Recent developments signal that the world is moving inexorably towards imposing progressively higher costs on carbon emissions to accelerate the decarbonisation of the global economy.
Embedding the cost of carbon pollution into business and investment decisions will provide a much-needed boost to global efforts to align economic activity worldwide with climate goals.
“For the longest time, the world did not put a price on the carbon emissions that have steadily degraded our environment and now pose serious climate risks,” Monetary Authority of Singapore managing director Ravi Menon said in a 20 May 2021 speech to launch a new carbon exchange, Climate Impact X, focused on trading of carbon credits generated through nature-based solutions. “A meaningful price on carbon is critical to create the right incentives to reduce emissions.”
Currently, there are over 60 carbon pricing initiatives worldwide, covering an estimated 21.5% of global greenhouse gas emissions, according to World Bank data (Exhibit 1).
Prices range from less than USD0.10/tonne in Poland to as high as USD137/tonne in Sweden, although these are difficult to compare across countries due to multiple factors including differences in economic sectors covered, specific exemptions, and other policy adjustments.
In Singapore, a carbon tax of SGD5 per tonne has been in place since 2019; the government is reviewing the level and trajectory of the tax post-2023 and is expected to announce the outcome at next year’s Budget (see Singapore Budget 2021 – Stronger Together).
Source: World Bank, latest available data as at 20 June 2021.
Note: ETS = emissions trading system. Carbon pricing initiatives are considered "scheduled for implementation" once they have been formally adopted through legislation and have an official, planned start date.
The number of such initiatives has expanded rapidly in recent years amid a growing sense of urgency by policymakers to tackle the existential threat of climate change (Exhibit 2).
China’s much-anticipated nationwide emissions trading system (ETS) spanning 2,225 power firms is scheduled to go live by end-June, as part of the country’s efforts to reach peak emissions before 2030 and decarbonise its economy by 2060. Once implemented, it will be the world’s largest ETS, covering some 40% of China’s greenhouse gas emissions.
China has also set up a task force comprising top officials to oversee and coordinate nationwide efforts to reach its target of net zero emissions by 2060, according to a news report from state broadcaster CCTV.
Source: World Bank. Note: ETS = emissions trading system. Only the introduction or removal of an ETS or carbon tax is shown. The coverage of each carbon pricing initiative is presented as a share of annual global GHG emissions for 1990-2015 based on Emission Database for Global Atmospheric Research (EDGAR) version 5.0 data including biofuels emissions.
Its first meeting in late May was chaired by Vice-Premier Han Zheng (韩正), who sits on the seven-member Politburo Standing Committee comprising the top leadership of China’s Communist Party. He stressed that China should seek the “greatest common ground” on global climate governance and work with the international community to protect the planet.
China will begin phasing out coal use starting in 2026-2030 as part of its efforts to reduce greenhouse gas emissions, President Xi Jinping said at the Earth Day Climate Summit in April.
China also recently updated its catalogue of economic activities eligible to be financed by green bond issuance to completely exclude coal and other fossil fuels, clearly signalling its intention to redirect capital away from fossil fuels and towards low-carbon projects.
China is estimated to need well over CNY100 trillion of new investment in energy infrastructure over 2020-2050 to set it on a pathway consistent with the Paris Agreement’s 1.5°C goal, according to a study by Tsinghua University’s Institute for Climate Change and Sustainable Development.
Pricing carbon emissions globally
Latest developments also suggest that countries that are slow to introduce carbon-pricing schemes will increasingly face difficulties or higher costs in accessing major export markets.
The European Union is preparing to introduce a carbon tax on certain imports that do not embed carbon costs similar to those produced within the EU, or a “carbon border adjustment mechanism”.
News reports suggest that the carbon border tax could target steel, cement and aluminium imports. Affected businesses would likely be required to buy carbon credits at prices prevailing under the EU emissions trading system introduced in 2005, where spot prices are currently around EUR50 per tonne.
This is consistent with our long-held view that strong policy support for decarbonisation in the EU will have significant influence well beyond Europe, introducing new risks as well as opportunities for businesses globally.
In the US, President Joe Biden has established a task force comprising senior members of his cabinet – including Treasury Secretary Janet Yellen, National Climate Advisor Gina McCarthy, and Environmental Protection Agency chief Michael Regan – to update the “social cost of carbon” that is used by the US federal government to determine environmental regulations and a wide range of other policies that require an assessment of external costs of pollution.
