2. Forest Ecosystem Services Are the Benefits Which People, Businesses and Other Organisations

Agenda Item 11 Executive Board Meeting Memo No 34/16 7 December 2016

Status: OFFICIAL

DEVELOPING NEW MARKETS IN FOREST ECOSYSTEM SERVICES

Purpose 1. This paper updates the Executive Board on work by the Economics and Climate Change team in Corporate and Forestry Support to develop new markets and mechanisms to deliver forest ecosystem services, and seeks the Board’s views on future priorities.

Introduction

2. Forest ecosystem services are the benefits which people, businesses and other organisations receive from trees and woodlands. They are wide-ranging and include timber, recreation, biodiversity, climate regulation and flood alleviation. They are closely tied to the concept of natural capital which refers to the stocks of natural assets (woodlands, moorlands, mountains, oceans, and so on) that generate them.

3. Our market-based economy often fails to value these benefits. For example, woodlands can reduce flood risk to communities - avoiding costs to households and businesses - but there is no established market for woodlands to perform this service. This gives little financial incentive for land managers to provide it.

4. Research on the value of forest ecosystem services (described in a paper to the Board in March 2016) helps to improve recognition of these services. Work is also taking place to capture these values through new markets (and associated mechanisms), generating additional revenues for the forest sector. Often called “payments for ecosystem services”, these are seen as important in developing viable future business models for the forestry and broader land-use sector.

5. New markets can be built around a mix of “carrots, sticks and sermons”: these refer respectively to incentives, regulations/standards, and information (including evidence and analysis). Work in these three areas is described below. It should be seen as part of wider efforts across the FC (and elsewhere) to understand new market opportunities and to assess who might be involved.

Economics and forest ecosystem services Details of work programme

6. Incentives. Novel incentives for investing in woodlands may be based either on the potential to generate new revenue streams (e.g. from carbon) or to achieve savings (e.g. cheaper flood defences). They may be supported by public and/or private funds.

7. We have commissioned research on the potential for forest bonds and other instruments, and have developed a specific proposal for a Forest Carbon Guarantee (or bond). Described in the Annex, this is based on the premise that government could reduce the cost of meeting emissions reduction targets if it incentivised cheaper actions such as woodland creation. We are pushing this work forward through DEFRA and BEIS in the context of the 25 Year Environment Plan and Carbon Plan respectively.

8. We are working with finance specialists (such as Numbers for Good – see http://numbersforgood.com/) to develop a prospectus (at this stage hypothetical) for a new investment product that might be put to potential investors in woodlands for a carbon sequestration and/or flood alleviation project. This will help to tease out what further work is required if such a product is being developed.

9. Standards. Standards play an important role in regulating markets and providing confidence among investors that services will be delivered.

10.The standards in the Woodland Carbon Code (WCC) provide confidence to the carbon market that investments will deliver anticipated carbon savings. Current work includes the following. a. Future monitoring, reporting and verification procedures under the Code are being developed. b. The Soil Association is being accredited under UKAS as a new certification body for the WCC. c. We are participating in national and international discussions on the future status of carbon credits from domestic schemes. This could have major effects on investor appeal of WCC carbon credits. Our earlier contribution to a review of industry guidance on carbon neutrality (PAS 2060) helped to secure eligibility for Woodland Carbon Code credits.

11.Standards are also being developed for economic valuation (including natural capital accounting) to increase consistency and transparency. This reflects growing recognition that applying values to ecosystem services can have material impacts for businesses, the public sector and others. We are participating in a working group to develop an international standard (ISO 14008) on “monetary economic valuation of environmental aspects and impacts”.

12.Information. Good information at the right time is vital for markets to work effectively, enabling people to identify opportunities and risks. It helps to steer funding and investments.

13.In relation to forest ecosystem services, good information requires a combination of sound science and economic analysis.

14.We are liaising with DEFRA, Environment Agency and the ONS to design a ‘top-down’ study to estimate the national value of woodlands in alleviating flooding. This is in addition to ongoing site-level work on the impact of woodland planting on river levels (also described in the March 2016 paper), and will help to make the asserted benefits of woodlands more tangible.

15.Information on cost-effectiveness is an essential requirement in making the case for investing in woodlands to provide ecosystem services; using science to show whether woodlands are effective and economics to show whether they do so at a lower cost than other ‘technologies’. We have published research on the

cost of abating CO2 emissions through woodland planting, and have set out the cost to Government of delivering abatement through the Forest Carbon Guarantee (see para. 6) and under the Scottish Government’s Climate Change Plan. Cost-effectiveness will also be integral to work on flood alleviation.

16. Many potential investors want information on the ecosystem service benefits of their investments. We have commissioned AECOM (http://www.aecom.com/) to design a simple Excel tool to help investors assess the social and environmental impacts of woodland creation. The tool scores projects against benefits for water, biodiversity, community and economic development. It was designed for the Woodland Carbon Code but has wider application. It is available on the FC website (www.forestry.gov.uk/economics).

