A Comprehensive Approach to Address the Climate Crisis

Net zero is on everyone’s mind. And though we fully embrace the notion that environmental issues are only part of the problem within the ESG discussion, considering the extremely complex ethical issues that arise when one considers the nature of the social trade-offs involved (as the war in Ukraine has clearly made evident), this article focuses on providing a point of view on the climate crisis, where we stand and what we think is missing. 

Unless humankind dramatically shifts how we use Earth’s resources, we are headed for a disaster that cannot be neglected. We have been too slow to react and greenhouse gases, responsible for the warming of Earth, have reached levels not seen for at least 800,000 years. This in turn warms our oceans, melts ice sheets, and causes droughts and other natural disasters responsible for billions of dollars in losses.

If we choose to remain on the current path, low coastlands will become uninhabitable or, alternatively, will need massive engineering solutions to prevent their flooding. Places such as Northern Africa may become too dry and hot to sustain human life. Fragile ecosystems, such as coral reefs and rainforests, which are vital for Earth’s health, may die altogether. 

Countries responsible for some 76 percent of global emissions have committed to a net-zero goal in the following decades. But challenges remain formidable, not least of all because underdeveloped countries, which need to lift hundreds of millions out of poverty, are still in need of transitioning using fossil fuels, such as natural gas.

Also, there is still very little knowledge about the impact of climate change on a true “local” basis; in other words, de-averaging must take place to allow for a proper assessment of risks and, more importantly, an effective socialization of its consequences in the local community. For those living in Mexico, for example, the impact on livelihood in Cancun versus Monterrey will be quite different, as well as the measures and policies required to manage such climate risks. 

Traditional thinking will just not get us where we need to be. For some time, humankind has pushed efforts to reduce greenhouse gas emissions. Some have been helpful, such as a shift to renewable power generation, but others have had unintended negative consequences. Think of energy efficiency. It has been referred to as “the fifth fuel” but has had a “second order” consequence. As devices become more efficient, their operating costs diminish and they become more accessible. As their use increases, there are more emissions. This is what is known as the Jevons Paradox, named after the British economist William Stanley Jevons, who said “It is wholly a confusion of ideas to suppose that the economical use of fuel is equivalent to a diminished consumption. The very contrary is the truth.”

Therefore, we need to think differently. Shifting generation from emission-intensive assets (i.e., coal) to lower emission assets (i.e., combined cycles) or very-low emission assets (i.e., solar, wind) will need to happen dramatically faster than what we have seen in the recent past. As renewables have become highly competitive and even cheaper than higher intensity assets, their expansion is assured. But the investments in transmission lines and batteries to prepare energy matrices with a higher share of renewables are still a relevant hurdle, with special emphasis in developing countries. 

Nuclear generation definitely should be expanded. For this to happen, fear resulting from the lack of trust in certain countries’ ability to operate safely must be managed through better international protocols, but mostly through better communication; measured by number of deaths, nuclear technology makes it still the safest source of energy in the world. Considering the context of the energy crisis in Europe and in terms of achieving neto-zero goals, Germany’s decision to shut down its nuclear fleet after the Fukushima disaster has been widely considered a mistake and needs to be revisited.

Adoption of new technologies, such as green hydrogen, will be key and vast investments are being channeled to this new segment. Hydrogen is especially attractive given that it can be used to store energy and provide baseload capacity. Latin America has clearly lagged other regions with respect to having a clear path toward its adoption, and current political trends in the region are affecting the ability to quickly shift toward new technologies. 

How Much Will it Cost and How Can it Be Achieved? 

McKinsey estimates that for humankind to achieve the net-zero target by 2050, spend on physical assets and land use systems needs to increase globally from around US$5.7 trillion to around US$9.2 trillion annually. Overall, the price tag comes to around US$270 trillion from now to 2050, or around 7.6 percent of global GDP.

That calculation has a few assumptions such as the rate at which we deploy the resources and how they are allocated. Of the US$5.7 trillion current annual spend, around US$1 trillion needs to be shifted from high- to low-emission assets, and most additional investment will need to be allocated to the latter. However, the biggest drag is that by some calculations, south of 50 percent of overall spend may not have a positive return and will require subsidies. 

However, as governments around the world, particularly from developing countries, struggle with high fiscal deficits and limitations from new accounting rules, the deployment of such vast amounts of resources will be challenging. Therefore, to allow for the deployment of public resources into R&D, guarantees and other forms of subsidies will require tough and surely unpopular decisions to eliminate other social support programs … talk about complex trade-offs across the ESG spectrum! 

The good news is that on the financing front, financial institutions are increasingly opening up to sharing the risks, costs, and opportunities of engaging on energy transition projects. Although still incipient by any measure, private equity funds (a trillion-plus-dollar market just in the infrastructure space) are introducing climate risk measurement standards into their portfolio companies and starting to develop mitigation strategies. Though often mostly motivated by demands from their institutional investors, market-based incentives seem to finally be tipping the scale toward a more massive adoption in the near future. Proper regulation at a country-level, reflecting the risks, requirements and limitations of local conditions, is still lagging. In the meantime, self-regulation shall be favored in order to avoid financing bottlenecks. 

It’s Not All About the Money 

On the path toward net zero, societies and governments around the world need to work on identifying ways to reduce the impact of “politics” in the decision-making processes, regarding the evolution of the energy matrices. Energy policies have to increasingly rely on technical analyses and consider expert recommendations from independent bodies, such as universities and think tanks. Also, creation, protection and proper staffing of autonomous regulatory bodies has proven to be a successful — albeit not the only model — to ensure such separation between politics and a properly trained technocracy. This is especially necessary in a context of high price volatility, increasing relevance of energy security as a policy driver, and the accelerated introduction of new technologies.  

National governments should also promote regulatory homogeneity to the greatest extent to allow for standardization at the national level, which is fundamental for projects to properly go through the learning curve. This is particularly relevant for nuclear power; France and South Korea, for example, both have a successful national regulatory framework while the lack of one in the US, according to some, has restricted its expansion.

From a supply chain perspective, we should think about ecosystems and hubs that interconnect and create depth and efficiency in the development and adoption of energy transition technologies, a perfect broth for continuous innovation and evolution. For example, the Toulouse or Queretaro’s aerospace ecosystems include academia, OEMs, suppliers, manufacturers, and certifiers. 

Finally, a proper focus on the environment cannot neglect the relevance of governance; at AINDA, we like to say that ESG always starts with the G. As governments, funds and citizens embrace changing (and sometimes riskier) technologies and behaviors, governance bodies across all types of institutions should push for greater transparency, to ensure that resources are rightly allocated and to allow for more flexibility and the ability to pivot throughout execution and operation. 

Challenges clearly remain formidable but we must be confident that we can achieve success. Probably for the first time in history, mankind is facing an existential risk; therefore, we need to change how we think, organize and act.