Environment and markets

Countries have committed to reducing emissions and becoming carbon neutral by 2050. This is an unprecedented task, as it requires extraordinary financial efforts and changes in a very short period of time. The challenge belongs to everyone, but the conditions to face it differ between countries. After all, countries that have not even passed basic stages of development now find themselves with enormous environmental demands. On the other hand are the advanced countries, that are better prepared and equipped for these challenges.

But climate change is an issue that cannot be resolved at the country level. After all, nature knows no borders, and the climate crisis is linked to crises with far-reaching social and geographic repercussions. In this way, the solutions must take into account the specificities and interests of all so that the appropriate incentives can be created. As we are running against the clock and resources are scarce, it is necessary to seek efficiency and consistency to maximize results. In this sense, it is essential to align policies and strategies and to promote inclusive and cost-effective policies that generate synergies to better deal with climate change.

Unfortunately, we have seen the introduction of policies that lead to less alignment and efficiencies, and at least part of the explanation has to do with the size of the business opportunities from decarbonization. In fact, the International Energy Agency predicts that annual energy investments of at least $4 trillion will be needed to achieve carbon neutrality. Among these recent policies are the Inflation Reduction Act - IRA, from the United States, and the EU Green Deal, RePowerEU and the Carbon Border Adjustment Mechanism - CBAM, from Europe.

For example, through subsidies and tax incentives, the IRA aims, among other things, to make the United States a world leader in the area of goods and services for climate change and producing energy at low prices. CBAM requires most carbon-intensive imports from the EU to incur carbon taxes comparable to those of companies in the bloc or pay the equivalent in a carbon-based fee.

Since these policies have a high potential to influence markets through interventionist measures, as well as the cost and capital structure of companies, they create a diversion of trade, investment and employment that, at the end of the day, can have major detrimental consequences for other countries, especially developing ones, thus delaying the transition to a low carbon economy.

Just to illustrate: according to some bank estimates, the current cost of green hydrogen in the US would be $2.82/kg, but with the $3/kg tax credit to be granted by the IRA, the kilogram would have a negative value of $0.18/kg , a price that excludes the returns of hydrogen producers. The cost of the solar module could be reduced to $0.05-0.10/W by 2025-2030 from the current unsubsidized cost of $0.25-0.30/W. It is estimated that with the subsidies and incentives, the US production of solar and wind equipment will be the cheapest in the world and that at least 90% of the internal demand for this equipment will be supplied by the internal chain itself.

The IRA will be able to secure the United States a strategic leadership position in the emerging market for green hydrogen and derivative products, as it did in the global LNG market, but without taking into account non-cost considerations such as energy security, geopolitical issues, exposure to extreme natural risks, the search for international diversification in the location of industrial plants, among others, which may influence this leadership. The IRA is estimated to create more than 9 million jobs in the United States by 2030.

Unilateral measures such as these frustrate the comparative advantages of developing regions with highly competitive conditions to produce green energy, generate sustainable technological solutions and nature-based solutions and that have the potential to make them natural participants in a comprehensive, resilient and socially inclusive process of coping with climate change.

The energy matrix of several developing countries is already quite green, and in some cases practically green, such as many in Latin America, putting them ahead of other countries by up to three decades. In addition, several of these countries operate with decreasing marginal energy costs and have a large part of their installed renewable capital stock already depreciated. In this way, these countries can offer highly competitive green hydrogen without the need for incentives, protectionism and discrimination and promote powershoring and sustainable growth in favor of all.

Experts suggest that interventions such as the above would violate WTO rules and are likely to lead to challenges and litigation, which however may take years to materialize. In the meantime, new opportunistic behavior-style policies are likely to emerge to increase trade frictions and delay the transition. The IMF and the WTO made conciliatory recommendations on the subject, which, however, were not echoed as they were considered politically unrealistic. To avoid counterproductive trade frictions over climate policies, authorities should agree fiscal and regulatory guidelines for decarbonization policies.

The huge decarbonization market must be seen as an opportunity to align interests that lead us all, and at the lowest cost, to social and environmental sustainability.