Nature’s Balance Sheet – What are the key issues for Natural Capital Finance? – SPICe Spotlight

April 2, 2024

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Introduction

The role that Scotland’s land will have to play in achieving net-zero greenhouse gas emissions (GHG) by 2045 is significant.

The Scottish Government has set ambitious targets for woodland creation and peatland restoration to achieve multiple aims including helping to mitigate climate change, restoring habitats and supporting rural industries. These targets, and the market mechanisms that support them are bringing significant land use change, alongside new investors seeking to offset their own GHG emissions or to generate carbon credits to sell to others.

Examples of significant areas of land that have recently been bought by investors for peatland restoration and/or woodland creation include:

The Scottish Land Commission, who have a significant programme of work in this area, states:

The drive to a net zero economy is bringing huge land use change. In Scotland this has already started and the change brings with it both risks and opportunities, and there are important questions that must be answered about who makes decisions, who benefits, and how.

This is the third blog in a series looking at established and emerging mechanisms designed to encourage private investment in Scotland’s natural capital, how natural capital finance works, and what the key issues are. The first blog considered what natural capital and natural capital finance is, and why there is a demand for it. The second blog explored the key certification frameworks operating in Scotland (the Peatland Code and Woodland Carbon Code), Scottish Government policies and public body involvement in this area.

This blog sets out some of the key issues and questions that have arisen, summarises research into land market impacts, and sets out parliamentary scrutiny to date.

Key issues and questions

The clear attraction and opportunity in relation to carbon and other ecosystem market mechanisms is to leverage funding to supplement public finances to deliver climate and biodiversity (and potentially other) policy goals.

However, there are complex issues around how mechanisms operate – both ethical and practical. Many of these issues have been subject to debate for decades in the context of international carbon markets and standards. However, as project numbers increase in Scotland, and the Scottish Government seeks to proactively support the growth of private natural capital finance to meet policy goals, there is increasing interest in what the implications of these approaches are in Scotland.

Questions and issues may relate to the following areas:

Are certified carbon projects in Scotland generating real, additional carbon benefits and avoiding double-counting (key aspects of carbon credit certification set out in the previous blog)? How permanent are these benefits, for example is there a risk of carbon gains being lost due to the effects of climate change such as extreme weather?
Implications for land managers including in relation to long-term contracts and any risk of being ‘locked in’ to activities – are markets operating fairly and who is regulating them? How are land managers navigating the funding landscape and choosing between public and private funding routes? How is the land market changing, and what does this mean for the accessibility of, for example, farmland? Implications for land markets are considered further below.
Where projects are using private finance in addition to public grants, or public bodies invest in carbon projects using public funds, how are risks, responsibilities and rewards (e.g. returns on investment) to be distributed between actors, including local communities?
How accessible are markets, standards and project mechanisms, for example to smaller projects, community-led initiatives, or projects which seek to maximise biodiversity value in addition to generating carbon benefits?
What is the extent of the ‘finance gap’ to restore Scotland’s natural capital and what evidence underpins claims made about large funding gaps? This has been a recent topic of debate. Relatedly, what is the outlook for natural capital finance – does the level of opportunity and potential supply of private finance justify the current extent of public and third sector support?
What are the environmental opportunities and risks beyond climate mitigation – for example, how do carbon-based mechanisms ensure nature goals are integrated and not undermined (recognising projects such as woodland creation can be designed for multiple benefits over and above carbon)?
How is the use of carbon credits, for example in relation to making claims around ‘net zero’ or ‘climate neutrality’ governed? The Scottish Land Commission’s Responsible Natural Capital and Carbon Management Protocol is clear that “Investment in carbon management to offset emissions should not be a replacement for other actions to avoid, reduce or mitigate emissions. It should always be made in addition to action to reduce emissions at source as close to zero as possible”. However, a 2022 report from the Climate Change Committee concluded that “before growing voluntary carbon markets, Government must put in place stronger guidance, regulation and standards to ensure purchase of carbon credits is not used as a substitute for direct business emissions reduction.” Recent research has also highlighted that globally, countries’ climate commitments rely on unrealistic amounts of land-based carbon removal, generating questions around how any competing demands on land for climate mitigation benefits will be resolved.

Land market impacts

The Scottish Land Commission states:

“New value in Scotland’s land associated with carbon and natural capital is not only attracting new buyers to the land market. It is also fast becoming a significant influence on the decisions of existing land owners and managers.”

As well as the Scottish Land Commission’s work on Good Practice Investment (outlined in the second blog in this series), they have published a discussion paper on Carbon Markets, Public Interest and Landownership in Scotland. Two Rural Land Markets Insights Reports have also been published. These considered the implications of natural capital in the rural land market, reviewed the number, type and value of transactions (where possible), and engaged land agents in understanding the motivations and trends shaping the land market.

The Land Market Insights Report from 2022 found that the rural land market was characterised by exceptionally high demand but low supply, resulting in rising values. Key points for that year included:

Emerging carbon and natural capital value is an increasing influence, but other drivers, particularly high timber prices and forestry values remain significant.
The amount of land coming to the market has remained largely the same over recent years, however demand from different types of buyers has increased significantly, raising prices.
The growing role of non-farming investors has resulted in land values being increasingly influenced by long-term investment potential and corporate environmental, social and governance (ESG) considerations. Farmland values have risen by 31.2% in Scotland in 2021 against 6.2% across UK.
The off-market sales trend may exclude certain buyers and constrain access to land for individuals, communities and businesses, raising questions about transparency of the land market, which could further reinforce Scotland’s existing pattern of concentrated land ownership.
In the Scottish estates market there was an estimated 87% increase n prices paid in 2020, and in 2021 two estates sold for more than £20 million, while five sold for between £10-£20 million. Echoing the national trend, 64% of successful estates sales were off-market, up from 33% in 2020, and around one-third of buyers were from overseas.

