Climate crisis
Sustainable solutions and insights
Getting to grips with carbon
Carbon budget: cutting it fine
A huge gap remains to keep alive the Paris Agreement’s goal of limiting global warming to 1.5 degrees Celsius from pre-industrial levels.
The United Nations Environment Programme (UNEP) Emissions Gap Report 2021 shows that new national climate pledges combined with other mitigation measures put the world on track for a global temperature rise of 2.7°C by the end of the century. To keep global warming below 1.5°C this century, the aspirational goal of the Paris Agreement, the world needs to halve annual greenhouse gas emissions in the next eight years, according to UNEP.
This mean that the world has eight years to take an additional 28 gigatonnes of carbon dioxide equivalent (GtCO2e) off annual emissions, over and above what is promised in the updated Nationally Determined Contributions (NDCs) and other 2030 commitments. Carbon dioxide emissions alone are expected to reach 33 Gt in 2021. When all other greenhouse gases are considered, annual emissions are close to 60 GtCO2e. For the 2°C target, a drop in annual emissions of 13 GtCO2e by 2030 is required.
The road to reduction is a rocky one. A raft of commitments from countries to reach net-zero emissions — including India by 2070, China by 2060, Indonesia by 2060, and Japan by 2050 — over the past year would lead to a global temperature rise of 2.1°C based on estimates by investment management firm, FTSE Russell. "Current policies for several advanced economies appear significantly off track when measured against their more ambitious NDCs," according to FTSE Russell's The COP26 Net Zero Atlas report.
Meanwhile, emissions in 2021 are set to rebound towards their pre-Covid 19 levels after an unprecedented dip in 2020. Global fossil carbon dioxide emissions are projected to increase by 4.9 per cent (4.1 per cent-5.7 per cent) in 2021, with the largest increase in China, United States and India, according to the Global Carbon Project, 2021. Global fossil CO2 emissions have risen steadily over the past decades. Watered down pledges to end coal-fired power by China and India, point to the difficulty in breaking the relationship between energy consumption and GDP growth.
The top six emitters in 2020 covered 66 per cent of global emissions including: China (31 per cent), United States (14 per cent), the European Union (7 per cent), Russia (5 per cent) and Japan (3 per cent). India has committed to net neutrality by 2070 and has pledged to reduce its projected carbon emissions by a billion tonnes by 2030. It has also committed to 50 per cent renewables share of power generation and to reducing carbon intensity of its economy by 45 per cent by the same date.
Carbon pricing
A carbon price is an economic signal to emitters giving them an opportunity to transform their activities and drive down emissions or continue emitting and pay for emissions. Carbon pricing usually takes the form of taxes on polluters’ emissions or “cap and trade” emissions trading systems (ETS) that limit how much companies can emit before having to pay more. Placing an adequate price on greenhouse gas emissions is fundamental to internalise the external cost of climate change in the broadest spectrum of economic decision making and setting incentives for clean development.
The Refinitiv Carbon Market Survey 2021, found that a higher carbon price is likely to trigger companies to slash emissions and will become crucial for investment decisions as the markets develop. Furthermore, carbon border taxes being mulled by the EU, could see heavy penalties on China's carbon-intensive industries such as steel.
Prices are climbing as investors rush into carbon. Higher prices make coal less competitive, boosting green technologies like carbon capture, use and storage and green hydrogen. The EU's carbon prices jumped above a record 71 euros (US$79.74) a tonne on 22 November. Prices have nudged up since an agreement on global carbon trading at the UN Climate Summit earlier this month and surging gas prices which spurred traders to bet that emissions markets would rally as a result. Carbon prices are now more than double their level at the beginning of the year and up from 55 euros (US$61.79) a tonne a month ago.
China launched the world’s largest carbon market in July in a bid by the world’s biggest polluter to lean on market mechanisms to slash carbon dioxide emissions. The national ETS, i.e., the buying and selling of greenhouse gas allowances, has exceeded 1 billion yuan (US$156.50 million) since it was launched, China’s environment ministry said on 12 November. China’s carbon price has been steady at US$7.88-$8.76/mt but is considered too low to drive significant decarbonisation of the power sector, or incentivise a switch away from coal.
Currently, the Chinese ETS covers only fossil power generators, but more industry sectors are set to be added gradually. Respondents in Refinitiv's carbon market survey see iron and steel as the top candidate for the first scope expansion, even though that sector faces a particular challenge in terms of benchmark calculations.
Implied Temperature Rise of every country with a quantifiable NDC target. Source: The COP26 Net Zero Atlas, FTSE Russell, an LSEG business.
