Can Emissions Trading Deliver?

January 23, 2009

From Whitehall to the Whitehouse (http://www.whitehouse.gov/agenda/energy_and_environment) energy is on the agenda. With the recent high cost of energy still on policy makers minds, difficulties with Russian gas, the constant flow of environmental signals reminding us of a changing climate and economies desperately looking for ways to stimulate activity and create jobs, the idea of an “energy revolution” seems appealing.

The Whitehouse web site calls for the implementation of an economy wide “cap-and-trade” programme to reduce greenhouse gases by 80% by 2050. But is this really sufficient to do the job? An 80% reduction in emissions requires nothing less than an energy revolution, but can such a revolution really be delivered by an emissions trading system?

There is no question that emissions trading will be an important part of the necessary policy approach, but on its own it is far from the comprehensive framework that is needed. Such a framework comes from a look at not just what is wanted, but also a consideration of how it might be done.

The World Business Council for Sustainable Development publication Pathways to 2050 (www.wbcsd.org/web/publications/pathways.pdf) showed that “mega-trend” scale changes will be required in four key sectors of the energy economy – power generation, industry & manufacturing, transport and buildings & commerce. Each of these will need specific and different policy approaches to enable the necessary changes.

Technology will also be key to the changes required. Certain existing technologies must be rapidly deployed and a range of new technologies will need to be brought to market. A typical technology pathway model consists of three phases, Discover & Develop, Demonstrate and Deploy and each are needed to allow the technology to progress down the cost curve. Policy development often fails to consider the “demonstrate” phase, which sees the first commercial scale implementation of a particular technology and may require the construction of supporting infrastructure. Early infrastructure construction facilitates the shift to full deployment.

To fully enable the necessary changes to take place, policy must focus across all the sectors and along the full technology path. Within this framework, “cap-and-trade” is the instrument of choice for the deployment of technology (leading to emissions reduction) in the power generation and industry & manufacturing sectors. But that is just a small portion of the full framework. Deployment mechanisms must still be implemented in the transport and buildings sectors, demonstration support for a variety of technologies will be needed in all sectors and a comprehensive research and development programme is required across the whole economy.

In the European Union, progress has been made in completing the framework. The recent passage through the EU Parliament of the Energy and Climate policy package included a significant support measure for the EU carbon capture and storage demonstration programme. At a CO2 price of EUR 30, nearly EUR 10 billion will be available for commercial scale demonstration of this important technology.

In the US, the journey towards a new energy policy package is only just beginning. Whilst “cap-and-trade” will rightly feature as a cornerstone of the overall approach and will likely be the most visible and talked about aspect of what is to come, policy makers will also need to look beyond this single instrument to deliver the desired revolution.

A Blueprint for the Future

January 16, 2009

The US Climate Action Partnership (USCAP) has now released its Blueprint for Legislative Action,  a weighty weighty 24 page document which gives a complete overview of the steps needed in the USA to deliver an 80% reduction in emissions against 2005 levels. This represents a unique consensus between thirty very different organisations, mostly business, but importantly including a number of environmental organisations such as the World Resources Institute and the Pew Center for Climate Change.

The consensus is unique in that the organisations represented cover the whole value chain within the economy. For example, at one end are power generators, who may well have to raise electricity prices as a result of the CO2 costs they face, and at the other end is an aluminium company, operating facilities that are very sensitive to electricity price as they compete in world markets. Similarly, there are oil companies and vehicle manufacturers, mining companies and consumer facing companies, service companies and technology companies.

The backbone of the Blueprint is an economy-wide “cap-and-trade” system, supported where necessary with additional measures to accelerate change. In addition, there is solid recognition of the need for fiscal support for early commercial demonstration of key technologies for the future, such as carbon capture and storage.

Somewhat surprisingly, or maybe not, criticisms are already being made. Too much support for business, too many allowances allocated for free and from one commentator – “U.S. Climate Action Partnership Proposal Deeply Flawed”. But the Blueprint is a solid piece of work, the result of many hundreds of hours of work and analysis. I have kept only a tiny fraction of the USCAP e-mails that arrived in my InBox since Shell joined and I have over 300 of them – many of those with long and detailed attachments expressing positions and challenging others. This was not a hasty piece of work, so criticizing it in even less time than it takes to read and digest the full document seems trite.

