Global infrastructure spending has remained resilient in an environment of financial instability, underpinned mainly by interest from private sector investors. Private investors seeking long-term, stable returns are keen to fund infrastructure projects ranging from energy, to transport, to water infrastructure. These investors are providing support to governments facing a growing infrastructure funding gap. Yet, the sector is now awakening to the threats and opportunities that sustainability brings to realizing this long-term source of finance. Long-term climate risks are unlikely to leave any sector untouched as governments worldwide seek to maintain warming below 1.5 degrees Celsius under the 2015 Paris Agreement. This may force infrastructure projects to address energy use concerns, particularly as urban infrastructure consumes approximately two-thirds of global energy. Further, concerns over the recoupling of resource consumption and economic growth continue to grow. This adds pressure to address the resource-intensity of infrastructure often associated with the "take, make, and dispose" model under the linear economy.

To achieve the low-carbon transition, governments, finance, and industry leaders have convened at the 2019 United Nations Framework Convention on Climate Change annual conference (COP25) in Madrid, Spain, to discuss the best strategies for climate action, including pursuing a circular economy. Although the circular economy is new to the infrastructure sector, reception thus far has been promising. At its annual conference this year, the Major Projects Association, the U.K. body of organizations engaged in the delivery and development of major projects, presented the opportunities and challenges from sustainability and the circular economy to infrastructure projects, highlighting projects currently taking the lead on implementation. One of the key examples discussed was the integration of circular economy principles by Dutch airport operator Royal Schiphol Group (RSG) into its sustainability agenda. Moreover, financial institutions (FIs) are making progress to improve investor understanding of circular practices.

S&P Global Ratings has considered how pursuing a circular economy strategy could be compatible with the low-carbon transition and may also lead to significant benefits for infrastructure developers and investors. This may in turn encourage infrastructure projects to design for the future (including decommissioning considerations), adopt low-carbon materials, and achieve flexible designs to withstand the physical risks of climate change. The consultant firm Accenture Strategy estimates this approach to be a global growth opportunity worth $4.5 trillion by 2030. Nonetheless, the obstacles for realizing this growth are significant, and we are yet to see transformational action on a global scale.

Challenges For Infrastructure

The circular economy aims to transition away from the current linear economy based on the "take, make, and dispose" business model. The linear economy has come under heavy criticism in recent years for its over-consumption of finite raw materials, while disposing of products at end-of-life assuming they have no further value. The circular economy, by contrast, intends to realign business incentives to embed the values of "recover, reuse, and energy efficiency" into the business model. The Ellen MacArthur Foundation is a key knowledge platform engaging with business across a range of sectors to implement circular economy principles (see sidebar 1). Despite circular innovation's traditional focus on the manufacturing and electronics' sectors, we expect infrastructure investors and projects increasingly to view the circular economy as an effective strategy given the pressures to address the triple bottom line--concerning social and environmental impact beyond financial returns.

Infrastructure consumes a considerable proportion of global resources due to population growth and urbanization trends. Continuing along the linear economy may introduce significant long-term supply chain risks because urban infrastructure consumes 70% of global resources, yet only 9% of global resources are recycled, according to the Global Circularity Gap Report. High resource use generates significant waste risks from pollution and landfill, which are increasingly becoming a target for government regulation. The EU alone in its Waste Directive requires a 70% recycling rate of nonhazardous construction and demolition waste on projects by 2030. This is a clear signal for infrastructure projects to consider material recovery and reuse activities post-construction.

Infrastructure is also significantly exposed to climate risks, both as a contributor and victim of the adverse impacts (see: "Sink Or Swim: The Importance Of Adaptation Projects Rises With Climate Risks," published Dec. 3, 2019). Inclusion of concrete in the EU Emissions Trading Scheme has already brought attention to the supply chain risks from unsustainable material sourcing. Considering that building materials account for one-half the emissions in the industrial sector, diversifying the infrastructure material base will help to mitigate potential regulatory risks and price instability. Disaster-proofing buildings is also of key concern given that they are immobile and largely inflexible assets. Without this, faster capital depreciation of assets may occur given the projected increase in the frequency and intensity of extreme weather events.

Emerging Trend Towards The Circular Economy

We recognize the merits of the circular economy as businesses seek to align their sustainability strategies with wider social goals articulated by the United Nations (UN) Sustainable Development Goals (SDGs). In our view, sustainable infrastructure and circular economy initiatives could directly support the private sector's pursuit towards the SDGs (see sidebar 2). Commitment to reduce fossil fuel dependence (SDG7) has encouraged regulators to promote policies to de-risk the renewables asset class. At S&P Global Ratings, we expect the strong growth trend to continue over the coming decades (see "Energy Transition: Renewable Energy Matures with Blossoming Complexity,” published Nov. 8, 2019). Working groups between the public and private sector may be necessary to ensure infrastructure's sustainability targets are in line with government objectives. Already, action by stakeholders within infrastructure show productive relations forming. Global infrastructure company Ferrovial, which owns a 25% stake in Heathrow Airport Holdings, is an active member of the Private Sector Advisory Group of the UN SDG fund promoting public-private partnerships for sustainable development. In addition, Ferrovial acts as chair to the Spanish Green Growth Group, which promotes both knowledge-sharing and public-private partnerships in circular economy and wider decarbonization initiatives.

