About this Episode
Michiel de Smet of the Ellen MacArthur Foundation joins the Essential Podcast to discuss how re-imagining the global economy on circular principles can yield benefits for companies, investors, and the climate.
The Essential Podcast from S&P Global is dedicated to sharing essential intelligence with those working in and affected by financial markets. Host Nathan Hunt focuses on those issues of immediate importance to global financial markets – macroeconomic trends, the credit cycle, climate risk, energy transition, and global trade – in interviews with subject matter experts from around the world.
- "The circular economy financing market is taking off, with a steep increase in activity over the last 18 months. Increasingly recognized as a crucial part of the solution to climate change and other ESG issues, the circular economy also offers significant opportunities for new and better growth. Now is the time for finance to capitalize on this industrial transformation, and help scale the circular economy," the Ellen MacArthur Foundation said in a recent report.
- Michiel leads the Finance Programme at the Ellen MacArthur Foundation. In that role, he works to grow the financing available for the circular economy, and he is a member of the EU Platform for Sustainable Finance. Previously, he was Policy Officer at the European Commission, as well as earlier work with the Ellen MacArthur Foundation's New Plastics Economy initiative.
Nathan Hunt: This is the Essential Podcast from S&P Global. My name is Nathan Hunt. Consider the garbage, can such a modest presence in our lives tucked neatly beneath the desk, or hidden discretely behind a kitchen cabinet. Yet this modest can, this bin, this poubelle is the perfect symbol for our era, because our linear economy is based on the assumption that we extract, we consume, and we dispose. The can is in its way, the culmination of our economic action. It's more than the end. It's the point. But what if our economy was not based on the manufacturer of waste, what if our economy was instead circular, returning again and again, towards, re-usefulness. Today, I am joined by Michiel de Smet, Finance Programme Lead at the Ellen MacArthur Foundation and co-author of a recent report entitled "Financing the Circular Economy, Capturing the Opportunity." Michiel, thank you for joining me on the podcast.
Michiel De Smet: Hi Nathan it's a to pleasure to be here. Thank you for inviting me.
Nathan Hunt: Michiel, I was hoping to begin by learning a bit about the Ellen MacArthur Foundation. What is the foundation? What are your goals? And can you introduce me to Prince Charles?
Michiel De Smet: Yeah. Happy to share a few thoughts. So the Ellen MacArthur Foundation is a UK-based charity. We are committed to the creation of a circular economy that tackles some of the biggest challenges of our time. Think about climate change, lots of biodiversity and pollution. And it was launched 10 years ago with the aim to accelerate the transition towards a circular economy, which is an economic approach, which is designed to benefit business society and the environment. And the foundation, we work together with businesses, policy makers, and academics to achieve our aim, and through our various programs to engage over 300 businesses across many industries, including plastics, fashion, and food. And with regard to Prince Charles. Unfortunately, Nathan, I won't be able to introduce you, but it is right to point it out because we've been grateful support in the past few years. I think most notably the foundation together with the Prince of Wales, his international sustainability unit launched a 2 million U.S. dollar innovation fund to help keep plastics out of the ocean. And then more recently he provided the forward for our paper you refer to on financing the circular economy. And in that forward, he describes how circular economy is an important part of the solution to help realize the ambitions of his sustainable markets initiative. So that's obviously quite an exciting to see.
Nathan Hunt: What is this circular economy. And why is it a goal worth pursuing.