As I have mentioned before, the challenge in front of us over the coming decades is huge. We don’t even really know if we can run an industrial society with near zero emissions, yet that is what we are seeking. Like it or not, we are going to have to take this step-by-step and the Blueprint represents a pretty big first one.

The Case for Business

January 14, 2009

Tomorrow (January 15th) will see the United States Climate Action Partnership (USCAP – a group of businesses and leading environmental organizations  that have come together to call on the federal government to quickly enact strong national legislation to require significant reductions of greenhouse gas emissions – www.us-cap.org) unveil details of the regulatory approach that should be taken in the USA to address climate change. But more about that tomorrow, after the formal announcement.

In advance of their annoucement it is worth thinking about why business even wants such regulation thrust upon it. After all, isn’t the traditional role of business to oppose government regulation? Whilst that has certainly been true in the past and may well continue to be true for certain types of regulation in the future, increasingly it is not the case when it comes to constraining CO2 emissions. This is game changing stuff and business has realised that in completely redesigning the rules of the game, it is better to be part of the design team than just the player at the end.

This is not to say that this makes it easy for the players, far from it. Rather, with business at the table, government can at least design a game (or in this case a regulatory environment) that can be played. Business has realised that the risk behind such pervasive legislation as will be required to reduce CO2 and other greenhouse gas emissions is that the business environment itself may become unworkable. It has also realised that if far reaching effective legislation is enacted now that puts us on a 40 year journey towards near zero emissions (an 80% reduction is effectively near zero and in any case by 2060+ it really will have to be zero), that is much better than the chaos that will ensue when government tries to grapple with really rapid reductions in say 2020 or 2030, having done little about it now.

Nobody really wants all this and there is no doubt that this is, to steal a phrase, a really incovenient issue. But it is the reality of the world we live in and what we are doing to it. There is a strong case for business to be involved in redesigning the environment in which it operates, principally so it can continue to deliver benefit to its shareholders and provide the goods and services that society depends on. Today, there is still the opportunity to do this in a thought through and constructive manner with government, business and civil society all at the table.

Tax or Trade

January 12, 2009

If you walked past a newstand on Saturday in London it was hard not to notice that climate change was back on the front page of the Independent — Oil giant comes in from the cold. The article, with its very bold headline, covered a recent speech by Rex Tillerson, CEO of ExxonMobil, in which he called for a carbon tax in preference to an emissions trading system. In his speech, strengthening global energy security at the Woodrow Wilson International Center for Scholars, Mr Tillerson also said that an emissions trading system was complex and added uncertaintly due to price swings.

I am not going to use this blog to argue with ExxonMobil, but I do think it is important to revisit the reasons why cap-and-trade (or emissions trading as we call it in the EU) is the policy instrument of choice in the EU and now Australia and is already operating in parts of the United States.

  • An emissions trading system is designed to deliver an environmental outcome, in that the cap must be met. This is certainty that is critcal for the environment. Whilst a carbon tax delivers some level of fiscal certainty, it does not necessarily deliver any particular environmental outcome. Emissions could fall, but equally they may continue to rise. It may take some years for policy makers to establish the level of tax necessary to deliver a given emissions reduction pathway.

 

  • Importantly and particularly in the current financial situation, an emissions trading system will deliver its environmental objective at lowest cost to the economy. By combining trading with a price for emitting CO2, the approach seeks out the most attractive reduction projects within the market which then drives the overall system to a lowest cost outcome. Emissions trading was applied to the problem of sulphur emissions from power stations in the United States. The overall cost of the meeting the environmental goal has been much lower than expected.

 

  • Despite claims of complexity by some, an emissions trading system is in fact remarkably simple. It does require monitoring and verification of emissions, but so too would a tax based system. Once the environmental objective is established and the equivalent number of allowances distributed – ideally by auction, the market then does the rest. In a tax based system, much of the infrastructure of a trading system would have to be replicated. For example, if for the sake of simplicity the point of tax collection was at the top of the value chain with the fuel supply (e.g. at the coal mine or oil well or point of import), a crediting system would have to be devised for downstream projects which dealt specifically with emission reduction (e.g. a carbon capture and storage project). Crediting would then require specific project oversight, measurement and verification. Alternatively, the point of tax collection could be set at the point of emissions, but that would entail a much broader bureaucracy due to the very large number of emitters.

