Financing Forest Restoration with Economic Exploration of the Legal Reserve

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On May 25, 2012 the New Forest Code (NCF) was established by the law no. 12,651. This law established new criteria for the use and occupation of land in Brazil, which affected the farming industry and consequently impacted the Brazilian economy, as the agribusiness sector in 2016 accounted for 23.6% of GDP and 46.6% of Brazilian exports. Farming activities occupy approximately 30% of the national territory.

The NCF created the Rural Environmental Registry (CAR) and the Environmental Regularization Program (PRA). In addition, this served as a basis for reforestation projects by establishing that forests and other forms of native vegetation are assets of common interest to all of the country’s inhabitants, who exercise their property rights within the limits established by the law.

As a part of the Paris Agreement5, Brazil established its targets for its Nationally Determined Contribution (NDC). One of these was to restore and reforest 12 million hectares of forest by 2030. The estimated native vegetation deficit based on NCF rules amounts to 19 million hectares.

Both NDC and NCF implementation mechanisms, in particular PRA, generate a required allocation of funds to finance the vegetation to be restored. The estimated amount for the target established by NDC is about R$ 52 billion by 2030.

Reforestation costs are not negligible and may be specially increased for small and medium producers. The economic exploration of the Legal Reserve, as permitted by the NCF, may contribute to improve the property cash flow.

By considering the challenges of reforestation and the environmental liabilities associated with the APP and RL areas to be reforested in Brazil, it is essential to find conditions to make a greater allocation of private funds for that purpose feasible. Bank financing may be a major factor of such conditions.

Currently, there are an estimated 11 million hectares of environmental liabilities of the Legal Reserve Area (ARL) in the country and 8 million hectares in the Permanent Preservation Area (APP). Considering the average reforestation cost of R$ 20,000.00/ha for the former and R$ 7,000.00 for the latter, there is a potential financing market of R$ 138 billion (considering 50% reforestation of the total area).

In this context, this study has two specific objectives: (i) to identify and evaluate financing models for the reforestation of Legal Reserve areas (where there is a possibility of economic exploration), by considering the integrated management of properties, as well as models to reduce the credit risk of operations; and (ii) to identify potential activities, regions and clients for National Financial System (SFN) to engage in reforestation financing based on data on productive activities of livestock, sugarcane and soybean in the states of São Paulo, Paraná and Mato Grosso over the years of 2016 and 2017.

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