Implied Temperature Rise of every country with a quantifiable NDC target. Source: The COP26 Net Zero Atlas, FTSE Russell, an LSEG business.
Climate reporting, disclosures and standards
Investors have made it clear that they want the companies they own to commit to a business model which is compatible to climate change including greenhouse gas emissions reduction targets. It is also in their interest to be able to gauge decarbonisation efforts as it helps to manage risks; spot opportunities; engage with corporate management; comply with financial reporting rules; set metrics and targets; invest sustainably and anticipate regulatory changes. Risk management ranks as the top driver of asset owners implementing investment strategies, according to a survey conducted by FTSE Russell.
While there has been a significant growth in the disclosure of climate-related metrics, it is also clear that current disclosure falls short of what is required to make a fully informed investment decision.
“Investors and regulators are demanding better quality reporting from companies – those that drag their heels will have a lot of explaining to do and may be perceived as having something to hide, and indeed those who do not report get penalised in their ESG scores,” according to a report by Refinitiv and Fathom, a macro-research consultancy.
Carbon accounting standards continue to evolve with a particular emphasis on improving and standardising reduction targets and scope 3 emissions reporting. But the proliferation of competing reporting standards, rankings and metrics surrounding ESG funding are bewildering companies and investors. Current standards and rankings vary widely meaning that the quality of sustainable investments can be compromised.
Most of the world uses International Financial Reporting Standards (IFRS), which are established by the International Accounting Standards Board (IASB). The IFRS Foundation said at the COP26 climate conference that it would form the International Sustainability Standards Board (ISSB), which will be tasked with creating a single set of standards “to meet investors’ and information needs”.
“The standards will form a comprehensive global baseline of sustainability disclosures,” said Erkki Liikanen, chair of the IFRS Foundation Trustees.
The industry-led Task Force on Climate-related Financial Disclosures (TCFD), has also made it clear that companies should be measuring the material risk of climate change and informing investors how it is likely to impact their bottom line.
Despite the release of the TCFD recommendations, there is still a lack of consistency in the disclosures of emissions reductions targets making it difficult for investors to understand the nature of carbon commitments and “makes systematic comparisons of company ambitions across large portfolios difficult to achieve,” according to a note on sustainable investment by FTSE Russell.
Guiding companies to provide granular, standardised disclosures is essential to furnish investors with robust carbon targets data, which can provide a critical input into analytical tools and investment products that help investors to address climate risk. FTSE Russell has developed a TCFD aligned disclosure template to promote concise and unambiguous disclosures of corporate GHG emissions reduction targets.
Country-level emissions data are available on Refinitiv Datastream. In addition, country-level and company-level emissions and ESG data can be found on Refinitiv Eikon and Refinitiv Workspace. Scope 1 and 2 emissions are available for 97 out of the 100 companies on the FTSE 100 and 75 per cent of the companies on the S&P 500. Scope 3 emissions are available for 72 per cent and 48 per cent of companies on those two indices, respectively. Typically, where they are not available via the Refinitiv ESG database, they are not publicly reported by the companies. Refinitiv, however, provides an estimated figure.
Who should reduce their carbon emissions?
Ideally, all industries in every country should be making cuts. However, climate-vulnerable and emerging countries charge that rich, developed nations have caused the problem of climate change and must cut emissions to curb it. India, one of Asia’s top carbon emitters, raised the issue of fairness during the COP26 negotiations and said it was looking for compensation for climate disasters believing the cost should be borne by developed countries. The country’s annual per capita emissions stand at about two tons of carbon dioxide, compared to more than 16 tons in the US and is less than half of the global per capita average.
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However, targets can only be reached if both developed and developing nations drive down their emissions. This adds pressure on countries in Asia, including Australia, which produces and consumes three quarters of the world’s coal. Coal represents about 40 per cent of the global fossil CO2 emissions. Roughly half of China’s electricity comes from it while 70 per cent of India’s electricity comes from coal. To compound issues, Asia also produces most of the world’s cement and steel, releasing copious greenhouse gas emissions.
Annual emissions in China are expected to reach another record high in 2021, with substantial industrial growth propelled by coal-fired power. It is a similar picture in India where emissions are expected to jump sharply in 2021 driven by coal-fired power generation. Bolder decarbonisation targets at COP26 in November were dashed by India and China diluting the language to end coal-fired power.
China accounts for about 30 per cent of global greenhouse gases with fossil fuels comprising 85 per cent of the country’s energy mix. While the country appears to be taking decarbonisation seriously, the countering economic costs to achieve targets will put climate policies to the test. China’s success will depend on stringent curbs on sectors that have been critical to sustaining China’s economic growth over the past decade. Some have estimated that China’s 2060 carbon neutrality pledge will cost around US$163 billion a year.
