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Welcome to the Sustainable Finance Guernsey podcast page.
Guernsey Finance is a joint government and industry initiative tasked with promoting and connecting Guernsey as a leading international finance centre.
Named as one of the Green Finance Guide's top 10 must-listen sustainable finance podcasts, our broadcasts feature news, insights and discussion about green and sustainable finance, and the contribution which Guernsey, as a global leader in green finance, is making in this space.
Rosie 0:04
Hello and welcome to the latest Sustainable Finance Guernsey podcast which is rated one of the top 10 most useful sustainable finance podcasts by Green Finance Guide. Guernsey is one of the jurisdictions leading the way in sustainable finance and as part of this podcast series we will be speaking to and learning from some of the leading global figures in the field. My name is Rosie Allsopp. I'm Communications Director at Guernsey Finance. We're the promotional agency for Guernsey's financial services industry. And today I'm delighted to welcome Abhisheik Dhawan who is Sustainable Finance and Partnerships Specialist at the United Nations Capital Development Fund. Welcome Abhisheik, it's great to have you with us.
Abhisheik 0:49
Thank you, Rosie. It's a pleasure to be here.
Rosie 0:52
So let's kick off. Can you introduce yourself to our listeners, maybe tell us a little bit about yourself and your background, and the work that you do at the UN Capital Development Fund?
Abhisheik 1:04
Thank you, Rosie. So let me start by talking about what UN Capital Development Fund is about. UN Capital Development Fund is a unique UN agency headquartered in New York, with the objective of serving the least developed countries, and our work spans both development and finance, as you can see, in our title, its impact capital for development. And over the last few years, UNCDF has taken pride in developing innovative blended finance vehicles that can help solve some of the most difficult developmental problems using finance as a vehicle, especially in the least developed country contracts. As far as my background is concerned, I've spent about 21 years expanding financial markets, working for banks like Standard Chartered, as well as in the space of climate change, working for organisations like ClimateWorks Foundation India office, as well as here at UN Capital Development Fund. In financial markets, but also in climate change mitigation and adaptation. My work at UNCDF spans partnerships, but also creating new vehicles that can solve difficult problems. And what we're going to talk about today is part of that work that I'm doing here for the last four years.
Rosie 2:32
Thank you very much. So what we're basically going to focus on today is the climate insurance linked resilient infrastructure financing, catchily titled but reduced down to CILRIF. And that's a new approach to climate resilience. And can you tell me Abhisheik what's the difference to the existing insurance solutions? And what are the advantages of this new approach?
Abhisheik 2:57
Sure. So existing solutions, as we know from the recent events, especially here in the US, in California, etc, we know that there are insurance solutions, primarily directed at homeowners to help them recover from extreme climate events. But what we have seen more recently, is that the insurance premiums have gone up dramatically for those products. The products that exist in the market are annually renewed. So you buy, and climate insurance, the premium will reset next year, up or down. And so that brings in a lot of uncertainty for the buyers. It also brings in a lot of uncertainty for the sellers. What we're trying to do with CILRIF is looking at other markets, things like project finance, which are more long term in nature, and trying to learn from them and see how we can adapt it into the space of climate finance, to look at a long term fixed-price climate insurance product that can then be repriced, to take into consideration reduce risk or change risk if cities invest, and this product is not directed at homeowners but more at cities, to reward them for reduced risk if they end up investing in resiliency. So think of it more like a health insurance product, but a long-term health insurance product. And if you exercise, the insurance premiums get reduced.
Rosie 4:29
That's a really interesting concept. And you know, as we know, climate change is an evolving challenge. How does CILRIF take into account the uncertainty and the variability associated with climate-related risks over the long term?
Abhisheik 4:47
Sure, and I think that's the problem we really are trying to solve for. So let me look at it from two different perspectives. First of all, the risk that we will encounter over the next few years is already in our environment. At least that is what the scientists in the CILRIF voluntary working group have mentioned. What they’re saying essentially is that what we do today or in the next 10 years or 15 years, would have a very limited impact on how climate really changes over the next 20 to 30 years. The events that are going to occur in the next decades are probably the result of the last 300 years of our actions.