A statement on 19 February 2021 sharply raised the measure of carbon’s social cost to around USD50 per tonne in 2007 prices based on earlier guidance published by the Obama administration, up significantly from the USD1-USD6 per tonne cost used by the Trump administration.
We expect the Biden administration to further increase its assessment of the social cost of carbon next year following a full review, and we expect this to be a key policy instrument in Biden’s whole-of-government approach to fighting climate change.
A recent academic paper published by economists Nicholas Stern and Joseph Stiglitz argues that a significantly higher price of around USD100 per tonne (in 2007 prices) is needed by 2030 to set the US economy on a path consistent with the Paris Agreement climate goals. Other academics at the University of Chicago have argued that an even higher price of USD125 per tonne is needed.
As these initiatives gather momentum, we expect the pricing of carbon emissions to emerge as a vital component of policymaking globally, in addition to other critical policy developments in major economies that will reshape the world economy in the years to come.
The narrow path to net zero
“The path to net zero emissions is narrow: staying on it requires immediate and massive deployment of all available clean and efficient energy technologies,” the International Energy Agency (IEA) said in its latest report published in May 2021, offering a detailed pathway to reaching net zero emissions from energy and industry by 2050.
A key proposal in the IEA report is that there should be no new oil and gas fields or coal mines approved for development starting this year, while annual investments in energy should more than double from around USD2.3 trillion now to USD5 trillion by 2030, mainly focused on clean energy and enabling infrastructure.
On the current trajectory, the world still faces a temperature rise of around 2.4°C by 2100, well above the Paris Agreement’s 1.5°C goal, according to the latest projections by Climate Action Tracker published in May 2021.
Globally, the threat of potentially disastrous climate change in the not-so-distant future is exerting increasingly greater influence on key policymakers and industry leaders.
Of the world’s 2,000 largest public companies, more than one-fifth (21%) have now committed to reduce emissions to net zero, a report published in March 2021 shows.
The G7 advanced economies – the US, Canada, France, Germany, Italy, Japan, and the United Kingdom – recently pledged to stop international funding of coal projects by end-2021 and phase out “inefficient fossil fuel” subsidies by 2025. The group also committed to halving collective emissions by 2030 from 2010 levels and to reach net zero emissions by 2050.
More efforts in progress to aid green transition
Globally, other top policymakers are increasingly focusing their attention on climate change and using their available policy levers to support the transition to a low-carbon world economy.
“The job of green transition is to make the implicit cost of fossil carbon emissions explicit and impose restrictions on them,” People’s Bank of China governor Yi Gang said on 10 June 2021. “This will require that emitters pay for incremental carbon emissions, and that existing emission rights be made tradable through proper pricing. This way, those that reduce emissions will be rewarded while the emitters will pay their price.”
The PBoC plans to develop a mandatory disclosure system that would require all financial institutions and firms to follow uniform disclosure standards and is also working with the European Union to harmonise green taxonomies across the two markets this year. The PBoC has also conducted climate risk stress tests on financial institutions and is closely monitoring their progress on the green transition, Yi added.
At a “Green Swan” virtual conference hosted by the Bank for International Settlements on 2-4 June, European Central Bank president Christine Lagarde argued that central banks must account for climate change risks even within their current mandates because:
We expect to see more policy announcements and commitments globally in the coming months ahead of the UN Climate Change Conference (“COP26”) meeting in November.
Source: Climate Action Tracker.
Note: NDC = nationally determined contribution, each country’s decarbonisation commitment under the Paris Agreement.
New opportunities emerging
Our view remains that global efforts to pursue sustainable, climate-resilient development paths and mitigate the threat of climate change will drive wide-ranging, significant changes to the global economy for years to come.
Businesses that anticipate and adapt successfully to these changes stand to benefit from the reshaped economic landscape as policymakers worldwide strengthen their response to the threat of climate change.
Various new opportunities are emerging for businesses and investors, including opportunities in decarbonisation technologies such as carbon capture and storage, as well as renewable energy.
Other segments that also offer excellent opportunities for long term secular growth are companies with indirect exposure to the ongoing decarbonisation of manufacturing, transport, construction and urban design.
These include suppliers of specialised chemicals, chips or other critical components used in clean-air systems to reduce emissions from vehicles and industrial plants and to produce batteries for electric vehicles, as well as sophisticated automation systems to reduce wastage and improve energy efficiency in buildings or manufacturing facilities.
We see even more opportunities emerging as the transition to a low-carbon economy accelerates in the coming years, encompassing all parts of the global economy.
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