May 2023’s Land Market Insights Report found that Scotland’s increasingly valuable rural land is only available to a limited few as high demand from forestry, natural capital investment, and corporate estate buyers continues to drive high prices, and:

Underlines the need for action to ensure that communities, family farms, local businesses, and individuals are not priced out of the rural land market due to sustained high land prices driven by large-scale forestry and natural capital investments.

Key points include:

Corporate and institutional buyers are very active and a driving force in estates, upland, and marginal agricultural land, especially where peat is present. Corporate and institutional buyers are increasingly interested in land as a financial asset and inflation hedge, with less immediate interest in land use.
With the exception of prime arable, distinctions between land classes and uses are becoming increasingly blurred as forestry, natural capital, and agricultural buyers all chase the same land.

Later in 2023 (November) the Commission published a Rural Land Market Report to accompany the Insights Report. This analysis of 2020-2022 sales data showed a notable upswing in the demand for farmland especially in areas at the forefront of the demand for forestry land. Most sales were of moderately sized farms or forests, with over 93% of transactions taking place in Scotland for areas of land less than 500 hectares.

Recent research by former MSP Andy Wightman into Rural Land Sales 2020 – 2022 has confirmed conclusions drawn by the Commission, and notes the following:

The overwhelming majority of sales of large scale landholdings in 2020-2022 have been by organisations engaged in “natural capital” markets and investment. […] they are almost all financial organisations ranging from asset managers such as Gresham House through to [corporate trustees who manage] funds owned by the University of Oxford. The sales identified thus confirm the trend in recent years towards institutional acquisitions of Scottish land focussed on monetary returns from the financialisation of nature.

Parliamentary scrutiny

The issue of private investment, buying and selling carbon credits, and the impact on communities and land markets has been raised in the Scottish Parliament.

Most recently, the Net Zero, Energy and Transport Committee discussed issues around natural capital finance with two panels of stakeholders (including investors, academics, lawyers and the third sector) on 26 March 2024.

In May 2022 Rhoda Grant MSP asked the Scottish Government (S6T-00750) what “steps it is taking to protect communities from off-market land sales by so-called green lairds”? The Minister for Environment and Land Reform responded:

Scotland’s natural environment will be critical in our action to tackle climate change and ecological breakdown. We are fortunate to have in our natural world such potential to sequester carbon and support biodiversity, including through woodland creation, peatland restoration, soil management, energy generation and blue carbon. Not only will that help us to reach net zero, but it is a real opportunity for our rural communities, for investment and for good green jobs in industries of the future.

However, I understand that with opportunity comes risk. I seek to mitigate that risk with a series of options, including publishing a suite of principles in “Interim Principles for Responsible Investment in Natural Capital”. Those set out the Government’s expectations of those who would invest in our land, including for delivering community benefit, engaging communities and creating diverse patterns of land ownership. I am also working with the Scottish Land Commission on how to avoid off-market sales through our actions, and developing proposals for an ambitious land reform bill, on which I will consult over the summer.

In May 2023, Richard Leonard MSP asked the Scottish Government (S6O-02282) “whether it will provide an update on its plans for Scottish carbon credits, including how it ensures benefits for local communities”? The Cabinet Secretary for Net Zero and Just Transition responded:

“The Scottish Government is committed to establishing a values-led high-integrity market for responsible private investment in our natural capital, as set out in “Scotland’s National Strategy for Economic Transformation”. That commitment includes the voluntary carbon markets, as backed by the United Kingdom Climate Change Committee, and is supported by our interim principles for responsible investment in natural capital.

Those principles set out that investment should deliver integrated land use; provide public, private and community benefit; demonstrate engagement and collaboration; be ethical and values led, be of high environmental integrity; and support diverse and productive land ownership. Those are Scottish ministers’ expectations of those who would invest in our natural capital.”

The Parliament’s Net Zero, Energy and Transport Committee also wrote to NatureScot in April 2023 to ask for more information about the private finance investment pilot it is working on in partnership with investors (set out in the second blog in this series), with a response received in June 2023.

In September 2023, motion S6M-10498 on protecting Scotland’s nature was debated, and following amendment, this motion was agreed:

That the Parliament reaffirms its recognition of the climate emergency and the need to achieve a net zero future; recognises that Scotland has the potential for more carbon sequestration capacity by restoring peatlands and extending tree cover; affirms its commitment to the Global Biodiversity Framework, which commits countries to “closing the biodiversity finance gap” and, in Target 19, calls for countries to “Substantially and progressively increase the level of financial resources from all sources”; commends the increase in public investment in nature through the Nature Restoration Fund and Peatland ACTION; recognises the vital role of the Forestry Grant Scheme in supporting woodland creation and sustainable forest management; agrees that investment in the climate transition is crucial, and that Scotland’s natural environment should not be allowed to be used for greenwashing by private corporations; recognises that tackling the climate and nature crises requires all parts of society to act; welcomes, therefore, the Scottish Government’s Interim Principles for Responsible Investment, which are designed to support a values-led, high-integrity market that ensures that communities benefit, and to support diverse and productive land ownership, as well as the recent publication of a consultation on Scotland’s Biodiversity Strategy and an underpinning delivery plan, which will be followed by an investment plan; further welcomes the Scottish Government’s commitment to progress a Land Reform Bill and an Agriculture Bill; notes the valuable contribution made by the Scottish Land Commission in its report, Natural Capital and Land Reform, and looks forward to the Scottish Government’s response to its recommendations, and calls on all parties to work constructively to restore Scotland’s natural environment.