How water scarcity will threaten global GDP
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Welcome to Xero. I am Akshat Rati. This week, water scarcity. We perhaps take for granted how critical access to water is for the future of life on this planet.

Not just for people around the world to quench their thirst and have access to good sanitation, but also for the global economy. Climate change is caused by the accumulation of greenhouse gases in the atmosphere, but mostly felt by humans through the force of water. Too much in storms and floods, too little in droughts. From agriculture to e-commerce, water access is central to so many industries.

And those industries are likely to feel pressure as climate change drives water scarcity in the years to come.

By 2030, freshwater demand is expected to outpace supply by 40%. It's a challenge, but also an opportunity. That's what Bloomberg intelligence researcher Melanie Rua says. She's co-authored a new report on water scarcity, and some of the examples she's shared on just how much financial impact companies are already seeing as a result of water scarcity really surprised me.

She told me why investors now have enough data to start to include water risks as they make investment decisions. Melanie, welcome to the show. Thanks so much for having me. It's a pleasure to be here. Now, water scarcity is not a new issue, but it is certainly becoming a more alarming issue around the world. And your job is to dig into areas where investors need more information to make decisions.

What happened last year that made you decide to focus on the issue of water scarcity? Yeah, absolutely. Great question. You know, like you alluded to, water scarcity is no longer a distant threat. It's a present day financial and economic

operational risk that companies across sectors and globally are already facing. You pointed to some scary stats of how demand for fresh water is expected to outpace supply by 40% by 2030. That's only five years from now.

And up to $70 trillion of global GDP is at risk due to water stress, you know, according to the World Resources Institute. So in addition to overuse, to your point, climate change is also a driver here. We have hotter, drier climate driving more water demand and at the same time supply shrinks. This is really contributing to that imbalance.

So we're seeing this risk manifest in real time, but I want to also stress it's also in different ways. So in Mexico, Constellation Brands, an alcoholic beverage producer, abandoned a nearly completed brewery, taking a $660 million write-down because of water concerns. The company had to build a new plant 600 miles away, which adds logistics costs and supply chain complexities.

But there's also, you know, things happening for semiconductors. Like look at semiconductor makers in Taiwan where water shortages have become a recurring issue. Yeah. You know, have been trucking in water. And TSMC, Taiwan Semiconductor Manufacturing Company-

estimates that over half a billion dollars in revenue is at risk due to drought. So these examples really highlight that water risk isn't theoretical. It's already affecting companies, their bottom lines, and really their ability to operate. So investors need to understand which industries and businesses are most exposed to these challenges. And in the same way, businesses must adapt or face financial consequences. Right.

So you talked about food and beverage, you talked about semiconductor, things you wouldn't usually. I mean, food and beverage, yes, of course there's water involved, but semiconductors, people typically don't think about the use of water. But there are other industries where water isn't the primary focus, and yet it can bring things to a halt. So I'm thinking power plants, a lot of natural gas power plants, coal power plants, any thermal power plant needs a lot of water. But tell me more about

also about AI. There is a huge amount of water need for AI data centers, right? Yep, exactly that. You know, water risks really shows up in different ways across industries. To your point, yes, there's obvious water intensive industries, agriculture, apparel, power, the less obvious. So I hinted at semiconductors, you know, can talk a little bit about that, how manufacturing chips require 1.4 to 1.6 liters of water per liter of ultra pure water used.

Also, 40% of semiconductor plants announced since 2021 are being built in water-stressed areas, including Arizona, where concerns over water access are already emerging. But to your point, something that's not so obvious is

data centers generate a lot of heat. They need cooling. And water-based cooling is generally the most efficient, but it is water-based. And so AI-driven data centers, they've used almost 2 billion gallons of water in 2023 in Virginia alone. You know, we mentioned this in the report, a 64% increase since 2019. You have companies like Microsoft and AWS, Amazon Web Services, that have set water-positive targets for 2023.

meaning they're replenishing more water than they're using. But the scale of water use in this industry is enormous. And, you know, water scarcity is already reshaping industries and forcing companies to really rethink sourcing, production, and expansion plans.

So in typical decisions that investors are trying to make about which company to invest in and understanding what risks the companies that they have in their portfolio might be facing, climate change and carbon dioxide features quite high in these environmental social governance metrics. Yep.