Michiel De Smet: Well to describe the circular economy, I'd like to start by looking into the current economic model by taking a classical example, that of a light bulb. By the beginning of the 20th centuries manufacturers became so good at producing lightbulbs. So that at some point that we're worried people would never need to buy new ones. And actually still today you can find lightbulbs which are over a hundred years old, and are still working today. So on the 23rd of December in 1924, while the rest of the world was switching on their Christmas lights, representatives of the leading manufacturers came together to discuss that situation. And what was their answer? Well, they decided that all manufacturers would limit lamp life to a thousand-hour standard, which was around half of what they had been up to, to that point. So while officially, as you can imagine, so differently studies later on showed that the cartel's aim was actually to reduce the life span of lamps in order to increase sales. And back in that time, this approach was summed up as a genuine philosophy in free spending and wasting, and there was no real concern for what happened with your lightbulb. So waste isn't just byproduct. It was actually built into that industry's business model and that's what we call or what we see as being typical for a linear economy, as you already referred to it, a model that's very extractive. We take resources out of the ground. We make something out of it. We use it for a longer or shorter period of time. And then we dispense of it. You can actually visualize this as a straight line. That's named the linear economy. Let's now move forward to today roughly a hundred years later, we see that one of the leading manufacturers Phillips is now, is now offering a pay-per-lux intelligent lighting system. It's light as a service. And one of the clients is Amsterdam's Schiphol airport. So in this case, the airport won't be paying for the light fittings. It will just be paying for the light that they emit. Phillips remains the owner of the fictions and the installation, and so will be responsible for the performance and the durability of the system. Phillips will also take out the reuse and recycling at the end of life. And as a result, incentives change. The fixtures can be more easily repaired, can be replaced, they're more durable. And there really is a win-win for both the airport and Phillips. And that's why this is a great example of a circular business model and the opportunity, the economic opportunity that presents. The circular economy aims to move off that take, make waste extractive model and aims to redefine growth, focusing on positive society-wide benefits. So as a model approach to economic development, it aims to gradually decouple economic activity from the consumption of finite resources. And it's underpinned by a transition to renewable energy sources. Circular economy is based on three principles. First, design out waste and pollution. Second, key products and materials and use, and third, regenerate, natural systems. Circular economy, spurs innovation and creates value through a range of strategies and levers. And those include, for example, designing your product for durability, for repairability. It's about resale and sharing platforms. It's about remanufacturing material and innovation, regenerative farming. The transition to a circular economy, doesn't just aim to address the negative impacts of our current linear system. It actually more importantly is about changing our economic system towards long-term sustainability. And at the same time generating these economic opportunities.
Nathan Hunt: Tell me about your recent publication, "Financing the Circular Economy." What was the impetus for writing this report?
Michiel De Smet: At the foundation we've been working with corporate policy makers and financial institutions for a few years now. Finance hasn't been a focus point until recently. So we, we see the transition happening. We see governments and companies adopting circular economy principles, and then obviously finance or the role of finance to catalyze these actions is becoming more visible. So last year we decided to start ramping up our assets on scaling funds for the circular economy. As the first milestone, we've announced a partnership with BlackRock, which is the world's largest asset manager, and they've launched in collaboration with the foundation's circular economy, public equity sense. So that was first deliverable. Now, as we are shaping our activities within the financial services sector and engaging those funds, we realized that there was no overview of circular economy financing activity and understanding we're still rather limited. So to fill this gap for internal and external reasons, we laid out the business case in our paper, we showed the economic opportunity and we showed how leading financial institutions are already capturing that opportunity. All of that is combined in the paper that we launched three weeks ago.
Nathan Hunt: At the beginning of the report, as you say, you list statements in support of it from a veritable who's who of financial industry players. I see BlackRock, HSBC, Barclays, JP Morgan, Goldman Sachs, and others. Given this level of support, is it even necessary to argue for financing the circular economy?
Michiel De Smet: Well, obviously we're very grateful for the support that we've received by leading financial institutions. And it's very encouraging to see the steep growth. So not only the support, but also actually the growth of financing activity for circular projects and companies across the financial services sector. However, at the same time, it is early days and the size and the urgency of global challenges, as well as the size of the pie, of the economic opportunity, require rapid scaling of the circular economy. So for that to happen, we need more capital and more activity. And while many of the leading financial services firms are launching products and developing expertise and dosing the concept, we still see across the financial services sector, a lack of awareness of the opportunity. And we see limited integration of the circular economy concept within existing frameworks and products. So to overcome this, it still is important to share that business case, to show that bankers and investment professionals know the concept, know the opportunity it brings along, but also know how to seize it in practice. So, ultimately, we want the circular economy to be top of their minds, much like Larry Fink, BlackRock CEO, described the circular economy as one of BlackRock's foundational products, which by the way, is a video you could watch on our foundation's website.
Nathan Hunt: When I'm not podcasting. I spend a lot of time working on issues related to climate risk and the environment. One of my points of frustration has been that a lot of the E of ESG seems to be focused on shouldn'ts and mustn'ts. What intrigues me about the circular economy as a concept is that it points the way towards a different model of economic activity. To be venal about it, do you think that there's money to be made in the circular economy?