When classed by activity, around one-third of global GHG emissions come from producing electricity and heat, while approximately one-fifth each comes from industry (including manufacturing and construction) and transportation. “Find a way to reduce emissions from these activities and most of the work is done,” according to the Refinitiv's carbon budget report. Alternative technologies and fuels are actively under development and at COP26 governments agreed to prioritise public procurement of low-carbon production.
Barriers to tackling the climate crisis
Lack of common language, data
Based on the result of a survey of investment professionals at 179 global asset owners, the FTSE Russell survey found that almost two-thirds of all asset owners are motivated to adopt sustainable investing to mitigate long-term investment risk. However, there is no universally agreed upon terminology that can help to create a common language and models about sustainability at a statistical level. Measuring the carbon footprint of a company is also problematic and the task of establishing a clear line between climate change and investment outcomes is fraught.
Getting consistent data on sustainability scores and performance measures remains a difficult task even with the presence of more than 150 major data vendors, each with their own proprietary definitions and methodologies on materiality, intentionality and additionality. Most of the data required is self-reported which has led to companies cherry-picking measures as they ‘mark their own homework’ - filtering out the less attractive aspects. This again raises issues of credibility.
Emerging markets push back
Climate-vulnerable nations and emerging markets charge that rich, developed nations that largely owe their industrial success to fossil-fuel power, caused the problem of climate change and must cut emissions to curb it. The Organisation for Economic Co-operation Development (OECD) member countries are responsible for three-fifths of cumulative historic emissions, seven times more than the rest of the world on a per-capita basis. Squarely placing the blame on rich nations for the unavoidable loss and damage due to climate change, India's Prime Minister Narendra Modi said at COP26 that rich countries should provide his country as much as US$1 trillion in climate finance.
Economic titans, China and India, are also reluctant to cut their ties with coal. The decision text of COP26 was supposed to consign coal to history and called on parties to “accelerate the phasing-out of coal and subsidies for fossil fuels”. Last minute intervention by the Indian environment minister Bhupender Yadav, diluted the language to “phase down” unabated coal use. China, which possesses the largest coal fired power plant capacity, has committed to peak carbon emissions, yet has made no firm commitment to reduce reliance on coal. China has argued in the past that they should be given more time to decarbonise than wealthier countries such as the US.
Structural differences are also a barrier to the reduction of emissions. Part of India’s reticence to sign the Global Methane Pledge to slash the harmful greenhouse gas by 30 per cent by 2030 is rooted in its reliance on agriculture. A fifth of the country’s emissions come from agriculture which represents over 15 per cent of the country’s US$2.7 trillion economy and employs half of the country’s 1.3 billion population. “It is much harder, and more expensive (and in some cases impossible), to reduce emissions from agriculture than it is for some other activities, meaning that net zero in India would feel more difficult than elsewhere,” according to Refinitiv's Allocating the world’s carbon budget report. Wealthier countries must lead the way in decarbonisation efforts. Without robust carbon markets and financing deals that will not straddle developing nations with more debt, net zero will remain elusive.
Green crime: a hidden threat
Green crime is the flouting of regulations designed to protect the environment and wildlife. It involves illegal activity that is closely linked to corruption, organised crime and money-laundering. Environmental crime is estimated to be worth up to US$258 billion a year, according to Interpol and UNEP, making it one of the top five most lucrative illicit activities after illegal drugs, human and weapons trafficking.
It also poses a business risk. About two-thirds of the average company’s environment, social and governance footprint lies with its suppliers. Firms are under pressure to take greater responsibility for supply chains in order to stay ahead of stringent regulations, satisfy consumer expectations who are choosing brands with strong green credentials and to reassure banks and investors. Businesses need to understand and manage the environmental impact in every part of their business.
“Green crime will inevitably become a growing focus for compliance and risk functions,” according to Phil Cotter, managing director of Risk business at Refinitiv. “Technology and data have a crucial role to play in disrupting green crime networks."
Supply chain visibility requires firms to know what is happening at every stage of its production line but this is often not the case. Refinitiv research shows that 43 per cent of third parties do not receive due diligence checks and 60 per cent of respondents are not fully monitoring third parties for ongoing risks. Visibility can only be achieved through data that can help ensure compliance by unravelling complex ownership structures, network connections and the screening of entities across the globe to ensure they do not pose a reputational and environmental risk. Refinitiv’s World-Check Risk Intelligence global research analysts specialise in trafficking-related research and help businesses enhance due diligence checks on their value chains and commercial partners.