The products in the market for climate insurance are supposed to be pricing the risk correctly. And if they are pricing them correctly, then even an annually renewed product is incorporating the risk of climate events expected in the future. Now the challenge with that is the first question is whether they are doing so. But if they are doing so, then the long term fixed-price product would not be very different in terms of pricing, from an annual perspective. So let me explain through an example. So if it costs you $100 in annual premiums to buy a one year climate insurance, if you're going to take a 15 year climate insurance, your annual premium, should maybe go to 105 or 110 and not go to 200, but you could be locked in for a longer time. What it does is that if you go long term is it sets a baseline. And then when a city invests in resiliency, the premiums come down, and as the city knows what the baseline was, they can make a case for such investments in resiliency. However, with the current approach of annual pricing of insurance, that's not possible because the baseline changes every year, and you have no control as a buyer on that baseline.
Rosie 6:41
Interesting. So how do community engagement and stakeholder involvement play a role in the design and implementation of CILRIF projects?
Abhisheik 6:52
So we spent now almost three and a half years, and we created a voluntary working group of individuals representing different stakeholders who believed in finding a solution to this problem. And we've been meeting almost on a monthly basis to discuss the problem and come up with this solution that we that we are talking about today. And this involves people representing the insurance industry, the investors, so pension funds and asset managers, couple of cities, aid agencies, and consulting firms as well as engineering firms who all will have different roles to play if this product were to be developed and then implemented. So let me talk a little bit about what different players have roles in. So the insurance industry really has to think about how can they price a long term insurance because that is not something which exists. And what we learn is that the current models might not be ready to do so. So we need to look at other industries to look at where else are we pricing long term risks, without having a full certainty on that? And let me take an example from more recent times in the financial markets. We all know that Federal Reserve has increased interest rates over the last 18 months, dramatically, right. And many banks, even in a developed market, like the US were caught off guard. And so was it complete uncertainty? Was there a way to price that interest rate risk? Yes, there was. There is an interest rate risk curve, which prices interest rates, and which banks and other financial institutions use to benchmark their investments or assets. But that is uncertain, still, right. It's as uncertain as a flood. So we can look at those kinds of markets and see if we can adapt or learn from those markets, which are uncertain, but at the same time, we price those products still, and see how we can adapt it to the insurance industry, but also, investors can look at to price climate risk.
Rosie 9:18
That's so interesting. So further to that, what role do governments and international organisations in the private sector play in promoting and supporting CILRIF initiatives?
Abhisheik 9:33
So there will be different levels of roles that different organisations will have to play. The first role would be for donors to look at this approach and see if this fits into their objective of making the planet more resilient. And what I'm trying to say is that we worry a lot about future losses due to climate events, and the objective of this approach is that those are already there. So the only thing we can do about that is to make communities more resilient. But we need to incentivise them to invest in resiliency. And there are multiple challenges on why there is less incentive to invest in resiliency. And I can talk about a couple of them, which we've learned over the course of last three years of these discussions, is, first of all, there is so much uncertainty on future events. So stakeholders have limited incentive investing in resiliency or investing in projects that will improve their resiliency, because they don't know if those are good investments and their shareholders will like that. Right. So institutions as well as governments are always thinking about, I'm going to make this $100 of taxpayers money into a seawall. But we don't if know the seawall will ever be used, right. So there is less incentive to make that investment.
Rosie 11:11
Yeah.
Abhisheik 11:12
And if you don't make those investments, but if the events happen, then the cities or communities will have to pay more than what they would today at that point to recover. And they will not be prepared for a recurring of the same event again. But that's very difficult to make a case to taxpayers, as well. So this approach, hopefully, will try and put a number on the impact that happens when you make that investment. Secondly, stakeholders also because they have a four year, five year cycle in their roles, it's difficult for them to think about a 15 year or a 20 year investment, because the return on their investment would not show during their term.
Rosie 12:02
Yes, yeah. And I can see that that's an issue. Absolutely. So in what ways can CILRIF help bridge the gap between infrastructure needs and available financial resources, particularly in developing countries?