Michiel De Smet: Spot on. It's a great question. What is very appealing about the circular economy is the strong economic rationale that comes with it. Many studies have shown that potential from a macroeconomic point of view. We've called plenty of examples, company examples. My short answer would be yes, there is money to be made. And rather than you believing what I'm telling here, I'd like to share a few examples. If you look at the real economy, plenty of companies are adopting circular economic principles and making money out of it in a number of key ways. For example, through resource productivity and cost savings by refurbishing used parts and remanufacturing engines. So Renault, the car manufacturer, is able to offer remanufactured components and spare parts with as good as new warranties to customers for prices that are 30 to 50% lower than new parts. So that's one element, that's cost saving that reducing cost element. Secondly, there's also the valorization of byproducts in your production facilities. And here, for example, AB InBev is a good one. As they turned brewing byproducts into protein-rich food products, such as nutritious drinks, the second one. And then thirdly, there's an element of innovation and new markets. HP, for example, offers printing as a service subscription model. Which allows it to tap into a new market, and at the same time helps facilitate recycling of their cartridges. Hey, we could also be mentioning Danon, which is a company investing in regenerative agriculture, which on the one hand will enhance the resilience of its supply chain. It also helps meet demand of younger generations, who are increasingly interested in where and how their food is grown. So that's the real economy and how companies are making money into real life. Obviously, that's happening. There's also money to be made in the financial sector. What we've shown in our report is while it is early days and looking at the first six months of 2020 is obviously a short time period, this is very encouraging to see that if you look at public equity funds with circular economy, as a sole or partial focus, on average, they outperformed by 5.0 percentage points their Morningstar category benchmarks. And it's fair to say that this has been quite a volatile period, but it is very encouraging. And then let's now wait for future research to see whether this outperformance persists and how it actually developed. To then sum up and then go back to your question, is there money to be made? Yes, there is. And that's exactly why the circular concept is so appealing.
Nathan Hunt: Is this kind of transition even possible? We've been following the approach of, as you say, take, make, and use and waste for hundreds of years. Critics of capitalism might suggest that this type of exploitation is baked in to the system.
Michiel De Smet: I'd say that the question is not whether the transition is possible, but rather, how it can best be accelerated. I already provided a few examples, and I'll give a few more that show how the transition is already happening. And it's fair to say that more broadly the current system is mostly linear, but we see those bright spots, and we see leading companies and policymakers taking action. So let me first focus on companies. We see more and more companies across industries in our economy adopting circular economy principles to reduce cost, to increase revenues, to manage risk. Two examples at a company level would be for example, Phillips. In 2019, circular solutions accounted for 13% of their revenues. And another one is Caterpillar. Again, a large, global company that now offers more than 7,600 remanufactured products. So they offer their remanufactured. They offer those products with the same warranty as new parts, but at the same time, they're reducing waste and they're extending the value of that product. So if those large companies are taking action, adopting circular economy, starting that transition, we also see entire industries having started to transform. Fashion, for example, is a great example. It's clothing. Resale is expected to be bigger than fast fashion before the end of this decade. And if you look at plastics and consumer packaged goods, and I think we all know plastics is grinding on the agenda. We see that the value chain is being transformed. It's being disrupted. There's increased regulation, there's public pressure and there's innovation happening when it comes to new delivery models and circulating materials. So we see the transitioning happening within the real economy, within companies that are adopting the principles, but also on the government side, on the regulation side. You see how policy makers are accelerating the shift. Great example would be how the circular economy is a key pillar of the EU green deal. And we see also plenty of circular economy, roadmaps, and legislation being put in place in countries, including China, Chile, France, the Netherlands, and many more. Taking a step back and thinking about the transition, which really is about changing an entire economic system, so it's not something one would do overnight. If you look at the current system, the linear system, it's sad to say that that has lifted millions, if not billions, out of poverty since the industrial revolution, but at the same time, we've realized it's not, future-proof witnessing several severe drawbacks, whether that's climate change, loss of biodiversity or the ESG issues, but also big economic challenges, which actually have been reinforced by the current pandemic. The transformation of our economy is inevitable. It is going to happen. And the circular economy gives a positive vision for the future. It shows the way forward. We'll address those challenges, whether they are of economic, environmental, social nature. To give a concrete example, a recent study by Pew shows that the circular economy for plastics offers the strongest economic, social and climate benefits. Compared with the business as usual scenario, the circular economy has a potential to generate savings of 200 billion U.S. Dollars per year, reduce greenhouse gases by 25%, and create 700,000 net additional jobs by 2040. So this clearly offers a positive way forward an opportunity to build back better. Trying to summarize this thinking about the action that we already see being taken on the ground. And also from a systemic point of view, the question is not really, is that transition possible? The transition is happening. The question rather is how can we assure it gets accelerated and reap the benefits earlier.
Nathan Hunt: In your report, you talk about the carbon impact of concrete, which is massive, and I had always thought, unsolvable. How do you create a circular economy for concrete?