 

  • A national trading system can be linked with other such systems, delivering over time a global market based approach. The bigger and broader the market, the wider the range of projects it can encompass, which leads to even lower costs overall.

 

  • A trading system offers policy flexibility which is important for business. For example, in Phase III of the EU Emissions Trading System some allowances will be distributed for free to deal with competitiveness concerns. Despite this, the incentive to reduce emissions remains in that the allowances have a value. This construction would be difficult to replicate in a tax based system, in that competitiveness issues would best be dealt with by not taxing – so the incentive to reduce emissions would vanish. Other tax constructions which attempted to mimic the “free allowance” position are feasible, but would add to the complexity of the approach.

So there is a choice – an approach designed specifically to tackle the environmental challenge in front of us, but which offers flexibility and lowest cost for business whist still ensuring the environmental objective is delivered, or more taxation.

I will opt for cap-and-trade any day.

Business and Opportunity

January 7, 2009

You may have read Guardian (UK) writer George Monbiot’s blog yesterday, It will take more than goodwill and greenwash to save the biosphere, which is based on an interview with Shell CEO Jeroen van der Veer. In fact some of the interview is included as a video clip.

What is presented is an interesting discussion on the role of companies, the environmental integrity of investments and the direction that companies should invest in for the good of the planet. But the stark reality of the world in which we live and the system that we have collectively chosen to support our lives is that it is opportunity based. Where an opportunity exists, it will be seized and value extracted – that is the nature of our society. But we have also learned over many centuries that rules and laws are good things. They modify behaviour and ensure that commercialization of opportunity doesn’t in itself destroy value elsewhere. The same rules should apply everybody, for reasons of fairness. Good rules and laws may even open up new opportunities within which others can prosper. But it seems that we are still learning – clearly the rules within our financial system are still not quite robust enough.

The application of rules and laws applies to the environment as well. Lord Nicholas Stern clearly showed in The Stern Team Review that the development and use of abundant energy today is destroying future value, because todays CO2 emissions will have an impact down the line through climate change. So, the rules of the game need to change.

Over the past year in particular, and there will be even more in 2009, I have been busy with a number of colleagues in Shell seeking the necessary rule changes in the energy system, such that business will seize the opportunity presented by the demand for energy in a different way. We strongly believe that a market based rule system, with an emissions trading system at its core, is the way forward to address the issue of CO2 emissions. We also believe that standards should be set for vehicle efficiency, that vehicle fuels should be targeted with a declining CO2 footprint and that a high level target for the use of renewable energy is needed. The people in Shell believe that our company can prosper under a new set of rules. Most of this rule set is now in place in the EU. That is good – but global will be better.

In the Monbiot article, the Shell investment in Canadian oil sands is challenged. But this is an opportunity that many Canadians want to develop. So how do we square this off with environmental concerns – the answer is simple, change the rules. We think that Canada should introduce an EU style emissions trading system, ideally as part of a broader North American approach. With a declining cap (to deliver, for example, the Obama pledge of an 80% reduction by 2050), oil sands will have to find a new way forward. Carbon dioxide capture and storage may be one solution, allowing continued growth. Or maybe the solution doesn’t present itself, in which case oil sands development will plateau and decline.

Either way, changing the rules is the way forward. George Monbiot said as much in the last line of his blog as well.

A Global Deal

January 1, 2009

There are huge expectations for 2009 – nothing less than a global deal to establish a framework within which the necessary emission reductions can be delivered. But a standalone deal is probably too much to hope for. Rather, the framework will bring together a multitude of approaches and ideas and hope to provide some much needed synergy to the process. That means we must look back at 2008 for the key elements of this deal, not just forward to Copenhagen as the solution. Looking back gives cause for hope. Whilst 2008 saw the global economy on its knees, there were significant steps forward in the climate change arena;

The new Australian government started the year with a mandate and a concept and by years end were close to delivering an economy wide emissions trading system.

