“It is not the strongest of the species that survives, not the most intelligent that survives. It is the one that is the most adaptable to change” Charles Darwin.
Bear with me. This essay discusses biofuels, but its underlying message is about the perils of failing to adapt. Recent stock market performance is just one indication of how the world is changing and how future prosperity depends on adaptability.
Back in 2008, the global financial crisis (GFC) provided a glimpse over a precipice. Governments and central banks moved to stop the financial system from collapsing, cutting interest rates to zero and creating a protected financial environment to enable recovery. It worked, but left the moral hazard of ballooning asset prices and abnormally low financial risk. Psychologically, this stability and prosperity has left many investors (and their financial advisors) with a strong desire for things not to change – an even stronger status quo bias than is the normal human condition.
But that post-GFC world is gone. The world is now gripped by inflation, war and possible famine. Climate change and other environmental risks can no longer be ignored. Nature has given us ecosystems, species, freshwater, land, minerals, the air and oceans, for free. But without financial value, they are not measured in the economy, and businesses and consumers have been overusing this natural capital at such a rate that nature can’t replenish it. Our rate of consumption is unsustainable and climate change is just one indicator of extreme planetary distress.
What does this mean for financial advice?
Simple though it would be to focus only on the financial factors, and hope that the steady rise in equity, bond and property values will continue, it is time to change. It is not just global events but regulators that require advisers to shift beyond the ‘single materiality’ of finance and, in future, to plan and report investment in the context of ‘double materiality’. This means that all of the adverse impacts caused by companies in making their profits, which affect both the planet and society, now need to be measured and considered.
Clients are increasingly aware of these wider issues. Protecting and growing their wealth is still the primary objective but a responsible wealth management approach is increasingly expected – a desire not to profit from causing problems. This is a major upheaval in the finance industry and adapting to it will be challenging, especially as definitions, data and regulations are still missing. However, it is the concepts that really matter, together with a change in mindset.
Challenge the status quo
From small changes in our daily lives, to entire business strategies or major government policies, changing the status quo can seem difficult. Behaviour easily becomes entrenched. But I want to give you one example of an economic status quo that on the face of it seems unlikely to change, but when reconsidered through a responsible lens may shift rapidly. It is how policy can change to respond to rising food prices.
The background is that food prices have been rising since 2019. The world supply and demand of grains are out of balance and this has led to the prices of wheat and corn doubling since 2019. The world is now facing a food crisis.
It is tempting to start with a simple assumption that Russia’s invasion of Ukraine disrupted food supplies and caused the problem. However, a significant part of the price rise occurred before the war. This issue is more complicated than interruption to one part of the food supply. It is also about the demand for food too. It also raises moral, environmental, energy security and economic policy questions.
Why has the demand for food expanded?
Since the time of the Pharaohs, governments have intervened to balance food supplies and prices. The decidedly more modern intervention in markets to mandate the blending of crop-based biofuels into transport fuels was introduced to increase demand for grains and so support prices that had been moribund for decades, falling to very low levels in real terms.
Governments across the world require oil refiners to blend bioethanol, made from grains, and biodiesel, made from vegetable oils, into vehicle fuel. The typical standard is up to a 10% blend, which requires a vast quantity of crops. Last year, 155 billion litres of biofuels made from different crops were burned, and European countries alone turned wheat equivalent to over five billion loaves of bread into bioethanol.1
But with food prices now punishingly high, it must be time to consider a reversal of that policy intervention. A critical question to answer is: what would happen to grain prices if biofuel mandates were cancelled entirely?
Such a move would reduce demand for grains and provide a strong signal to the market, changing the behaviour of market actors and farmers. Opinions will differ on how much it would affect prices but some might speculate that the change would be sufficient to move the market for grains from shortfall back to surplus. Next season farmers would switch from growing fuel crops towards more food crops. Fertiliser prices would fall too, as less would be needed for non-food use.
