Designing an environmental impact bond for wetland restoration in Louisiana
Introduction
Coastal communities around the world are grappling with the effects of climate change and natural hazards, such as more frequent and damaging storms, erosion, and sea level rise (Lin et al., 2016). Densely populated deltas face increasing risks due to ecological degradation and land subsidence (Tessler et al., 2015). Many communities have begun planning to reduce these threats. Those plans increasingly include restoration of natural infrastructure – wetlands, forests, beaches, dunes, etc. – due to their flood risk reduction, wind and wave dampening capabilities and additional ecosystem services (Cheong et al., 2013, Rao et al., 2015). As the evidence base on the risk-reduction benefits from natural infrastructure also grows (Narayan et al., 2016), there is a potential for these benefits to be effectively measured to inform policy decisions that increase resilience.
However, the demand for public funds to reduce flood risks already far outstrips availability. Conservation and restoration projects globally also face a shortage of funds that public and philanthropic funding cannot address alone (Huwyler et al., 2014). Thus, innovative financing tools that allow using existing resources more efficiently and have a potential to attract private capital to restore natural infrastructure are needed to support coastal resilience.
Private investors could play a major role in closing more than half the gap between what is needed and what is available by profitably funding projects in conservation and resilience (NRDC et al., 2016). The recent growth of the conservation finance and green bonds markets indicates a potential to tap into large pools of capital to accelerate the use nature-based coastal resilience (Huwyler et al., 2014, Credit Suisse Group AG and McKinsey Center for Business and Environment., 2016). Yet there is still a need for pilot transactions that properly align incentives across private and public entities, rigorous performance metrics for natural infrastructure linked to resilience outcomes, and better understanding of the potential benefits and risks for different parties.
In this paper we study how an Environmental Impact Bond (EIB) could help address these challenges. EIBs are Pay-for-Performance (PFP) or Pay-for-Success (PFS) transactions intended to finance environmental interventions whereby contracting parties pay for, or are paid for, services based on pre-specified outcomes (Fig. 1). As in the original Social Impact Bonds (SIB) model, this usually involves public agencies working together with private capital and non-profits to fund cost-effective solutions. The public entity pays a return to investors only if the intervention meets or exceeds previously agreed-upon performance targets (Nicola, 2013). This model was piloted by DC Water in 2016 to finance green infrastructure projects (Goldman Sachs, 2016).
We develop a new EIB model and test its feasibility in the Mississippi river delta, where large-scale wetland restoration is being implemented. In the last 80 years Louisiana has lost 1880 square miles of coastal lands. Another 1750 square miles are projected to disappear between now and 2060 in a future without action (CPRA, 2017). To address this challenge and reduce the negative impacts of storms and hurricanes, the State’s Coastal Protection and Restoration Authority (CPRA) was established as the single state entity with authority to articulate a clear statement of priorities and to focus development and implementation efforts to achieve comprehensive coastal protection for Louisiana. CPRA has developed a robust Coastal Master Plan (CMP) that is guiding actions to sustain their coastal ecosystem, safeguard coastal populations, and protect vital economic and cultural resources.
CPRA’s 2017 CMP requires $50 billion over the next 50 years to achieve the State’s protection and restoration goals. The CMP seeks to reduce risks from storm surge flooding and rebuild wetlands to sustain critical wildlife and fisheries habitats. It includes a prioritized list of coastal restoration projects, featuring marsh creation using dredged material as the single largest category of project costs (roughly $18 billion). While Louisiana is expecting significant oil spill-related funds for restoration in the next 15 years, the State has not yet identified funding for all of the projects called for in its CMP. CPRA has identified about $20 billion from known funding sources (Davis and Boyer, 2017). Moreover, as each day passes construction costs and sea levels continue to rise as the delta subsides. Even under the most optimistic scenario, the price tag for restoring an acre of Louisiana wetlands will likely increase significantly in the next 20 years (Water Institute of the Gulf, 2016). In short, the State needs to both make efficient use of known resources and identify additional sources to support the work that needs to be done.
In the proposed EIB model, a public entity issues a bond to provide upfront capital for a PFP contract to restore a degrading wetland. Restoration project outcomes tied to wetland sustainability determine the total payment received by the restoration contractor and investors. If the project exceeds an expected level of performance during the monitoring period, on top of a baseline rate, a ‘over-performance payment’ is triggered. In our model the latter is covered by an additional payor who is a beneficiary of wetland restoration ecosystem services. Examples of services to this additional payor of the bond could be lower flooding risk, avoided damages and business disruptions.
Based on the analysis for Louisiana, we conclude that this model provides an opportunity to lower the cost of wetland restoration by attracting a new investor base and has the potential to generate new resources for restoration by engaging project beneficiaries. The structure proposed has the potential to align incentives of different stakeholders around successful wetland restoration. We present a site selection methodology for the purposes of this EIB pilot, design a conceptual transaction and performance metrics, and evaluate its feasibility linking physical and financial models. This model could be adapted to other regions around the world with similar needs for coastal adaptation investments.
Section snippets
Ecosystem services of coastal wetlands
Wetlands create a range of quantifiable benefits that accrue to a diverse range of stakeholders. Louisiana contains about 40 percent of the highly valuable wetlands in terms of habitat and ecosystem services of the lower 48 United States – but this value is under threat, as the state also experiences 90 percent of the annual coastal marsh loss in the nation (Dahl and Johnson, 1991, Stedman and Dahl, 2008). The Mississippi River Delta’s fresh water and habitats influence the ecological health of
Strategies to finance and fund wetland restoration
A broad range of financing and funding tools have potential to support wetland restoration (Davis and Boyer, 2017 provide an in-depth review), but the opportunities for investments in natural infrastructure depend on different factors, including local geography, type and extent of ecosystems, knowledge about local flood risks, approaches to funding ecosystem conservation, the capacity of financing systems, and the socioeconomic status of communities (Colgan et al., 2017). Thus, generally there
Materials and methods
To assess the feasibility of an EIB to support wetland restoration in Louisiana, we conducted an analysis of the investment context in order to:
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Determine a possible pilot site and size
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Establish the value of bonding as a financing approach and possible sources of bond repayment
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Weigh various possible transaction design features to settle on a proposed transaction structure
- 4)
Define evaluation methodology for wetland restoration performance, and what outcomes should be tied to repayment of the EIB
Results and discussion
In this analysis we demonstrate how innovative financing mechanism like an EIB could be used to support wetland restoration and generate mutually beneficial outcomes and interest from the different stakeholders involved in bringing these tools to pilots and to maturity. This can be done while aligning incentives around successful environmental outcomes and leveraging their ecosystem services.
In our case study, based on the need to balance simplicity of the deal with CPRA’s interests in
Acknowledgements
We thank The Nature Conservancy’s NatureVest for their financial and technical support through their Conservation Investment Accelerator Grant Program. We thank other Coastal Louisiana Resiliency EIB team members, Steve Cochran, Denise Reed, Eric White, Megan Terrell, Robert Routon, Richelle Moore, Charles Sutcliffe, Aaron Strong, Jordan Fischbach, David Johnson, members of the Coalition for Private Investments in Conservation (CPIC), participants in EDF’s 2017 Financing Natural Infrastructure
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