The European Union delivered a complete package of measures for the period 2013-2020, not only extending the emissions trading system but underpinning it with carbon capture and storage legislation and fiscal support and bolstering its effectiveness with renewable energy targets.

The Regional Greenhouse Gas Initiative in the United States opened for business and the first allowance auctions were held.

President-elect Obama filled key energy posts with noted scientists and reaffirmed his commitment to a US emissions trading system.

Whilst energy efficiency remains a key motivation, China is showing early signs of a willingness to act decisively on CO2 emissions.

The UNFCCC COP 14 in Poland saw a number of developing countries pledge emission reduction targets.

New Zealand passed emissions trading legislation in parliament – albeit now in limbo under a new government, so one step back as well.

The Climate Change Bill was passed in the UK and a new nuclear energy mandate was established.

All of these steps and many more like them are the real elements of a global deal. As each year passes more progress is made, although the real shift in our energy system has yet to show itself. Whilst we still don’t have all the pieces in place to deliver anything like a robust solution, we are at least moving in the right direction.

4000 Days and Counting

December 17, 2008

Last week saw two major events in the climate change calendar – the UNFCCC meeting in Poznan (COP 14) and the meeting of heads of state of the European Union where the final compromise text for the EU Energy and Climate package was agreed. The UN climate change conferences also have something of a trade-fair atmosphere to them. Sitting in one of the many meeting areas doing e-mail or talking with colleagues, it isn’t long before a young environmental idealist thrusts a flyer in your hand advertising a side event or bringing your attention to an important issue. One such flyer alerted the reader to the need for developed countries to take on a 40% reduction target by 2020 (followed up by a zero emissions target for 2050). It is no doubt true that such a target is needed for 2020 to robustly respond to the scientific findings on climate change, but the question must be asked if we have even the remotest of hopes of achieving such a massive reduction. The young lady distributing the flyer couldn’t answer that question when I posed it.

This then takes us back to what is happening in Brussels, where a 20% reduction by 2020 is the cornerstone of the deal. The 20% reduction in emissions by 2020 (compared to 1990) represents a huge challenge for the EU. As of 2006, EU CO2 emissions stood at 4.02 billion tonnes, compared to 4.13 billion tonnes in 1990 (IEA data), or a 2.7% reduction.

Today, the EU has some 500 big power plants, several thousand industrial facilities, 250 million cars and upwards of 30 billion m2 of not very efficient building space. To reach the 2020 EU emissions reduction goal and continue to meet EU energy needs, all of the following will need to happen (as an illustration of the scale  – other pathways are also possible):

1. Near doubling of year on year energy efficiency improvement across the economy (i.e. Mega-Joules/€ of GDP), shifting from 1.5% p.a. for the period 1990/2006 to 2.7% p.a. from this year forward.

2. Retire (or convert – see below) some 40 big coal fired power stations.

3. Build (or convert existing) 20 big coal fired power stations with carbon capture and storage and establish this as a fully commercial technology. Today, not one such facility exists anywhere in the world.

4. Build another 25 large natural gas power stations.

5. Ensure no drop in nuclear power as many existing stations come due for retirement – a small expansion (4 more plants) is probably desirable, paving the way for further growth in this industry.

6. Establish a large-scale solar power generation sector utilising widespread solar PV and concentrated solar thermal.

7. Install ~100,000 2 MW wind turbines (or equivalent – e.g. the tidal barrage in the UK).

8. Improve average vehicle on-road (i.e. entire stock on the road in 2020) efficiency by ~35%. Given a vehicle life of >12 years, this means a ramp up in efficiency starting now.

9. Introduce low CO2 footprint sustainable biofuels and expand their use to ~10% of the vehicle fuel mix. Add to this some 14 million electric (or hydrogen) vehicles.

10. Increasingly use electricity as the end-use energy source of choice – i.e. instead of burning natural gas or heating oil at home and in office buildings.

11. Replace as required other retiring energy infrastructure.

Now consider that we have just 4000 days in which to do all of this!