Abhisheik 12:19
So how CILRIF intends to fill the need is essentially by trying to find a way to reward communities that invest in climate resiliency, which means that their risk is getting reduced, essentially. And when risks get reduced, then investors have more incentive to invest. The big challenge is putting a value to the risk. Because right now, whether it's in developing countries or in developed countries, in most communities, the investors are pricing risk purely on credit ratings, or primarily on credit ratings. And credit ratings have, it is very difficult to sort of incorporate climate risk and credit ratings and differentiate one community from another community if the credit rating is the same. So let's take an example of say, the United States, where the United States has a credit rating, and any city in the United States goes to borrow money from the market, it will probably get the same pricing. Now, we all know that the risks in certain communities is much more than others. Let's say in more inland communities less compared to the cities which are more surrounded by water. But the pricing doesn't reflect that. It also doesn't reflect if two communities which are both next to the water, but one city has taken the initiative of investing in climate adaptation which is in the other city. And this approach will solve for that problem because the city that that is doing more investments in adaptation, or is clearly figuring out what are the kinds of climate events they can expect over the next 15, 20 years. And then in a very strategic manner, design that adaptation programs that will reduce that specific risk.
Rosie 14:18
So risk assessment is a crucial part of climate insurance linked financing. So how are those risks evaluated? And how can potential investors be convinced of the effectiveness of the insurance mechanisms? And maybe more generally, can we talk about how can we attract more private investment to support climate resilient infrastructure?
Abhisheik 14:42
Sure. So in our conversations with investors or asset managers, when we speak to them about how are they pricing for climate risks, most of the time, the answer is that it's more of a term role. Right? It depends on individual to individual, how they look at a particular transaction, and then how much credit or debit they do to the risk premium for that particular transaction based on the information being provided by the borrowing entity. With CILRIF, what we would be doing is we would work with engineering firms and private sort of evaluators, so that we have a third party mechanism of defining the resiliency interventions, working in close discussions with both insurance providers and asset managers so the insurance companies that will provide the insurance for such a product and asset managers who want to invest in those communities define the resiliency interventions, and then a third party will go and validate the value of the resiliency once it is implemented, and then validate it visa vie the baseline or the original expectation of the reduced risk. So, let's take an example. So let's say a city, I can use the example let's say New York City is looking to buy insurance from extreme events like Sandy, for the next 20 years. They will come and sit down with the insurance company and investors who invest in bonds of the city. And then together define what are the two or three or four initiatives that the city needs to invest in the next three years, which will help the city reduce climate risk from those Sandy kind of events. That will also help define what is the price of the 15 year or a 20 year insurance product that will protect the cities or certain infrastructure within the city when such an event happens. Right What kind of payout will happen etc. So it will be a co creation of a product as well as resiliency interventions. And then we will start pricing the value of those interventions. So let's say New York City wants to build a wall around the Hudson, we will look at how much will the financing costs reduce for the city when that wall is up and running based on certain modeling exercises that will be undertaken at the beginning. Once the wall is there, we will provide them the benefit. But we might not have a perfect answer in the first transaction. It will be an iterative process. As we start doing those transactions, we will then take those products and try to sell them to the market in tranches. And that will also help us understand where is the market pricing visa vie the board the models are pricing in terms of reduced risk. And that will create a new market essentially, for pricing of climate risk, just like you have a market on interest rate risk.
Rosie 17:56
Great. So you've got some initial cities lined up to trial this. Can you talk about those a little bit and what you hope to see from those initial programs there and maybe walk us through how the program would work in a given city?