But on the environment, water is kind of now getting to the point where there's reporting happening. And with your report and others that have come around, water scarcity, it's starting to become an issue that is being highlighted. Yep. Are there...

who are making decisions based on water scarcity, just like there are investors today that make decisions based on CO2 emissions. Yep. So, you know, exactly what you're talking about, you know, for investors, when we're talking about risk, you know, like this really means assessing portfolio exposure to water intensive industries and being able to identify the companies which are most at risk and

And beyond corporate exposure, banks and investors are also exposed through their lending and financing decisions. But to your point, it's not really a risk that's yet widely disclosed. Just to cover a bit, our analysis did look at financed water consumption, finding that

banks like Bank of America, Wells Fargo, some of the largest finance, also some of the highest water consumption and risk exposure in such water intensive industries. And yet water risk hasn't, to your point, been accounted for in the same way as finance CO2 emissions. And so the finance part over here is the fact that if a bank is lending money to a company that then has either consumption of water or

or is producing CO2, those emissions or that water consumption is then considered as financed water or financed emissions on the books of the lender. And thus the lender is being exposed to all this risk that the company that has taken their money is going to be facing. Yep, exactly that. We really just apply similar to the CO2 finance emissions approach.

methodology of, you know, the PCAF methodology doing the same thing for water. And so though for investors, they don't yet systematically price in water risk, as these financial impacts grow, it's really going to become increasingly difficult to ignore, right? The cost of inaction is already evident. You know, investors who don't proactively assess their exposure might find themselves holding companies with significant risk

unrecognized liabilities. Yeah. Now, we are going to talk about solutions and opportunities in this space. But before that, can you spell out some of the worst case scenarios that might happen? Or perhaps there are already case studies that you can point to saying this could have been a cause that would have been avoided had they thought about water scarcity risk?

Yeah, absolutely. I think this really just goes back to the idea of the report of how water risk shows up in different ways. And we really want to highlight the importance of focusing on water intensive industries. So giving you like real examples, looking at agriculture.

A quarter of the world's food crops are grown in high water stress regions. You know, severe drought in Brazil cut Arabica coffee production by 11 million bags, which really caused an 80% spike in future prices. And yes, though coffee prices surged exceptionally high levels due to in part to drought as well as flooding in some cases.

In apparel, half of the world's cotton crop will be exposed to drought by 2040. You know, you have companies like Nike, whose supply chain relies on cotton for 80% of its water footprint. They're investing in recycled fabrics and waterless dyeing techniques. So there are companies also like Levi's pushing cottonized hemp, which uses a quarter of the water needed for cotton. I mentioned semiconductors on the production side, but

but it's the development too, right? Like the 40% of semiconductor plants since 2021 that are being built in water stress areas, you know, water can basically slow or halt growth depending on access of it. So these are also like a few ways in which investors can really think of water risk. And sometimes in ways that are not so obvious for the industry, agriculture, like I mentioned, it was a lot about crops.

But Archer Daniels Midland, their carbon sequestration facility leaked due to compromised monitoring wells. So this raised concerns over long-term water security risks. And Shell, yes, you know, water is needed in extractive industries, but they agreed in California to a $230 million settlement over contaminated wells. So this really shows that companies are not only vulnerable to water scarcity, but also water-related liabilities. ♪

After the break, more of my conversation with Bloomberg Intelligence researcher Melanie Rua. And if you've been enjoying this episode, please take a moment to rate and review the show on Apple Podcasts or Spotify. It helps other listeners find the show.

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Now, in terms of technologies in the climate space, there are a myriad of technologies that are now available to try and start to reduce emissions from different sectors. Right.

What are the technology solutions available to try and deal with water scarcity? Yes. So I do have to say there's not one solution for something like this. The water crisis, it's really fueling demand for, you know, alternative water sources, efficiency technologies, the sustainable materials market.

you know, to give you some more insights on these different solutions on desalination and treatment. You have companies like Veolia who plans to boost revenue from water treatment technologies by 50% by 2030 on cooling tech.

You have Lenovo's Neptune liquid cooled servers, which reduce power consumption by 40%, cutting water needs. And then you have alternative fibers. So Gaily, which H&M invested in, is developing lab-grown cotton, which uses 97% to 99% less water than conventional cotton.

So while, yes, there's multiple solutions, there's also trade-offs, right? Desalination is energy intensive and switching from water cooling to air cooling in data centers, while it may be more efficient and stuff,

this would increase energy demand, can drive expenses, and it doesn't work everywhere. So investors really need to evaluate that cost-benefit equation of these solutions. And companies like Galey that I've written about, which we'll link in the show notes, you know, interesting technology, but adoption of those kinds of technologies at a mass scale takes time, takes people to experiment. So yeah, there are

options available but for water scarcity that is coming so soon or is already here in many cases there have to be other options for investors to think about

Now, again, I'm taking the CO2 lens, which I understand. Investors have models now, quite sophisticated models, where they can estimate if this is the pathway that the world is taking, this is the level of warming that the world is likely to have. These are the companies in our portfolio that become uninvestable, that may have stranded assets on their books. And so we should start to reduce our exposure to these companies.

Is that level of modeling available for water scarcity for investors to be able to start making decisions today? Oh, absolutely. To your point, right, like companies with high exposures need to be on the investors' watch list and there is data available to do that. In the report, we include this. We have asset level analysis that leverages Bloomberg's company asset data and WRI's Aqueduct tool. So we really identified asset exposure to water stress

out to 2030, again, five years from now. And you could do it under three different scenarios, pessimistic, optimistic, or business as usual. We chose to do business as usual and we did it for metals and mining, power generation, and we also did it for steel producers. And just to share insights on that,

we found that Spanish power company Endesa, nearly 70% of its power plants could face high or extremely high water stress in 2030. Similarly, we see...

