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CO2 Pricing and Development: Perspectives from the Chatham House Climate Change Conference

December 5, 2017

 

Only a few years ago many people doubted climate change, its merits and actual impact. However, Hurricane Harvey and similar disasters have been yet more extreme example of the effects of climate change, converting many deniers into complete supporters of efforts to mitigate climate change. Chatham House – the Royal Institute of International Affairs – sees climate change as the greatest challenge of the 21st Century. Therefore, in October 2017, the Institute organized next edition of its world-famous Climate Change Conference, in which the Center for Industrial Development participated.

 

According to World Bank the number of extreme weather events around the world have vastly increased. Moreover, the poorest are already affected the most by extreme weather-events. According to Catherine McKenna, Canadian Minister of Environment & Climate Change, who participated in the London’s conference, COP21 in Paris marked a breakthrough in understanding and coordinated action towards climate change. “Global warming become very relatable to me, when in Paris, an Inuit elder said to a representative of Pacific island: my heart breaks, when I see my home melting, while it floods your home.”

 

The experts and practitioners present in London agreed that COP21 and the resulting Paris Accord are a great achievement towards taking significant action to fight climate change. The most praised feature of the Accord is that it is open to inputs from the scientific world and is therefore dynamic: it can respond to changes in the real world. However, the Agreement was compared to the best smartphone without an operating system, which therefore, is without much use. The challenge in front of the world’s leaders is to design an operating system for the smartphone. As our colleagues from the Silicon Valley would tell us, it is not an easy thing to do. Nevertheless, this is exactly the key topic on the agenda at meetings such as COP23, which has recently concluded in Bonn, Germany.

 

Bringing climate change from a high-level political approach down to the business world is exactly what the Center for Industrial Development is concerned with. The key insight for the business community which emerged from discussion in London is that while we can assume a 2-degree, or 1.5-degree scenario, the path to that point is not clear. In other words, companies must consider multiple future scenarios and not fall into the trap of thinking linearly.

 

Another well-known paradox of climate change is that while the poorest bear the most costs, it is the richest who contribute to changes the most and therefore, it is up to the Western World to lead in addressing climate change. This is the opinion of Jennifer Morgan, Executive Director of Greenpeace International, who sees that fundamental changes in three sectors – economy, technology and social – are taking place, which enable us to effectively fight climate change. At the same time, Marianna Silva, former Brazilian Minister of Environment (2003-2008) and candidate for the President of Brazil (2010 & 2014), has been wondering how is it possible that Brazil is one of the world’s largest producers and exporters of grain, yet numerous people go to bed hungry. It is necessary to acknowledge that people in numerous societies around the globe are asking the same question and demand the politicians to solve this, and other, problems.

 

The UK offers an interesting example of politicians listening to the demands of society and acting on those demands. Here we do not mean Brexit, but rather the coal situation in the country. Claire Perry, the UK’s Minister of Climate Change and Industry, noted with pride that on the 21st April 2017 the UK was not using any coal-generated electricity during a 24 hour period for the first time since 1882, when Thomas Edison opened the first coal-powered power station in the country. The Minister underlined that since 1990, the GDP of the UK increased by 70%, while emissions of climate change gasses were reduced by 40% in the equivalent period. Therefore, responding to social trends of constituencies combined with dramatic reductions in the costs of renewables mean grid-parity for renewables can already be achieved in numerous regions of the world. All of that is possible thanks to businesses such as Tesla, which decide to act on scientists’ latest insights.

 

The above example once again can inform conversations in numerous business circles. One of the investors present in London asked, “why would I wish to invest in coal, while I can already confidently say that renewables are at grid parity with coal-based electricity and I am virtually sure that replacement costs for coal will be higher than replacement costs for solar PV. Moreover, with coal I have on-going OPEX costs, while with solar PV those are much, much lower.” While this assessment is fully true, it is still a matter of fact that Asian economies are developing coal-based electricity generation at home and are financing such technologies in other parts of the world. Therefore, if the West wants to maintain its influence in the energy world, it must provide alternative financing for both renewable and coal generation.

 

The financing question was very high on the agenda in London. It seems that public funds are the key force jumpstarting revolution in the energy world. Government programs such as the UK Challenge Fund and the Faraday Challenge are what sets the wheel of innovation in motion. According to estimates presented in at the conference, the size of investments needed in order to get to the world envisioned in the Paris Accord is valued at $300 billion, which is a massive opportunity one cannot afford to miss.

 

While the opportunity is huge, discussion in London showed that tapping into it is a different story. One of the arguments goes that those investment projects are not yet around and they will emerge at some point in the future. This argument has been quickly refuted, as investors assured that there is an abundance of clean energy projects looking for funding globally today. However, those projects are packaged in ways currently unfamiliar to investors, so only the curious investors are able to get the piece of the pie.

 

According to one study presented at the conference, as many as 97% of investors in Europe want to increase their environmental-friendly investments, but actually a tiny few percentage of investors walk the talk and are investing in such projects. Companies are partly to blame here, as other research has showed that only a small portion of companies with an environmentally focused strategy in place communicate it with investors.

 

However, the key problem of increasing clean energy investments is rather simple and offers a unique opportunity for the whole money management space. It turns out that nearly all green bonds issued globally are not rated by credit agencies and they therefore cannot be legally purchased by pension funds, which happen to be managing the greatest amount of money. Therefore, a clear call to action for credit agencies to look into this space emerged from our London’s discussion. Moreover, we have learned that having already identified this niche the British Standard Institute is in the process of developing green investment standard.