17. Natural capital accounting provides a powerful tool for demonstrating the value of natural capital and ecosystem services. We are continuing to support Forest Enterprise England in the further development of its accounts, and are providing advice to other organisations (see paragraph 20).

3 | Executive Board | Pat Snowdon | 03/04/18 Resource Implications

18.The work described in paragraphs 6-17 is being carried out using current resources. Future work may require additional resource but we will continue to build partnerships with other government bodies and stakeholders to lever additional expertise and funding. We have often achieved around 50% leverage of funding for new FC-led projects, and have offered small financial contributions and in-kind support to acquire a role in some significant projects led by universities and others.

Risk Assessment

19.Our work is intended to keep the FC at the forefront of current practice on new investment mechanisms with potential for forestry, and to ensure that there is an adequate infrastructure of tools and skills to help the FC meet policy priorities for the FC, particularly on woodland creation. Consistency with country policy priorities and the objectives of the Science and Innovation Strategy for Forestry is essential.

Communications Issues

20.We provide input to national and area/conservancy/district teams across the FC to support the case for investment in forestry, and are contributing to wider land-use initiatives, both in national and international fora. We publish the results of our work, and make efforts to do this in an ‘accessible’ way. a. An FC Research Report assessing evidence needs on the ecosystem services values of woodlands is being published in December. We have written a short Research Note which will be published alongside it. b. Collaborating is continuing with the team developing the Peatland Code, both to advise them on development of the Code and on new business models and finance instruments for investing in nature.

c. Further invitations have been received to present our work on CO2 emissions abatement, the Woodland Carbon Code and economic valuation at national and international fora (including the Food and Agriculture Organisation and Forest Europe). d. The Welsh Government has requested advice on developing a natural capital account for the public forest estate in Wales. We have been invited by Coillte and the Irish Natural Capital Forum to contribute to a workshop in March 2017 in Dublin on developing natural capital accounts. Implementation and Evaluation Proposals

21.The work described above aims to facilitate increased investment in woodlands and to support policy delivery in England, Scotland and Wales. 22.We will continue to work closely with colleagues across the FC and beyond to deliver the work programme; as has been the case on recent work in relation to climate change, flood alleviation and natural capital accounting. Strong collaboration with Forest Research (particularly Programme 4 which includes work on payments for water services from forests) is very important in underpinning our work.

Conclusion/Recommendation(s)

23.The Executive Board is invited to discuss the work above, and to provide comments on where future priorities lie.

Pat Snowdon Head of Economics and Climate Change Corporate and Forestry Support 30th November 2016

5 | Executive Board | Pat Snowdon | 03/04/18 Annex 1: Forest Carbon Guarantee Scheme

The Forest Carbon Guarantee (FCG) is a proposal to stimulate private sector investment in woodland creation. It aims to offer attractive and secure returns to investors and to provide a cost-effective mechanism for Government to achieve GHG emissions abatement (as well as other policy objectives) through woodland creation. Preliminary analysis shows that depending on the region and type of woodland planted, the carbon sequestered would cost Government approximately £30 per tonne.

Forest Carbon Guarantee Scheme explained

FCG Scheme is proposed to operate as described below and presented diagrammatically in Figure 1.  The Government issues a guarantee to investors through which associated carbon sequestration is rewarded by at least a given minimum price per tonne. This could either be in absolute terms (giving a fixed rate of return) or as a percentage of the market price at that time.

 The conditions of the guarantee state that the investor would be paid for the carbon that is subsequently sequestered, on an ex-post basis (i.e. not before the sequestration takes place). This payment could be staged (every 1, 2, 5 or 10 years) or given in a single payment.

 An investor may wish to purchase land to plant the trees or pay a landowner to.

 The guaranteed price is set at different levels well below BEIS projections for the price of carbon in the non-traded sector. The intention is to pitch the carbon price at a level that is low enough to be cost- effective to Government (e.g. compared to other methods of emissions abatement) but high enough to be attractive to investors.

 The Government could also commit that, if the UK exceeds its carbon abatement targets in any future year, investors would be able to sell the carbon on the open (international) market. In this case, the Government may wish to retain a proportion of the carbon value. This arrangement would act as a safeguard for the Government against the risk of the Guarantee requiring the Government to pay for unwanted abatement. Figure 1 - Schematic diagram describing the mechanics of the forest carbon guarantee.

Two investor approaches have been identified for the FCG:

a. Investors assume ownership of the carbon credits and, therefore, pay for certification under the Woodland Carbon Code (see www.forestry.gov.uk/carboncode) to ensure market confidence in the carbon benefits of the scheme. Buffers (20% each for estimation error and permanence) would be applied to safeguard the verified credits generated for the investors.

b. Investors regard the FCG as a purely financial investment without having ownership of the carbon credits. There would be no need to incur the costs of Woodland Carbon Code certification, although a 20% estimation buffer could be applied as a safeguard for Government.

In either a or b, the emissions abatement will be shown in the UK GHG Inventory and Kyoto account and, therefore, supports Government emissions abatement objectives.

7 | Executive Board | Pat Snowdon | 03/04/18