Fresnillo, where 70% of their metals and mines are also in areas of high or extremely high water stress compared with, you know, just 57% of Barrick's, Barrick Gold's mines. And

And so this really is showing the risk side of how, you know, industry industries that rely on water for their cooling. You know, we're talking about power gen for production or for metals in mine extraction, exposure to water stress. So lack of access to water can really be disruptive and a huge risk to investors who are also exposed to these companies.

And where are there still data gaps and what is being done about it at a regulatory level or at a corporate level or at an investor level? Great question. So in terms of data gaps, I do have to say, while it's probably still early on or nascent in terms of having robust nature related data and water data,

I do have to say there is sufficient data to be able to make investment decisions and really draw out insights. It would be great for more disclosure. You know, going back to our financed water analysis, there were a lot of limitations simply because of the fact that not all banks are disclosing the purpose information.

Right.

Water scarcity is intensifying. The financial risks are already being fell and companies are being forced to act. So I mentioned there's enough data exists for investment decisions. We find that water is deemed financially material for nearly half of Bloomberg's ESG scoring peer groups. This is 47 industries out of 106.

You know, 2024 alone has shown how urgent this is from record low Rhine River levels disrupting supply chains to drought in Brazil driving food inflation. You know, these risks are already shaping markets.

Financial costs are driving action, right? I mentioned Constellation $660 million write-down, but they're not alone. BASF's €250 million loss from Rhine River disruptions is another example, or Intel was one of the companies whose Arizona expansion is facing water constraints again.

And you mentioned policy. Well, 3Ms, $10 billion in PFAS settlements all show how water-related risks are materializing into real losses and how companies are being forced to address these challenges, whether proactively or reactively. And we were able to use a lot of this data to be able to identify a company level, like,

asset level exposure and being able to really identify also those who are taking action, right? Like being able to adapt to such risks. Right. This is the theory that has been for a long time considered important that there are non-financial metrics that have financial impact

on companies. It's not just carbon, it's water, but it's so many other things. And we're going through this period where these non-financial metrics, which are broadly classed under ESG, Environmental Social Governance,

is seeing a political backlash. You're seeing that in the US with the presidency of Donald Trump. But even before Trump came to power, there were all these Republicans going after investors to try and get them to not invest on ESG criteria. And then you're seeing some of the ramifications show up in Europe. We ran a recent episode on Xero looking at how the ESG backlash is causing Europe, which is

a leader in rulemaking on ESG to start to undo some of that to try and please investors, but also try and manage the relations across the Atlantic. So,

If water is so important and we know CO2 is so important, how are you seeing investors think about ESG in this moment and start to actually still take the decisions that are necessary for investments, but perhaps do it in a way where they're not advertising to the world? Yes, great question and very timely to your point. I mean, look, the backlash against ESG investing is

Yes, it's led to increased scrutiny on climate-related disclosures, for example, some sustainability initiatives. But to your point, you know, when it comes to issues like water, especially in this report, we're really talking about a financially material issue that companies and investors cannot afford to ignore. This isn't about ideology. It's about economics, right? Like global GDP is at risk.

And we have real world examples of companies already facing operational shutdowns, rising costs, stranded assets, all due to water stress, water scarcity, drought, and what have you. And the number of incidents, it's not just increasing, but intensifying, right? Meaning companies and investors will have to deal with these risks, whether or not ESG is politically popular, if you will. Yes, at the same time, policy uncertainty exists.

is a risk. You know, you mentioned in Europe, some of the undoing of some rules. Well, you know, here in the US, particularly under the Trump administration, which has signaled the rollback of environmental regulations, I can give an example, right? The EPA's new PFAS drinking water rule. So it requires utilities and companies to meet strict contamination limits for forever chemicals. And

To give background, the role will cost U.S. businesses and utilities around $1.5 billion annually with significant compliance and litigation risks for companies like 3M, which I mentioned earlier, DuPont, Chemours. They've already settled over $11 billion in PFAS-related lawsuits. And if the role is rolled back, which I do think unlikely, but if it is even weakened, it could shift financially.

financial liabilities from regulated companies back onto local governments and taxpayers, but increasing uncertainty for businesses really trying to manage long-term water risks. This was very insightful. Thank you so much for this report on water scarcity and thank you for coming on the show. Yeah, my pleasure. Thank you for listening to Xero. And now for the sound of the week. That's the sound of a salmon cannon.

And it does what it says, which is help salmon cross a dam and continue their migration down a river. If you like this episode, please take a moment to rate and review the show on Apple Podcasts and Spotify. Share this episode with a friend or with someone who is thirsty. You can get in touch at zeropod at bloomberg.net. Zero's producer is Maithili Rao. Bloomberg's head of podcast is Sage Bauman. And head of talk is Brendan Munir. Our theme music is composed by Wonderly.

Special thanks to Siobhan Wagner and Jessica Beck. I am Akshat Rati, back soon.