Tom Lyons, head of Climate for Allspring, and Chris McKnett, head of Sustainable Strategy, Stewardship, and Implementation for Allspring’s Sustainability team, discuss the impacts of a changing climate and how they’re becoming increasingly evident worldwide on different industries, especially how the world produces and consumes food. A more complete discussion can be found in Allspring’s midyear report.
Tom Lyons: What’s coming together, as we look into the next few decades, are very sharp increases in demand for food, but with very limited remaining land with which to grow.
Chris McKnett: That’s Tom Lyons, head of Climate for Allspring. I’m Chris McKnett, head of Sustainable Strategy, Stewardship, and Implementation for Allspring’s Sustainability team, and you’re listening to On the Trading Desk®. Thanks for joining me today, Tom.
Tom: Happy to be here, Chris.
Chris: The impacts of a changing climate are becoming increasingly evident worldwide on different industries. Why is this important today and looking ahead?
Tom: There are going to have to be major changes in the way we produce and consume food over the next few decades. And we’re already starting to see these things. We’re going to see impacts on a broad range of industries that range from crop science, capital goods, agricultural technology, advanced analytics, and transportation. It’s almost the case that you can name any industry in the economy and you’re going to see an impact one way or the other.
Chris: OK. Well, let’s dig into those changes, then. I mean, the agri-food value chain, it’s broad and deep and so are the forces that are affected by it. So, what’s causing the more prominent changes that you are tracking?
Tom: We can think of causes and effects in three categories: economic, environmental, and social. Regarding economic stresses, we believe that supply needs to increase by more than 65% over the next two decades to satisfy demand for food. We expect population to grow from about 8 billion today to almost 10 billion by midcentury. And on top of that, a lot of that growth is going to occur in increasingly wealthy emerging economies. And what you see in correlation with increasing wealth is increasing demand for food per person and also changing dietary preferences that favor richer, more production-intensive foods.
Tom: At the same time, there’s little remaining unused arable land. It’s remarkable when you look around the globe, just how extensively we’ve put to work land that is suitable for growing crops with. And for that limited remaining unused arable land, there’s going to be increasing competition from non-food-related sources. Today, for example, energy crops, mainly including corn and soy, see about 40% of their production go into biofuels. So, what’s going to need to happen is we’re going to need more and more innovation that helps us improve crop yields. We’re going to need more drought and pest-resistant seeds. We’re going to need enhanced tilling practices on the land that we have just to get more calories out of every acre of land.
Chris: Right. So, those economic drivers are massive. But what about environmental or social pressures, too?
Tom: Agriculture itself is a major contributor to emissions. If you look at not only farming practices but also the transportation of food throughout the value chain, you’re looking at something in excess of 30% of global emissions being tied in one way or another to agriculture. So, the need to decarbonize the economy is going to be one important factor that changes the way we produce food. Water scarcity affects most—in fact, every—major food-producing region of the world. We’re going to have to get better at growing more food with less water. It’s as simple as that. This comes back to not only crop science but also a lot of other technological innovation around how we irrigate crops. And we’re already seeing benefits of this in places like California and the Mississippi River Basin. Extreme weather is very important. We’ve all seen dramatic headlines about floods and droughts disrupting not only the growth of crops but also their transportation. And there’s an increasing push in most of the developed world to preserve biodiversity and with good reason. We all depend on natural capital in industries ranging from medicine to infrastructure to food production itself. And we’re going to have to get better and smarter about how we take care of biodiversity in general.
Chris: So, what are some of the activities to phase down or eliminate? And, equally, what are some of the practices or technologies that must ramp up here?
Tom: I think there are two current practices that we’re going to need to phase out very quickly and perhaps ultimately eliminate. The first is deforestation. Right now, agriculture accounts for something like 75% of the deforestation that occurs around the globe. Deforestation is a massive problem, not only because forests are an essential sink, or a way of sequestering carbon emissions, but also because forests, of course, are an important source of biodiversity. The second thing that I think is going to need to be phased down relatively quickly is how we use and the extent to which we use nitrogen and phosphorus-based fertilizers. Right now, we use so much of these products that as water runs off of existing cropland, so much nitrogen and phosphorus leeches into rivers, streams, lakes, and oceans that we’re creating what are called dead zones in various examples of all of them. That is, we’re creating situations in rivers and oceans, in particular, where the ability for fish and other types of flora and fauna to feed themselves has been destroyed. Now, these problems can be reversed over time, but it’s going to take a very concentrated effort to change the way we reduce our use of fertilizers.
Chris: OK, the dynamics that you and our colleagues are thinking deeply about influence companies across several different industries from chemicals to retail to capital goods and, of course, food products. But state and local governments are on the front lines of a lot of these risks and impacts, too. So, can you give us an example there, Tom?
Tom: Absolutely. Just last week, the Department of the Interior announced that it’s reviewing a proposal from California, Nevada, and Arizona that would restructure what’s called the Colorado River Compact. That’s an agreement that seven Western states set up in the first part of the 20th century to divide up and share Colorado River flows for drinking water and irrigation. So, I mentioned that Arizona, California, and Nevada have put forth a proposal. That proposal would seek to avoid mandatory water cuts imposed unilaterally by the Department of the Interior. And its water cuts would expire after 2026. What’s really interesting and important and what’s going to have a direct impact on markets in this proposal is that Arizona, Nevada, and California are proposing to cut their consumption of Colorado River water by 13%. And then, they’re asking that the federal government pay the affected irrigation districts and Native American tribes and cities $521 for each acre foot of water that they don’t use. This is really important because in what’s essentially an unprecedented way, we’re pricing water the way other countries are pricing carbon emissions right now. When we put a price on water to local economies and local communities, we require those who use the water, which are mainly farmers but it’s also cities that need to provide drinking water to their citizens, to really take a hard look at their own profitability and make an economic decision as to whether or not it makes more sense to continue to grow crops or just fallow their fields. And based on some analysis that our team did earlier this year, we’re expecting over half a million acres in the Central Valley of California to be fallowed simply because with this new pricing regime for water, they can’t make any money. They’re not profitable anymore. I think we’re going to see a lot of that land converted into solar and wind power production. We’re going to see other tracts of land converted into both commercial and residential real estate development. And we’re really going to see a transition in the nature of the economy in that part of the state.
Chris: With the time we have left, Tom, what parting thoughts do you have for our listeners?
Tom: I think there are two ideas I would really want to leave our listeners with. The first is that we’re looking at a very broadly based impact on our portfolios. In general, we’ve already talked about seven or eight major industries that are going to have to change the way they operate in order to help us have the supply of food meet the demand for food. The second thing, more generally, is the level of volatility that we expect to see in margins. Whether it’s due to some of the environmental stresses that we described or the technology innovation that we described, there is going to be more surprises more frequently across the agriculture and food value chain. And because that increased volatility is going to feed into the prices of securities often on the downside, that volatility needs to earn an additional level of return to compensate investors for the risk they’re taking.
Chris: Thanks, Tom, for being with us today and sharing your insights. You’ve given us a lot of food for thought.
Tom: Absolutely. It was my pleasure.
Chris: I’m Chris McKnett. Thank you for listening to On the Trading Desk®.
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