and Latin America. If current projections hold, some three-quarters of the auto factories to be built over the next three years will go up in these regions. If developing countries acquire auto-centric transportation systems along the lines of the U.S. model, there will be grave consequences for local air pollution and food security as well as global climate change, warns French.

Private companies are also building infrastructure such as power plants, telecommunications networks, water treatment plants, dams, and toll roads in many corners of the globe. Inflows of foreign funds for infrastructure construction climbed from $2.6 billion in 1990 to an estimated $22.3 billion by 1995.

The numerous power sector projects now underway have particularly serious implications for the environment, says French. International investors are lining up to participate in the construction of the more than 500 mid-sized power plants that China plans to construct by 2010, many to be fueled by polluting coal. Already the world’s second largest emitter of carbon, China could well surpass the United States and top the list by 2010. International capital is also helping finance the massive Three Gorges Dam on China’s Yangtze River, which is expected to flood 60,730 hectares of land and 160 towns, forcing the resettlement of some 1.3 million people.

Other international investors are channeling money into smaller-scale, less-centralized approaches to meeting the energy needs of the developing world.

The Triodos Bank, a Dutch investment bank, launched a Solar Investment Fund in late 1996 to finance loans for household solar electric systems in rural communities in Africa, Asia, and Latin America lacking access to grid-supplied power. And energy-efficient, compact fluorescent light bulbs are increasingly manufactured in the developing world through joint ventures. In 1995, China made some 80-100 million of these energy-efficient bulbs-more than any other country.

International investors are funneling money into other environmentally friendly products and processes as well. Demand for pollution control and pollution prevention technologies is growing at double-digit rates in many parts of Asia, Eastern Europe, and Latin America as countries in these regions begin to face up to the magnitude of their clean-up challenges.

French recommends a range of actions by investors, governments, and citizens groups to steer private capital flows in a more environmentally sustainable direction. She calls on the World Bank and bilateral export promotion agencies to strengthen environmental requirements in their private sector programs, and on the International Monetary Fund to use its clout to halt the destruction of natural capital. She also urges commercial banks and stock market investors to better scrutinize environmental performance, in the face of accumulating evidence that environmentally progressive companies generally perform better than companies with large environmental liabilities.

Stronger environmental standards are needed at both the domestic and international levels, according to Investing in the Future. The report advises developing countries to improve environmental laws and enforcement, to reduce subsidies to environmentally harmful activities, and to write environmental rules into the regulations governing their newly established stock markets.

The study also calls for international environmental standards to be integrated into international trade and investment agreements-including the Multilateral Agreement on Investment now under negotiation.

The pressure for change is coming from a number of quarters, says French. Around the world, public awareness is growing of the damage that business-as-usual practices inflict on the environment and the economy, and grassroots environmental groups are gaining strength. Only by shifting private investment capital out of environmentally damaging activities and into the technologies and enterprises of tomorrow will it be possible to turn the tide of global ecological decline.