Michiel De Smet: Quick question, indeed, concrete is an important material stream and from a climate change point of view, a large contributor. So definitely worth looking into. Let me first note how, although cement makes up just 10 to 20% of concrete from an emissions point of view, it is a key material as it represents 95% or even more CO2 footprint of concrete. So as often, the circular economy offers many angles to approach this and equally many levers for value creation. As we've been exploring with Arup, which is the foundation's full partner and one of the world's leading design and engineering firms. There are a few leaders here we can be pulling. First one is design. It's about eliminating waste from the building's design. Construction projects today often use more materials than not actually needed. And for example, it's also impossible to achieve the same structural strength using only 50 to 60% of the amount of cement that currently is being used. Secondly, it's important to design concrete buildings to be more flexible and adaptable so they can change that purpose easily. Many economic conditions change. For example, in Europe, 35 to 50% of offices are not used even during office hours. And that was before the pandemic. And then thirdly from a design point of view, we should be designing concrete buildings to be deconstructable so we can reuse concrete elements in next buildings, again, reducing the amount of CO2 generated. Second element is innovation. It could be substituting cement with low carbon materials and still achieving the same high performance. All of it could be for example, that we could be substituting 50% of the clinker, which is a bind they needed to make cement with advanced filler materials that in the last year or two, while providing the same performance. And from an innovation point of view, there's also further activity ongoing, looking at other types of materials, such as the use of microorganisms to glue the aggregates and sense together. And then finally, next to design and innovation. There's an element of circulating the materials. For cement, the reuse of concrete fine particles as a substitute to a new cement can reduce process emissions. All of the above are actions that can be taken by private sector in order to move towards circular economy for concrete, where they'd say important to note how policy makers also have an important role to play here. As often as the case, when we talk about system change, regulations can promote the reuse of resources and reduction of waste. Particularly for concrete existing standards could be mandated to enable new emissions solutions.
Nathan Hunt: In terms of financing this transition. How is this happening now? Where, where do you see potential for future growth?
Michiel De Smet: Well, it actually is quite an exciting time. As we've shown in the paper, the market, the financing market is taking off and much of the activity happened in the past 18 to 24 months. Let me share a few examples. While no such fund existed in 2017, by mid 2020, 10 public equity firms focusing partially or entirely on the circular economy have been launched, and that includes leading providers, such as BlackRock, Credit Suisse, and Goldman Sachs. Since the beginning of 2020, assets managed through these funds have increased sixfold from 300 million to over 2 billion over the course of those eight first months. Then in the last 18 months, we've seen that at least 10 corporate bonds to finance circular economy activity have been issued by some of the world's largest companies, including Alphabet, BASF, PepsiCo, Philips, with help from leading banks, including Barclays, HSBC, ING, Morgan Stanley, and others. So we see this activity increasing in capital markets, but also in other corners of the financial sector, there's a similar steep growth pattern, whether that's private market funds, including venture capital, private equity, private debt, or bank lending, project finance and insurance. For example, and that's what Sanpaolo, Italian bank launched a 5 billion Euro credit facility. And to support circle companies and European Investment Bank together with five of Europe's largest national promotional banks launched a 10 billion Euro. That's an equity initiative dedicated to the circular economy. Really in the past 18, 24 months, we've seen steep growth in activity, and that's very encouraging to see. Now next to offering opportunities across this asset class it's also important to note how the circular economy creates opportunities across economic sectors. Think from our point of view, plastics, fashion and food sectors are currently standing out as some of the sectors most likely to be significantly impacted by the circular economy in the short to medium term. But in principle, ultimately all sectors can benefit or will create circular economy opportunities. And again, within the paper that we've launched a few weeks ago, we give it an initial assessment, qualitative assessments of the cyber economy, growth potential across ten key sectors.
Nathan Hunt: Let's say you were a large financial data and analytics company, like my company S&P Global. How would such a company seize the opportunity created by a transition to a circular economy?