The moral question
A consequence of key grain prices doubling since 2019 is that the number of people facing acute food insecurity has more than doubled over this period, according to the World Food Programme.2 Many people filling their cars in high-income countries are unaware that they have no choice in buying fuel containing a blend of 10% biofuel made from food crops. Many almost certainly don’t appreciate the true level of poverty experienced by billions of less fortunate people around the world: lower middle-income countries have an average GDP per capita of less than $2,500 per annum, and it is less than $1,000 p.a. in low-income countries. For these 3.8 billion people, a high proportion of spending is on food and there are growing warnings that millions of people in many countries are at risk of famine.
It will be very hard for the role of biofuels in this crisis to remain off the front pages. A staggering calculation by Gro Intelligence is that the total amount of crops used annually for biofuels is equal to the calorie consumption of 1.9 billion people. In the last food crisis in 2007-08, when biofuels consumed much less of the world grain output, they received a share of the blame for contributing to rising prices. And there is another large-scale precedent of moral indignation against food insecurity that might well resurface.
In 1984, news reports of famine in Ethiopia triggered global public concern and led to the staging of the 1985 Live Aid benefit concerts in countries around the world. In one of the largest television broadcasts of all time, the concerts were watched by an estimated audience of 40% of the world population. As organiser Bob Geldof put it, “we were able to address the intellectual absurdity and the moral repulsion of people dying of want in a world of surplus”.
Disingenuous environmental claims
Biofuel policies may not just be contributing to a humanitarian crisis - they are also implicated in environmental disaster. UN scientific reports claim the planting of bioenergy crops is ‘detrimental to ecosystems’ and ‘impedes achievement of numerous Sustainable Development Goals’.3 A recent study shows US corn ethanol emits more greenhouse gas emissions than conventional gasoline.4
Hope for resolving the climate impacts of hard-to-abate industries like airlines have contributed to distortions in the perceptions about ‘green’ combustion fuels. There is significant opportunity cost to biodiversity in creating the additional large-scale demand to grow biofuels, and in the land clearance, pesticide and fertiliser use associated with it. The environmental footprint of biofuels is another major factor for wider consideration in justifying the continuation of mandatory blending policies.
Removing the supply of biofuels might risk pushing demand for conventional fossil fuels up, increasing oil prices further. But these fears need to be put in proportion: only about half of oil use is for transportation fuel, and of that less than 10% is actually substituted with biofuel.5 Demand has been weakening as high fuel prices are causing motorists to drive less, and the slowdown in China is also reducing oil demand. In the medium and longer terms, the shift to renewable energy will reduce oil demand. On the supply side, in the short-term OPEC+ and other oil producers could increase production more rapidly back towards pre-Covid production levels.
The positive ripple effects of scrapping biofuel mandates could be far-reaching. Lower food prices could ease upward pressure on inflation rates and potentially diminish consumer expectations of future price rises. It could also reduce pressure on central bank monetary policies, lower bond yields and the cost of capital for business, relax strong-dollar currency stress, and reduce the risk of recession. True, these are benefits that will be much larger for emerging countries than developed ones where food is a much smaller share of household spending, but the direction of travel (to say nothing of the moral imperative) is significant for all consumers as the cost of living crisis deepens.
This is just the beginning
The ‘food versus biofuel’ debate is just starting. Unfortunately, the news flow on hunger and the food crisis is likely to continue to worsen. Mandatory biofuel blending policies were designed for a different age and there needs to be a much more public debate on whether they are still justified.
Just as there is no justification in driving the world to hunger, there is little justification for many companies to continue operating as they have in the past, fostering excessive consumption and ignoring the adverse impacts on the environment and society. In a world in which double materiality makes clear the harms being caused, multiple new moral and economic pressures will come to bear. Responsible investing is not black and white (or green and red). It will evolve and the growing awareness will cause attitudes to change, breaking the status quo.
This document has been approved by Sarasin & Partners LLP of Juxon House, 100 St Paul’s Churchyard, London, EC4M 8BU, a limited liability partnership registered in England & Wales with registered number OC329859 which is authorised and regulated by the Financial Conduct Authority with firm reference number 475111. Past performance is not a guide to future returns and may not be repeated. All details in this document are provided for information purposes only and should not be misinterpreted as investment advice or taxation advice.