COP27: The ‘Fight of Our Lives’ and Time Value of Money

World leaders convened in Egypt for COP27, and at his opening speech, UN Chief Antonio Guterres reminded the world that climate change mitigation is the fight of our lives, and sadly it looks like we are losing the battle. Last year at COP26 in Glasgow, the ambition of limiting global warming to 1.5 degrees Celsius was kept alive, but the energy crisis – exacerbated by the invasion of Ukraine – poses additional challenges to a faster reduction in fossil fuel emissions.

The reduced supply of natural gas in Europe is being solved in the short term with increased coal use for energy generation. Germany, Austria and the Netherlands announced an emergency restart of coal power plants in June, postponing the decommissioning of the heavy emitters (coal power plants emit more than twice as much as natural gas plants of the same size). The perils of such a trend is a further reduction in our chance to limit climate change. At the end of October, the UN Environmental Program (UNEP) published its 2022 Emissions Gap Report, pointing out that after a COVID-induced reduction in 2020, emissions in 2021 rebounded and reached 52.8 Gt CO2e, already above 2019 levels.

China, coal and a proposition

In Glasgow, great discussion was had on the use of a single proposition, and unfortunately an agreement was reached to phase down as opposed to phase out coal. This issue is now more urgent than ever, and on November 14, officials will agree on more aggressive action in the pre-2030 ambitions discussion. On the same day, nature-based solutions will also be discussed, as climate change discussion evolves from a focus on Global Greenhouse Gases (GHG) towards a broader ambition on sustainability.

In a previous article, I emphasized the important role China plays in global decarbonization. China’s special climate envoy, Xie Zhenhua, reiterated the country’s commitment to peaking emissions by 2030. The problem is that China too is burning more coal, which drove the 6% increase in their emissions last year. China burns more coal than the rest of the world combined, which is why the country is responsible for a third of all global anthropogenic GHG emissions (more than the total emissions from the EU, U.S. and Japan). Therefore, for the discussions in Egypt to be truly consequential, a commitment to accelerate the phasing out of coal will be necessary.

Time value of money and the decarbonization investment cycle

We often use the metaphor of a road trip to outline the pressing need for a tangible metric such as Potential Avoided Emissions (PAE). We want to get to the 2030 milestone of cutting emissions by half, but without a thoughtful map we may not reach the destination. PAE measures the megatons of CO₂e that are never emitted into the atmosphere because a new product or service replaces a much higher emission Business as Usual (BAU) product – e.g., driving a Tesla from point A to B versus driving an Internal Combustion Engine (ICE) car. We have finite financial resources to support this journey and also face the risk of running out of cash prior to reaching the destination.

Relevant solutions – from EVs, to smart meters and thermostats, better insulation for energy efficiency, plant-based burgers and milk alternatives, telepresence, heat pumps, larger offshore wind turbines, to name just a few – give our economies a chance to replace high-emission BAU products. However, without a more quantitative approach that clearly measures progress against the stated goal, we are in danger of never reaching our destination.

It is paramount we quantify the relevant solutions from a PAE perspective, thinking about the solutions using a time value of carbon concept (giving priority to what can make a difference in the short term) while computing the carbon return of the possible investments. Investing in solutions that are price competitive makes robust economic sense and will allow us to build resilient and sustainable economies. Who could argue against that?

Underwriting the right investments and the need for disclosure

The concept of PAE, alongside carbon returns (megatons of CO₂e never emitted per $ invested) and the time value of carbon could be used to maximize climate change mitigation outcomes of all the capital the world will be deploying. Different financial institutions should report similar figures and underwrite investments with a similar methodology, using PAE as their metric. Analysis should include an indication of PAE pre-2030 (addressing time value of carbon), and investment amount per PAE. Capital markets can make a great impact towards the 2030 goal if properly channelled, and secondary-market investors can also use this approach to target the most impactful, potentially lucrative companies.

At COP26, former Bank of England Governor Mark Carney launched the Glasgow Financial Alliance for Net Zero (GFANZ) campaign. The new group started with representatives overseeing more than $130 trillion in assets, a figure that grew to over $150 trillion. They estimate that the private sector could provide over 70% of all the global investments required. A year later, Mr Carney was in front of the UK Parliament providing an update and defending the efforts of the Alliance, while hearing heavy criticism that many of the GFANZ members still support coal investments and to a larger extent investments into oil and natural gas. The Alliance members have made commitments on both sides, phasing down (hopefully out) financing to fossil fuel related investments while pledging to accelerate the funding for the assets that actually solve the issue.

Disclosure is key. Banks need to disclose what energy transition assets are being financed, the impact of the projects that back the real climate change solutions – from mitigation to adaptation – in terms of time value of carbon, carbon returns and Potential Avoided Emissions. To win this fight we need capital markets to be a real source of good.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.