Michiel De Smet: Seeing the opportunity that the circular economy presents, seeing the transition happening and seeing that circular economy financing activity increasing. The paper, then calls on the financial services sector to build on that initial momentum, to capitalize on that transition and scale. The circular economy together with government and corporate. And that would require both private and public sector action and needs to be underpinned by better data. You might see me comment that a data element is an important one. So that would include, for example, measuring circularity that can be done, for example, through Circulytics, which is the foundation's circularity measurement tool. So that's one element still in that circularity measurement. At the same time, it's not always feasible to do the in-depth circularity measurement at company level. So it's also important to integrate the concept of a circular economy into existing initiatives and framework. Think about TCFD, CDP, the EU non-financial reporting directive. So understanding how we can incorporate circular economy there. And I find that it's important to build evidence for the circular economy financing and investment by using financial and non-financial metrics. So if you think about what needs to happen to scale the circle economy and seize that opportunity. And now translate that to a company like S&P Global. I see a few relevant points here. Think, first of all, it's important to understand how the circular economy is driving inevitable transformation of our economy, how it is changing the nature of creating economic value and how it can help address some of the biggest challenges we're facing. For example, it's in sending the shift from ownership to access, where we see the shift from products to product as a service and what are the implications? So that's one element, understanding the circular economy. The second one as the transition is happening, and as we see companies and policy makers, financial institutions adopting its principles, I could well imagine that this topic is climbing on the agenda of your clients. That might then generate demand for intelligence that is essential for their decision-making. So here it's important to understand that how could a company like S&P Global provide guidance to investors to engage the C-suite on this topic. That could be in general the circular economy or on particular topics, such as plastics and how to move towards a circular economy for plastics. And then third, would be next to such a broader understanding and providing intelligence in, in general sense, we also would need that metric, some circularity. As said before the foundation is working on Circulytics, which is a circularity measurement tool, a few other metrics systems out there, but it's fair to say that we will have to scale and ensure that investors get access to those metrics that are meaningful and material for the transition towards the circular economy. And here plastics again is a great example. If you are a fast-moving consumer goods company, for example, like Unilever or Nestle, the level of recycled content in your plastic packaging is a great metric. But at the same time, in order to ensure that the transition is meaningful and actually reap the full benefit of a circular economy, that needs to be implemented with rethinking how you deliver your product as a fast-moving consumer goods company to your clients. So that's could, for example, include reusable packaging. And then having that metric that complements, this is understanding is important. And for this in particular, I'd happily refer the listener to our new plastics economy, global commitment, which provides such an overview of relevant metrics and a vision in order to move on questions to ask or guidelines for investors to understand what's material there.
Nathan Hunt: Michiel, I was intrigued to note that you have a background in mathematical logic. Do you think there is an aspect of the circular economy that appeals to someone drawn to the expressive power of formal systems and the deductive power of formal proof systems?
Michiel De Smet: It's a great question. So firstly, I much appreciate the clarity and peace of mind that I can find in formal systems and abstract models, even when they're very complex. Then on the other hand, real life is often messy and chaotic. So what I find appealing about the circular economy, taking that lens, is how it combines those two aspects. On the one hand, we've got the concept and its principles, which are simple and straightforward. But then if you think about the transition, which is about changing an entire global economy, it is messy and often ambiguous. So that interplay between the circular economy's powerful vision for the future and the road to get there makes this journey so fascinating.
Nathan Hunt: Under the Paris-aligned benchmarks, the goal is to decarbonize the economy in order to contain the global rise in temperatures to two degrees Celsius. In your opinion, can we accomplish this goal without pursuing the circular economy?
Michiel De Smet: No, we cannot. To explain it a little bit further, in September last year, we released a report "Completing the Picture: How the Circular Economy Tackles Climate Change," and we show how the circular economy is key to achieving climate targets. So if you look at the current global greenhouse gas emissions, 55% of those emissions are linked to the energy transition. So if you want to reduce those transitions, talking about energy efficiency, we're talking about moving towards renewable energy sources. However, the remaining 45% of the emissions are linked to how we make and use products and how we grow and consume food and our society. And that's exactly where the circular economy comes into play. For example, by circulating products and materials, instead of producing new ones, we can help energy demands by maintaining the energy that went into making them rather than producing new products. Well, another example would be agriculture, where adopting circled principles is an effective way to suppress the carbon in the soil. So if you really want to meet those targets, then we'll have to combine. We'll have to complement the assets that we see on the energy transition, which obviously is going to be vital, but also look into our production and consumption systems and how we can transform them. And that's exactly where the circular economy gives a delivery mechanism. So what I find encouraging personally is that we know what the solutions look like. We know that the energy transition is important. We know how the circular economy is going to be a vital part of complementing those solutions. And some of them are already being implemented successfully. So we see companies and policymakers taking action, and we see the topic of climate change and the solutions that we, that we have climbing on the agenda also within the financial services sector, given the size and the urgency of climate change, but also given the size of the economic opportunity. We'll have to rapidly scale the circular economy. Now, I'm very excited to, to be part of the story and look forward to progress being made in the next few years.
Nathan Hunt: Thank you for listening to the essential podcast from S&P Global. To read Michiel's report or to learn more about the Ellen MacArthur Foundation, please visit ellenmacarthurfoundation.org.
The Essential Podcast is edited and produced by Molly Mintz.