Breaking the barriers through technology and innovation
Technology fix
Carbon dioxide removal - known as carbon capture, use and storage (CCUS) - will be required to meet some of the Paris targets, but it is only part of the puzzle. Nevertheless, heavily emitting firms, from oil producers to cement makers, have staked their net-zero futures on carbon capture technology to cut plant-warming emissions. Increasingly, the focus for the application of CCUS is in the industrial hard-to-abate sectors, including: cement and concrete; iron and steel; oil and gas and mining.
There are 135 (two suspended) CCUS facilities in the project pipeline. In the first nine months of 2021, 71 projects were added – with one former project removed because development ceased, according to the Global CCUS Institute 2021 report. These numbers represent a doubling of the total number of CCUS facilities that are operating or in development since the 2020. Although the last 12 months have seen several positive developments in Asia, investment in commercial CCUS facilities lags behind North America and Europe.
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But CCUS is not widely available and is very expensive. Moreover, the high-stakes technology is beset with difficulties. Chevron declared on 11 November that it will buy more than five million greenhouse gas offsets after its giant Gorgon carbon capture project in Australia missed regulator-set-targets. The multimillion-dollar CCUS project has had problems with its pressure management system. While the mixed results will be a blow to intensive industry pinning their hopes on the technology, it is a win for environmentalists that are sceptical it will ever work and have called it a "dangerous distraction".
Oil & gas versus renewables
In 2020, renewable-energy generation grew at its fastest rate in two decades, according to a report by the International Energy Agency (IEA), an intergovernmental forecaster. New renewable-energy capacity grew by 45 per cent last year, adding an extra 280 gigawatts to the world supply.
There has been a groundswell of interest in new wind projects, with US$55.3 billion slated for investment in the first quarter of 2021, according to Refinitiv data. This is more than double the amount announced during the first quarter of 2020. Solar projects attracted US$18 billion in the same period this year. The IEA expects that growth in renewable-energy production will continue in the next few years, predicting 270GW of new capacity this year, and almost 280GW in 2022.
Prices are nose-diving, which is helping the wider adoption of renewable energy. In most markets, solar photovoltaic (PV) or wind now represents the cheapest available source of new electricity generation. In India and China, the cost of new utility-scale solar power has fallen to levels as low as US$20-40 per megawatt-hour (MWh), making it cheaper than coal, according to the IEA's World Energy Outlook 2020.
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While the uptake of renewables is accelerating, driving prices down, it still is not fast enough to offset the use of fossil fuels, which remain the world’s dominant source of energy. An acute energy squeeze in China and India this year signalled how volatile Asia’s energy transition is likely to be over the next few decades.
Infrastructure green rush
Over the years, infrastructure investment has evolved and gone beyond the domain of multilateral development banks and into the mainstream. A growing global focus on sustainability, the rapid growth of the electric vehicle (EV) market, and the prominent role weather-resilient infrastructure will play in cushioning countries against the most severe impacts of climate change, has pushed this asset class forward.
Sustainability is rapidly becoming a must-have component to any infrastructure deal.
The increasing frequency of extreme weather events mean investing in climate-resilient infrastructure is critical. However, infrastructure needs are largely unmet in Asia. The Asian Development Bank estimates that the region needs to invest US$1.7 trillion annually over the period spanning 2016 to 2030 to plug the infrastructure gap and adequately respond to increasing adverse weather.
According to projects tracked by Refinitiv, in 2020 alone, US$272 billion was invested in sustainable infrastructure projects, nearly double the levels seen a decade ago. The largest growth has come from wind projects, where US$55.3 billion was invested last year. Globally, roughly 35 per cent of all new infrastructure projects announced last year were classed as sustainable, up from just 10 per cent a decade ago.
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“Green infrastructure is now almost a de facto asset class. If you’re going to be building infrastructure now, it’s just going to have to be sustainable,” said Sherry Madera, chief industry & government affairs officer at the London Stock Exchange Group (LSEG), in Refinitiv's recent Sustainable Infrastructure Investment Report.
As projects move out beyond multilateral development bank funding, especially in emerging and frontier markets, and develops as a post-Covid government focus, "sustainability is rapidly becoming a must-have component to any infrastructure deal," according to Madera.
Raising ambition: next steps
The financial system has a crucial part to play in decarbonising the economy and achieving net zero ambitions. Innovative tools should help investors measure and manage climate risk in their portfolios. An improvement in disclosure and transparency will ensure that capital is directed on a Paris-aligned trajectory.
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