 

Furthermore, it was clear during our discussion in London, that the social dimension of the discussed market changes cannot be diminished. When viewed through a lens of having 5 million people employed in coal mining in China, one is not so quick in jumping to the conclusion we should abandon coal overnight and turn to natural gas, or ideally only renewables. The question of the future of those 5 million miners together with many more employed in adjacent industries is a critical question and as it was noticed in London, sadly, no one is really thinking seriously about it.

 

Nevertheless, the above argument does not change the validity of investment thesis in natural gas, which is seen as the transition fuel from a centralized, fossil-fuel dependent system of electricity generation to a new, de-centralized, de-carbonized and digitalized electricity system. Electricity-generation combined with water desalination was also envisioned as an interesting investment opportunity. However, it is in LNG where the most exciting developments are happening, as it allows for linking gas markets, which historically seemed to be located on different parts of the planet. Moreover, LNG seems to be fabulous fuel for IT Data Centers, or agriculture, as it allows for electricity generation and also cooling of data centers or agricultural products. You can explore our thoughts on innovations in the LNG space in our preview of the Polish LNG Conference, in which CID recently participated.

 

The uniqueness of Chatham’s House Climate Change conference is rooted in the fact that it does bring together, in a productive environment, stakeholders from the widest possible range of backgrounds. Form business people to regulators and financiers, all the way to scientists. Such a dynamic makes it almost certain that great insights will emerge in the discussion. Often the greatest insights are also the simplest and this is indeed the case with the key insight from the conference: discussion about climate change cannot concern only CO2 emissions, as this derails the whole point of conversation, which is that climate change has far reaching impacts. We have to talk about all climate change gases if we want to A) understand what is going on and B) affect it in any meaningful way. Therefore, having a broad, bipartisan and objective understanding of the issue at hand is key. Two examples illustrate what happens if one does not think in such open-minded and logical manner.

 

Thinking about the natural gas value chain: it is a true fact that substituting coal-powered electricity generation with natural gas reduces almost all NOx and SOx emissions, while significantly cutting CO2 emissions. However, it is also true that there are methane leakages in the natural gas value chain, which often times exceed the European standard should not exceed 0.6%. Now, methane is 20 times more harmful to the atmosphere than CO2. From this perspective, the primacy of natural gas over coal is not so certain.

 

Consider another example: if one would see a certain Caribbean island after the hurricane only from numbers perspective, it would be a miracle, as the GDP would grow greatly. Of course, most of this GDP growth is not welcome, as it only allows the island to come back where it was before the tragedy. Not to mention that probably most of this growth would be coming from credit, which increases the risk of the default of the island.  However, from narrow-minded perspective of the GDP the picture would look really appealing. Therefore: one has to aim to understand complex systems insight out before attempting to change them.

 

Profound changes caused by climate change and climate change mitigation actions are not limited to the energy sector, but rather they also affect two sectors of a particular focus for the Center for Industrial Development: mining and agriculture. The question is not whether those two sectors will be affected, but how quickly those changes will reach the sectors and what the trajectory of change will be.

 

It was clear to experts present in London that agriculture can and should be a big winner in the world affected by climate change. According to the experts, the sector should combine working towards mitigating climate change with lifting people out of poverty. There are approximately 700 million people still living below poverty line today, while over a billion people does not have access to electricity and many who have access to electricity are not using electricity we know, but use kerosene. Kerosene is not only the worst solution environmentally, but also the costs of generating one unit of light are much higher than in the West. Back to agriculture: the soil has significant potential to store carbon, which is the key for keeping growth the increase in the Earth’s temperature below 1.5 degrees in line with the Paris Accord. Carbon and its price was a huge topic in London. According to the experts the CO2 should be priced at $40 per ton right now. This price should grow to $100 in 2030.

 

Climate change affects and will further affect everyone: agriculture, energy and mining, as well as every single inhabitant of the planet. Given the above, we must think about where most live: cities, which at the same time emit 70% of climate change gasses globally. The host of Climate Change 2017, London, is an interesting example of city taking climate change seriously. Not only is the city working on its Integrated Environmental Strategy, but London is also aiming to be a net carbon zero city by 2050. The sense of urgency in the Mayor’s office is rooted in the fact that big part of the city is located in the flood zone, which means London is already in the process of planning works for the New Thames Barrier.

 

In summary, climate change is profound, its impact is complicated and hard to envision in an eloquent manner. Therefore, it is good to start with most basic truths by asking series of simple questions: if you suddenly have to pay $40, or possibly $100 per each ton of your CO2 emissions, how would this affect my bottom line? Would you still be in the business? If yes, would you at least break-even? Or, would you be significantly more profitable in such a world compared to one without a CO2 price? It is the Center for Industrial Development ambition to help your business, city, region, and or country to prepare and analyze the effects of the coming changes on you. Please let us know how we can help you make sense of climate change so that you can continue to move productively forward towards progressing human freedom and development.

 

 

Mateusz Ciasnocha is constantly on a mission to “unleash dormant potential.” He specializes in agriculture, energy, and Africa, and is also passionate about innovation and entrepreneurship. Mateusz currently studies at ESCP Europe Business School and the University of Oxford, where he is receiving a Masters in Energy Management and Philosophy Certificate, respectively.

 

 

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