Smart Carbon Pricing Policies Can Drive Investment in a Cleaner Future
One hundred and twenty governments joined more than 800 scientists in reminding the world today that climate change is a growing risk that is already affecting lives and livelihoods. They warned in the IPCC Fifth Assessment Synthesis Report that we need to reduce global greenhouse gas emissions quickly – by 40 to 70 percent by 2050 – to stabilize rising global temperatures and avoid the most serious economic damage.
Businesses and governments know this. They know how to cut emissions through energy efficiency, renewable energy, and sustainable land use, and they can leverage the money needed to finance a low-carbon transition.
The question is how to change economic incentives and disincentives so they can turn that knowledge into action that has a measurable impact on climate change.
It’s a challenge that forward-thinking investors, government officials, and business leaders are taking up. We spoke with four business leaders during the World Bank Group/IMF Annual Meetings about carbon pricing frameworks that could shift investment to cleaner choices.
The business leaders – including from pension funds AP4 of Sweden and ERAFP of France, the international asset management firm Amundi, and the global technology company Alstom – talked about the need for consistent, meaningful carbon pricing with flexible policy frameworks that allow for innovation in how businesses lower their emissions; links between the diverse carbon pricing systems being developed around the world; and complementary policies, such as binding targets on increasing energy efficiency and renewable energy.
They also discussed the importance of corporate disclosure of climate risks and greenhouse gas emissions to help investors and business leaders direct capital toward cleaner choices.
Capital is available to finance the low-carbon transition, they said, but it will not flow at the levels needed for the long-term until governments provide consistent and credible policy signals.
“We have to start reallocating money from the bad to the good,” said AP4 CEO Mats Andersson, whose fund asks the companies it invests in to report back about how they are lowering their emissions and climate change risks. “We see many companies taking this very seriously and putting it into any investment case they have.”
Lowering emissions starts with risk assessment. It’s a concept basic to business practices and economics: calculate today what emissions will cost your business or community tomorrow and act accordingly.
For investors, however, that risk can be obscured when companies don’t report climate risks, such as the vulnerability of their supply chains and assets to natural disasters, resources increasingly limited by the impact of climate change, or stronger climate policies or mandates. A growing number of investors are encouraging companies they invest in to disclose their climate risks and carbon footprints to improve the companies’ and the investors’ decision-making.
Requiring climate risk disclosure, starting with public pension funds, would be in governments’ best interest, said Frédéric Samama, deputy global head of institutional and sovereign clients at Amundi. Governments should be asking themselves if public pensions funds are investing in polluting companies that will ultimately costs the country, its citizens, and its budget, and they ask why, he said.
Reporting is also connected with behavioral finance, noted ERAFP CEO Philippe DesFossés: If you have evaluations every six months or every year, and if reporting is present in daily corporate monitoring, it becomes an issue business leaders will act on.
Investing for the future
For businesses, a price on carbon provides the policy direction to shift their focus from immediate returns that could damage the environment and drain the resources they rely on to a longer-term outlook that supports sustainability. It can drive investment toward a cleaner economy and help investors and businesses identify risks, as well as opportunities for new investments or business lines.
“A long-term, meaningful price on carbon is critical for technology developers to sustain the necessary effort to bring innovative technologies to realization, like carbon capture and storage, offshore wind and smart cities,” said Alstom U.S. President Amy Ericson.
When the EU had a strong price on carbon, businesses were quick to invest in technologies that would help them lower emissions and meet the challenges of the future. It was in their economic interest to embrace energy efficiency and cleaner energy sources. With the lower carbon price today, many businesses have less incentive to invest for the future.
Developing a leadership coalition
The World Bank and partners, with input from finance ministers, investors and business leaders, are developing a carbon pricing leadership coalition to help governments learn from existing carbon pricing structures and find effective ways to reduce climate risks and encourage sustainable business decisions. The coalition will be a platform for discussion, knowledge-sharing, and ideas, including for linking carbon pricing systems.
Investors and businesses are already moving forward. Many work within carbon pricing frameworks in the nearly 40 countries and more than 20 cities and provinces with carbon taxes or markets in operation or planned.
Others know they are headed for a carbon-constrained future, and they can gain an advantage by preparing now. Companies with hundreds of billions of dollars in assets disclose their carbon footprints through systems such as CDP, the Carbon Disclosure Project, and more than 150 large companies have developed their own internal “shadow” carbon pricing mechanisms to help guide their decisions for a future when they expect to have formal carbon pricing in place.
Internal pricing isn’t enough, though – governments have to follow up.
To encourage low-carbon investment, carbon pricing and climate policies must be feasible, achievable, and not subject to whims or constant political adjustment, Ericson said. The most effective policies are also flexible so each business can respond in the most efficient way for its situation – which leads to greater innovation and business opportunities.
“We need a price on carbon,” DesFossés said. “Once we have that framework, we will allocate the capital.”
Another important source of carbon pricing knowledge is the Partnership for Market Readiness (PMR). This week, representatives from more than 30 countries in the PMR are meeting in Chile to discuss their progress in designing and building the carbon markets and carbon pricing systems of the future.
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Featured on The World Bank 2nd November, 2014