Also contributing to knowledge-sharing is the thought leadership by FIs promoting investment opportunities. Dutch bank ING has established a dedicated program towards the circular economy, releasing publications on circular solutions such as the prospect of efficiency gains in water infrastructure. A key milestone in 2018 was the publication of the financial guidelines to investing in the circular economy by ING in partnership with fellow Dutch institutions ABN AMRO and Rabobank. In late 2018, the Ellen MacArthur Foundation partnered with Italian banking group Intesa Sanpaolo to finance projects based on circular economy metrics, including the £175 million sustainability-linked loan with Thames Water. S&P Global Ratings has witnessed record growth in green bonds for the sixth consecutive year, a market that currently stands at over $730 billion of cumulative issuance. More recently, we have also observed the increasing attention gained in the sustainability-linked loan arena, which we anticipate could be a key funding mechanism for circular economy projects (see “Why Linking Loans To Sustainability Performance Is Taking Off,” published Sept. 3, 2019).

A Realistic Strategy?

In our view, circular engagement in infrastructure is already occurring, with reported early signs of success. Early adopter Royal Schiphol Group (RSG) says it has lowered maintenance costs by embracing new circular business models based on service rather than product purchase. In partnership with Engie and Philips, RSG has initiated "light as a service" whereby RSG pays for light production while Philips and Engie retain ownership of the lamps and fittings. Accordingly, suppliers are responsible for the physical structure's performance and are incentivized to draw out a product's residual value--collecting, reusing, and recycling fittings--as they reach their end-of-life. By transferring part of the maintenance cost to suppliers, producers are thereby incentivized to provide innovative, durable products. From an investor perspective, this creates a cost benefit of spreading project-cycle costs.

For investors focused on achieving long-term value creation, the circular economy may be beneficial to realizing increased value upon decommissioning. Early adoption of the waste hierarchy approach may help projects to reduce exposure to waste risks. This has also been adopted by RSG to address waste concerns for projects further down the project cycle. Through established relations with regional partners, the group has found reusing concrete locally is beneficial to both parties, especially where residual material value and transportation costs are low.

As projects become increasingly complex, applying the reuse principle becomes more challenging. Existing building standards may not always be compatible with circular economy goals because they require projects to utilize non-recyclable and sometimes even toxic substances. RSG recognized airport terminal buildings are subject to stringent fire-safety standards involving impregnating building materials with a toxic fire-retardant. Further, transfer of materials between projects on a larger scale involves in-depth information on the demand and supply of materials, as well as storage capacity, and transportation costs. It is not yet clear how participants will overcome these conundrums and this has been the major challenge to the proposed EU funded Buildings as Material Banks (BAMB). Central to this is the development of material passports, encompassing information linked to building information modeling, including construction methods. Beyond the problems identified, this initiative also requires the development of an effective digital platform so that transactions can occur in real time. This is unlikely to occur in the short or medium term given that infrastructure is among the least digitally transformed sectors.

COP25 And Beyond

We believe circular engagement in infrastructure is continuously proving itself to be a credible strategy for lower capital and operational costs, with the added benefits of reducing environmental impact via resource-cutting. We expect to see further engagement for major projects. For example, the U.K.'s High Speed 2 (HS2) railway project is committed to collaborating with supply-chain partners to implement circular principles from the specification stage through to its operation.

We believe the infrastructure sector may need to undergo a major transformation in innovation and technology, which are currently significantly lagging. Knowledge-sharing platforms could also work to increase engagement among stakeholders. This is a crucial task since current investor interest in developed economies in Europe is not matched with developing economies, where the infrastructure funding gap is likely be most severe. Therefore, we view the inclusion of the circular economy in the COP25 agenda as important in helping nations achieve their climate goals. This is a step in the right direction to promote knowledge-sharing and innovative practices that we are steadily beginning to witness within infrastructure projects.

Related Research

• Sink Or Swim: The Importance Of Adaptation Projects Rises With Climate Risks, Dec. 3, 2019
• Energy Transition: Renewable Energy Matures with Blossoming Complexity, Nov. 8, 2019
• Why Linking Loans To Sustainability Performance Is Taking Off, Sept. 3, 2019
• Green Finance - Modest 2018 Growth Masks Strong Market Fundamentals For 2019, Jan. 29, 2019
• Raising Ambitions - COP24 Tilts Toward Achieving 1.5 Degrees Climate Target, Dec. 19 2018
• Bundling: A Growing Trend As Stakeholders Look To Unlock The Potential Of The Infrastructure Asset Class, Jan. 31, 2017
• Europe’s Investment Plan: How To Spend €315 Billion In Three Years, Jan. 15, 2015
• Global Infrastructure Investment: Timing Is Everything (And Now Is The Time), Jan. 15, 2015
• EU Infrastructure: Tackling The Funding Deficit To Unlock The Financing Surplus, Oct. 14, 2015