As the eurozone crisis rumbles on (and with the potential consequences that may have for the global economy at large) governments continue to rein in spending as they attempt to balance their books over the medium term. One inevitable casualty as swingeing cuts are implemented will be investment in the renewable energy and clean technology infrastructure needed to address the issue of climate change.
In a report, published ahead of last November’s UN climate change summit in Durban, Ernst & Young said as much, arguing that a large climate change funding gap is emerging because governments can no longer afford previous levels of investment under current austerity measures.
Its report, Durban Dynamics: Navigating for progress on climate change, said the aggregate funding gap among 10 of the world’s major economies could hit as much as $45bn by 2015. Current austerity measures across these economies, which include the US, Japan, Germany, France and the UK, already mean a climate change funding gap of $22.5bn will open up by 2015. Should the eurozone crisis escalate, however, this could rise to $45bn.
The funding gap is set to be most pronounced in Spain, the UK and France – Spain is forecast to spend $5.1bn less on climate change by 2015, relative to a scenario under which government spending grows at an average historical rate (1990-2010). The UK and France are projected to spend $4.2bn and $2.9bn less respectively.
In the event of the eurozone crisis escalating and leading to a new banking crisis, however, Germany would face the biggest funding gap (in absolute terms) of $8.3bn. Spain, Japan and the US would each face a gap of more than $6bn – the UK and France more than $5bn.
Out of sight, out of mind
Juan Costa Climent, E&Y’s global climate change and sustainability services leader, said: “The enormous projected funding gap revealed by this report suggests continuing economic uncertainty is pushing a low carbon economy further out of reach.”
He added: “Without a global agreement, rather than working out how to live in a carbon-constrained economy, the emphasis will be on living in a climate-constrained world. This will have enormous consequences for businesses and makes adaptation a key priority in addition to mitigation.”
If the potential funding gap poses a longer term threat, the issue of greenhouse gas emissions is slowly slipping down the political agenda in Europe in the short term, as the continent strives to address a low growth/no growth economic environment.
If the climate change summit in Durban demonstrated one thing at least, it was that agreement among the world’s major nations could be reached, albeit with the necessary amount of language fudging thrown in to ensure it doesn’t eventually fall apart.
It may yet do so, but the agreed text, known as the Durban Platform for Enhanced Action, will see the EU and other countries extend the Kyoto Protocol into a second commitment period (January 1st 2013 until 2017), allowing for the continuation of emission reduction initiatives enabled by the treaty, such as the Clean Development Mechanism (CDM), which has been expanded to include CCS (carbon capture and storage).
The Kyoto Protocol was originally adopted in Kyoto, Japan in December 1997, entering into force in February 2005. Under the Protocol, 37 countries at the time committed themselves to a reduction of four greenhouse gases (GHG): CO2, methane, nitrous oxide and sulphur hexafluoride, as well as the two groups of gases – hydrofluorocarbons and perfluorocarbons – produced by them.
The countries, including the US, also collectively agreed to reduce their greenhouse gas emissions by 5.2 percent on average for the period 2008-2012 – the reduction relative to their annual emissions in a base year, usually 1990.
Too little, too late?
Given that the US has never ratified Kyoto, the collective emissions reduction from Kyoto countries has subsequently fallen from 5.2 percent to 4.2 percent below that base year figure. Fast forward to Durban 2011, and delegates at least agreed to start negotiations for a new legally binding treaty to be decided by 2015 and to come into force by 2020. But “decided by 2015” hardly constitutes immediate action, does it?
More substantively, they added nitrogen trifluoride, used in the manufacturing of semiconductors, to the list of greenhouse gases already covered by Kyoto, a Green Climate Fund to help low-income countries cope with climate change, an Adaptation Committee to coordinate such efforts globally, rules for a global programme to reduce deforestation and how to monitor such deforestation, and a Climate Technology Centre that will help launch projects to reduce greenhouse gas emissions.
However, agreeing even these objectives still required the seemingly obligatory ‘UN speak’. The Durban text included such nuggets as the following, in which leaders agreed “to launch a process to develop a protocol, another legal instrument or a legal outcome under the Convention applicable to all Parties, through a subsidiary body under the Convention hereby established and to be known as the Ad Hoc Working Group.” In other words, don’t hold your breath.
Meanwhile, talks on the Green Climate Fund are set to commence next year on how best to funnel $100bn a year of finance into it annually from 2020. The question yet to be resolved, of course, is where the $100bn will come from.
Shortly after Durban concluded, Canada formally pulled out of the Kyoto Protocol; Canada’s minister of the environment, Peter Kent, claimed it didn’t represent a way forward. The country’s Conservative government – a firm backer of the energy industry – had previously insisted that Kyoto is no use in the battle against global warming because it doesn’t cover major emitters such as China and India.
In truth, Canada’s decision to pull out of the treaty wasn’t that surprising – the seeds were sown as long ago as 2001, when George Bush walked away from Kyoto. At the time, Canada’s then Liberal government found itself caught between the need to maintain emissions targets and industry complaints that cuts would give US competitors an advantage. Given the integration of the Canadian and US economies – Canada is the largest supplier of oil and gas to the US and sends 75 percent of its exports south of the border each month – the only major surprise about the decision was that it hadn’t come sooner.
