Lately, I’ve been exploring microcarbon finance, an emerging hybrid of carbon offset and microloan strategy that has the potential to be endlessly confusing to a non-specialist. But when you get past the details, microcarbon finance has the potential to ignite direct environmental action and social transformation for the one billion people at the “Base of the Pyramid” who live on less than $1 a day.
Microfinance programs, which match poor entrepreneurs in developing areas with small, low-interest loans to support economic growth and social transformation, have become all but mainstream in areas like China and India. The practice has become so common that Forbes even warned against jumping too fast into “barefoot banking” in 2008.
At the same time, as microfinance goes mainstream, awareness about environmental and sustainability issues grows. China is a perfect example: the rapidly-growing superpower has come under fire for questionable approaches to pollution, factory workers’ rights, product contamination, and other social and environmental issues.
Here’s where it gets really interesting: although China is under scrutiny for its ecological strategy, it’s also a magnet for carbon finance. Companies in developed countries often offset their emissions by investing in carbon reduction projects in China. So, from an investment standpoint, there’s a huge amount of money to be made in carbon finance in the region.
So at this nexus of microfinance and carbon finance, we have microcarbon finance. On the face of it, it’s a pretty simple system: small-time farmers and entrepreneurs get small-scale loans, typically just a few hundred dollars, to purchase equipment and other supplies that are essential to their business but out of reach financially. The key is that the investment has to be in something that provides a carbon offset–a bio-gas digester for agricultural waste, for example.
To get more details on this, I talked with Tina Tam, an MBA/MS candidate at The Erb Institute, who spent her summer writing the business plan for the Microcarbon Foundation, a U.K. nonprofit with offices in Beijing that is an early champion of microcarbon finance. I had had the chance to meet Justin Barrow, the head of the Foundation, in Beijing last April, and was very impressed with him and his management team. So it was very gratifying to have one of our Erb students helping Justin and his crew get the organization started. According to Tam, the model they have created is new, unique, and, at least at first, hard to get off the ground.
“There are a lot of hurdles to overcome for microcarbon financing to be successful,” says Tam.
The first, she says, is the high transaction cost of carbon project development: there’s a long “carbon cycle” which involves a lot of time, effort and paperwork to propose a carbon offset project, have it evaluated and approved by the right agencies or regulators (they decide if the offset is legitimate). The cost of that research and investment has to be justified by the eventual environmental payoff.
Another challenge to microfinance is identifying the technologies that are available to reduce emissions. These technologies are often very new or just not well known in developing areas, which requires an education process that further extends the “carbon cycle.”
Finally, microcarbon finance could be hampered by the complex and siloed nature of both microfinance and carbon finance. Typically, a small-time entrepreneur, like a rural farmer, would approach her local Microfinance Institution (MFI) to secure a loan for equipment, like a bio-gas digester. But, Tam tells me, most MFIs are not familiar with the technologies that support carbon reduction, or the global nature of carbon trading. At the same time, potential investors in the MFIs and in microcarbon schemes don’t have a clear sense of the local issues at play in these microeconomies.
Clearly, microfinance has a long way to go. But it holds genuine promise as a way to create financial incentives for environmentally sustainable economic behavior, while trying to alleviating poverty for many. As Tam puts it, the Microcarbon Foundation is laying the groundwork to “Supply a sustainable pathway to the developing world.”
Ultimately policy will play a big role in the success of microcarbon finance. On the global level, policy makers can do a lot to encourage access to renewable energy sources.
The missing link, says Tam, is the enterprise: “Policy makers must encourage industries to provide better access to renewable energy at the base of the pyramid. Companies are the key here, and a market-based model is important” to make microcarbon finance work.
In the meantime, I’ll keep my eyes on the Microcarbon Foundation–and do my best to help this exciting new NGO gain enough steam to influence policymakers, investors and industry alike.
Thomas P. Lyon is a Director and the Dow Chemical Professor of Sustainable Science, Technology and Commerce at the Erb Institute of the University of Michigan. Professor Lyon’s teaching experience includes managerial economics, business and government, game theory, business strategy, and the management of innovation. He is the author of Good Cop/ Bad Cop: Environmental NGOs and Their Strategies Toward Business.