Abhisheik 18:13
Sure. So we've been engaged with a couple of cities, but one conversation has been more evolved. So I'll talk more about that with the city of Makati, which is part of the Manila metropolitan region. And what we are trying to do with them is that they have flood risk from extreme flooding events. And we are looking at the data from a 200 year, 100 Year, 50 year, and a 10 year flood cycle, and use those events to price insurance product for them to do a payout as well as, so the insurance will normally have two kinds of products in such scenarios. One is a parametric insurance and one is the indemnity insurance. The parametric insurance is really a payout, a lump sum payout when an event that is defined happens. Which helps the city sort of make emergency response. Right, so relocating people, building some really key investments immediately, etc. Indemnity insurance will be used for infrastructure that is in the city sort of governance framework that needs to be rebuilt when over the next six months. So let's say that there are certain key buildings that get impacted due to flooding, but it's not an emergency. And that payout will happen say over the next three to six months based on evaluation by independent evaluators. So that's how the insurance product will work. Now, so first we have to define what are the buildings which will be covered, what is the parametric insurance payout, whether we want to cover from a 50 year flood cycle, 100 year flood cycle, or cycle 200 year flood cycle because their insurance premium will depend on what the city is defining and its ability to pay, right? And then we will look at working with the city and the insurance company will look at what are those three or four investments that the city will need to make, which will make it more resilient? And let me take an example. So for example, there is flooding on the roads that occur when such a flooding event happens which impacts vulnerable community. So we will look at defining which are the roads where the damage is the most from the past events? And then if we were to elevate them further, would it reduce flooding, or whether we make the drainage system wider, whether it will reduce flooding? Look at how much it will cost to do so, and then get the city to agree to it. Working with the modelers, we will then look at how will it impact the risk premium of insurance. So whether there will be a 50 basis, 100 basis, reduction in premium when the city has made those investments. We will also assess with the city its financing needs for the next five years. And do the same exercise with that. So let's say the city borrows at 10% today, but once the city has invested in those elevated roads or broader drainage system, how much would that pricing go down to? So this is what we are doing with them, defining these things, and working with different teams within the city to come up with answers to these questions because one of the key challenges that we have learned working with cities is that there are different departments making different interventions, but they don't necessarily talk to each other in a very strategic manner. And I'll give you an example of that. So for example, it has been difficult to find out how much money did the city need, when it was impacted by a similar event in the past to relocate people? We don't have that answer. We also don't have the answer to what was the mechanism used by the city, when it decided to elevate certain key road systems within the city's sort of geographical span? And what went behind it? How did they make that decision? With this approach we might not have answers to those but we are using some scientists and an engineering firms to define that now. So going forward, the city will have those answers. But they don't exist right now because different teams don't talk to each other. So with this approach, what has happened is they've brought together a group from multiple stakeholders that are working together.
Rosie 22:47
So interesting. So how can CILRIF contribute to achieving broader sustainability goals? And does it contribute to climate change mitigation objectives as well?
Abhisheik 22:59
So we definitely are contributing or hope that CILRIF will contribute to broader sustainability goals, because I think we are looking at it from a very adaptations standpoint. And we know that, you know, there is mitigation there is adaptation, the focus has been on an adaptation because we feel that there is a lot of work happening on mitigation and adaptation has not been a big priority over the last few years. And that's fine. There's nothing wrong with that. We start at some point and we go to the next point, our focus is when we say sustainability, I think we are looking at sustainability of cities, from the perspective of long term in their ability to respond to extreme climate events that we know are going to happen. And that's the main contribution. Now, what we have also learned in the last few, three, four years, we've been working on this exercise is that there is a lot of confusion around what are the mitigation interventions and what are the adaptation interventions that cities are making? And sometimes there is overlap. So some of the interventions, so let's say we talk about mangroves a lot. Right. And mangroves is one of the interventions that can be both on mitigation and adaptation. So mangroves is definitely helping the city remain more green, which is a mitigation element right. So less emissions, it is also an adaptation intervention because it could reduce flooding in the city. And so with CILRIF the resiliency intervention that we talk about in CILRIF could mean investing in mangroves because it will reduce flood risk for the city. And that can be also measured against mitigation, but the thinking is more focused on resiliency. So we will focus on what are the interventions that will make the city more resilient, but that could have a cool benefit on the mitigation side.
Rosie 25:03
That's absolutely fascinating. I'm afraid that's all we've got time for today. But thank you so much Abhisheik for your time and for your insights. It's been fascinating to learn about CILRIF. And thanks also to our listeners for tuning in. We have quite a back catalogue of interviews and panel discussions on the Sustainable Finance Guernsey podcast channel. And you can check those out by searching for Sustainable Finance Guernsey wherever you get your podcasts. And if you enjoyed today's episode, please leave us a review or a comment we love to get your feedback. You can also find us at Sustainablefinanceguernsey.com and weareguernsey.com and you can interact with us on Twitter, @SFGuernsey and @weareguernsey. You can hear more news and developments relating to what's happening in Guernsey's finance industry, you can check out the We Are Guernsey podcast on your preferred platform. And we will also have links to Abhisheik and the UNCDF in our show notes as well. And we'll be back soon with another edition of the Sustainable Finance Guernsey podcast and until then, it's goodbye from Guernsey.
Transcribed by https://otter.ai