Talking heads
While the talking heads in Durban were discussing how best to save the world, markets were swift to bring them back to reality – not least the near collapse in the price of carbon permits under Europe’s carbon emissions trading scheme, the European Union Emission Trading Scheme (ETS).
Under the ETS, member state governments – through agreed national emission caps with the European Commission – allocate pollution allowances to more than 11,000 industrial operators. Actual emissions are then tracked and validated in accordance with the relevant assigned amount. EU Allowances (EUAs) are retired at the end of each year – those operators discharging less CO2 than their permitted allowances being able to sell on any surplus allowances.
Operators within the ETS may reassign or trade their allowances by several means, ncluding the moving of allowances between operators within a company and across national borders; over the counter – using a broker to privately match buyers and sellers – or trading on the spot market of one of Europe’s climate exchanges. Like any other financial instrument, trading consists of matching buyers and sellers between members of the exchange and then settling by depositing a valid allowance in exchange for the agreed financial consideration.
The system, which has been in operation since 2005, has been expanded this year to include aircraft flights to and from Europe, leading to a cap on emissions in 2020 that will be 21 percent below 2005 levels.
Aside from long-standing accusations that the system has been blighted by fraud, the carbon permits market has suffered in recent months through a combination of an excess supply of permits issued in the first place and the poor performance of the European economy since 2008 (prompting a then rapid decline in industrial output), now being exacerbated by the ongoing eurozone crisis.
Unsustainable pricing
After slumping almost 50 percent (to a four-year low) last year to around seven euros per ton at one point, the price of EU carbon allowances for December delivery has since recovered to €9.30 per ton – in large part due to the European Parliament signalling support for an amendment to planned energy efficiency law that may include the withholding of some carbon permits from auctions. Denmark, which has now taken over the EU Presidency, has already said that the current carbon pricing regime isn’t sustainable.
While proposals for a portion of allowances may ultimately help underpin the price of permits, at the moment overall pricing behaviour and hopes of any sustained recovery in the market will continue to be determined by the major utilities companies, given power and heat generation accounts for some 60 percent of CO2 emissions within the ETS.
Many major European utilities (and big emitters) typically sell power production up to three years in advance and lock in their profits by purchasing the equivalent fuel and carbon permits.
The profit realised by a power generator after paying for the cost of coal fuel and carbon allowances is known as the clean-dark spread. While the spread has widened from 12 months ago – largely due to power prices surging while coal prices have remained relatively stable – this could yet significantly change should any European economic recovery run into the sand. A measure of this can be seen in greenhouse gas emission numbers – latest available data from the European Environment Agency shows greenhouse gas emissions from the EU-15 through mid-October 2011 were up 2.3 percent year-on-year. That said, across the 15 EU countries who share a collective target under the Kyoto Protocol, emissions were down 10.7 percent on 1990 levels, which is actually better than the eight percent targeted reduction the countries set for themselves between 2008 and 2012.
Meanwhile, the eurozone economy shrank by 0.3 percent in Q4 2011 – the first quarterly contraction since Q2 2009, according to Eurostat. Despite signs of stabilisation in January, helped by calmer capital markets and stronger growth in the US, the IMF’s forecast of a 0.5 percent contraction for the eurozone this year is likely to be close to the mark.
In its Energy Roadmap 2050 – published in December 2011 – the EU set out plans for reducing greenhouse gas emissions to 80-95 percent below 1990 levels by 2050. The map aims to provide guidance for investment beyond an existing set of firm objectives that establish policy through 2020, including a target to increase the overall share of renewables in the energy mix to 20 percent and to lower carbon emissions by 20 percent. A non-binding goal to improve energy efficiency by 20 percent is also present.
Necessary desire
Given future needs and supply are difficult to predict, however, the plan uses a number of scenarios examining the possible impacts, challenges and opportunities of modernising the energy system, taking into account potential changes in carbon prices, technologyand networks.
Combining the four main decarbonisation options – energy efficiency, renewable energy, nuclear and carbon capture and storage – the report suggests decarbonisation is possible and could be less costly than current policies in the long-run. It also found that energy efficiency and renewables are critical, regardless of the energy mix chosen.
While achieving these objectives is still very much hostage to fortune in terms of policies undertaken by individual governments, the report unsurprisingly adds that a common energy market is vital to keeping energy costs down and to ensuring a secure supply. Moreover, it should be completed by 2014.
With electricity prices set to rise until 2030, investment is needed now in ‘intelligent electricity’ grids and improved technologies to produce, transmit and store energy more effectively. Together with a common energy market, these measures should ensure that prices fall in the long run. Indeed, the costs will be outweighed by the high level of sustainable investment brought into the European economy, related jobs, and reduced dependency on imports.
The million dollar question, though, is whether Europe’s governments have the necessary political will to address these core issues or whether the continent is likely to drift along, much as it has done during the eurozone crisis. But the further issue is whether, political will notwithstanding, countries will actually have the money to pour into combating climate change. Dissenting voices faced with poverty and unemployment across the world have (justifiably) found other things to complain about in the past few years. But when, and if, the financial crisis is solved, how much irreparable damage will have been done to the environment?