The carbon premium

Fund management group Bedlam held a lunch-come-seminar just after Easter under the provocatively worded title Is Carbonism a form of McCarthyism.

This was concerned not with the ridiculous tendency in the media to hound Prince Charles for taking long distance flights while wanting to be taken seriously as an environmentalist, but rather with the general assumption, adopted with almost religious and unquestioning fervour, that carbon emissions are the cause of global warming and therefore must be curbed.

The theme of the seminar was that we do not know the cause of global warming and, therefore, more scientific study is needed before we go charging off in one direction.

Committing to carbon reductions on the basis of incomplete evidence which might subsequently be found to be wrong could lead to a massive mis-allocation of capital.

While I have some sympathy with the premise that global warming could be all to do with the sun and nothing to do with greenhouse gases, I am not sure I agree with the conclusion that it is best to do nothing.

The counter argument surely is that spending money on carbon reduction is like paying the premium on an insurance policy – a sacrifice now to reduce the possibility of disaster later on.

It may not work, carbon may be irrelevant and the disaster may happen anyway but, given the incomplete state of current knowledge, it is nevertheless the logical and prudent course of action to take.

The money is no more wasted than the premium on an insurance policy can be thought to have been wasted when no claim arises.

The insurance industry is at the heart of this debate of course because it may well end up having to pay the bills if climate change does bring in its wake more frequent and violent wind storms, higher sea levels leading to increased coastal erosion, more tropical rainfall bringing increased flooding, and higher temperatures causing more virulent tropical diseases.

But the industry also faces a separate problem and one which was highlighted at a recent Insurance Times sponsored conference on the subject. Climate change could have almost as big an effect on insurance company assets as it will on liabilities. The erosion it should worry about most is not that of the East Anglian coastline, but the erosion of the value of its assets, in particular the shares and corporate paper in which it invests the premium income.

And the point is that this could happen whether or not carbon is the climate change culprit.

The concern expressed was that the companies in which insurers invest will be adversely affected by climate change and their value will fall as a result. Companies will increasingly fall prey to a whole range of new risks.

These are, in part, bigger versions of those thought of in a household context – flooding, storms and business interruption – but extend to consideration of what would happen, for example, if an unusually high tide disabled the transport links into Felixstowe and indeed the port itself, accounting as it does for a significant proportion of our seaborne trade.

All those just-in-time manufacturing processes could fall apart. Closer to home, share prices could be hit by the costs of pollution and having to abandon certain activities, having to meet the cost of becoming carbon neutral and possibly losing a competitive edge to less rigorously regulated companies overseas.

There is also the risk of a customer backlash, such as boycotts, reputational damage more generally if a company comes to be seen as a bad corporate citizen, and the risk to individual directors and officers that shareholders will take legal action against them if their companies have failed to take steps to meet the climate change challenge.

All of this is hypothetical, but that does not mean it can be ignored, even if there were a belief that carbon emissions are not the cause of the problem. The risk is there and has to be managed.

The insurance industry more than any will understand this. IT

Anthony Hilton is financial editor of the London Evening Standard