Governments, corporations and investors continue to work to accelerate the shift to a low-carbon economy and close the gap to the Paris Agreement. In the absence of sufficient future action, an IPR is expected. 

This paper sets out the multiple forces building in the system that could come to the fore to trigger a rapid (but also late and costlier) policy suite by governments.

While it is impossible to predict the precise timing of an IPR, and point to specific events that will precipitate such an outcome, there are a number of key events that will provide an insight into the future likelihood and timing of such an outcome. Starting now, in 2018, the level of commitment and follow-through in closing the gap to the Paris Agreement in the lead-up to the UN Secretary-General Climate Summit in 2019 will be crucial, as that Summit is aimed to “build ambition and accelerate action – before it’s too late”. Going into the 2018 UN Climate Change Conference (COP24), policy-makers will be well aware of the need to close the gap to the Paris Agreement. Further delay in action at that point will see the gap to the Agreement continuing to widen, making a more costly and forceful policy response inevitable.

The next key time periods will be in the lead-up to the Global Stocktake (due to start in 2021 and be completed in time for the COP29 in 2023), where the collective progress towards the Agreement’s long-term goals are formally reviewed (see below).

Figure 4: The global stocktake and third round of climate pledges could catalyse the inevitable policy response

Figure 4: The global stocktake and third round of climate pledges could catalyse the inevitable policy response

Source: Carbon Brief

As a preferable outcome to an IPR, a more orderly transition over the coming years is possible, depending on technological developments, policy actions (including the COP24 and 2019 UN Secretary-General Summit), along with supporting investor and corporate actions.

Nevertheless, as things presently stand, the current situation, and lack of progress at the Charlevoix G7 Summit on climate change, is a disappointing and alarming indication of the impasse and lack of prioritisation that currently exists amongst some world leaders to this issue, making an IPR increasingly likely (and costlier) the longer the delay. Further discussion of the issues related to the timing of an IPR are considered in the ‘IPR: When, What and How’ technical paper described below.

In terms of the drivers for an IPR, there are several factors that could combine to trigger a more forceful and urgent policy response, including:

Closing the Gap to the Paris Agreement

Wider acceptance and realisation of the gap to attaining the “well below 2°C” temperature goal of the Paris Agreement (and evidence of the financial implications and costs associated with overshooting that goal) could trigger an urgent and forceful policy response.

  • In the build-up to an IPR, there would be a wider realisation of the heightened effort needed to close this gap by the 180 parties that have signed the Agreement. Beyond the ‘best efforts’ nature of the Agreement, the ratchet mechanism also supports countries that exceed their targets to push for higher ambition thresholds, with the Global Stocktake a key element of this mechanism.
  • In terms of the US position, the stated intention of the current administration to withdraw from the Agreement would come into effect late in 2020. It is possible that US withdrawal from the Agreement may be short-lived, potentially being quickly reversed by a future Administration, in either 2020 or 2024.
  • Furthermore, US local and state public sector bodies, as well as some large corporations, have publicly supported the Agreement, and continue to work towards achieving its goals.
  • Reporting against the Agreement is “binding”, although actual requirements to act are not. Nevertheless, there is a significant degree of moral and political capital at stake, with international pressure building on governments from various sources to close the gap.

Creating Certainty Through Policy Action

Higher policy certainty would help to stimulate action across the corporate and investment community, reduce risk premiums and volatility, improve economic outcomes and bolster the allocative efficiency of the market in the transition from a high- to a low- (or net zero) carbon future.

  • Ultimately, achieving the goals of the Paris Agreement requires a carbon price that is dramatically higher than today. This is the key economic argument driving an IPR, and should act as a key catalyst for policy-makers to take decisive action in response to growing pressure from businesses and investors to reduce uncertainty.
  • Indeed, the need for certainty and a carbon price that is commensurate with achieving the goals of the Paris Agreement have been the drivers behind much of the PRI’s investor engagement with policy-makers in the last decade, in collaboration with other climate-related investor networks.
  • Many companies have also pointed to the need for a carbon price being established to provide greater certainty in underpinning efforts around transition planning.

Technological Developments Further Support Low-Carbon Solutions

The trend towards low-carbon solutions is supported by technological improvements driving solar costs sharply lower, battery storage technology being more widely adopted and utilised, and a surge in electric vehicle sales due to changing legislation and continued cost competitiveness. Renewables are on track to be cheaper than traditional fossil fuels, and are already cheaper than new-build coal in many countries.

  • Despite this progress, the IEA notes that most clean-energy technologies are not on track to support the Paris Agreement goals. For example, energy efficiency improvements have slowed, and progress on key technologies, such as carbon capture and storage, remains stalled . As such, dramatic shifts in technological solutions are still in hand. The technical papers will model these potential shifts due to the advent of an IPR.
  • Policy-makers would weigh up the incremental costs of a forced transition. These should be set against future damages of inaction.
  • Estimates of incremental costs to achieve the Paris Agreement goals have been falling faster than expected; for instance, in 2014, the IEA estimated a $1trn annual investment was needed, but more recently, Vivid Economics estimated that this had declined to $700bn.
  • The faster the organic technology roll-out and continued decline in costs of low-carbon solutions, the lower will be the required policy response.

Figure 5: Further, the IEA tracks success at sector and technology levels

Figure 5: Further, the IEA tracks success at sector and technology levels

Source: IEA Tracking Clean Energy Progress

Minimising Physical Damages and Costs

The longer the delay in addressing the climate transition, the higher will be the physical damage costs and the overall cost. This is already evident in the insurance industry, which is on the front line of these impacts.

  • While climate damages are difficult to assess, and estimates of GDP reductions vary with assumptions and methods used, some estimates suggest that reducing global warming from 2°C to 1.5°C will avoid global GDP damages of 1.5%–2.0% by 2050, and 3.4% by 2100. Damages above these levels would be expected to be far higher.
  • Estimates of the cost of physical damages to financial assets also vary, with some estimating the potential (extreme) value impairment at risk to be in the range of 3–10% of an equity portfolio.
  • As the costs of climate change continue to rise, and increase in their impact on the bottom line of companies and investment portfolios, there will be an escalation in pressure (and a greater urgency to act) from companies and investors to push policy-makers for more forceful action.

Evidence of climate-related physical impacts triggers changing attitudes and increased social pressure on policy-makers

Continued scientific evidence on the physical damage assessments of climate change will underpin further mitigation efforts, across the government, and corporate, investment and civil society.

  • Climate scientists devote a great deal of time and resources to estimating the types of physical impacts, including where and when, as evidenced by the Intergovernmental Panel on Climate Change (IPCC) Working Group 2’s latest report. This forms the basis for damage assessments, which are crucial in building the case for mitigation action by policy-makers.
  • As part of the IPCC’s impact analysis, severe weather is often cited as being a powerful trigger to make the voting population pay more attention to the risks of climate change.
  • Certainly, recent weather events are consistent with the expectations for increasingly severe impacts due to climate change, and these would seem significant enough to cause major action by governments. For example, studies that point to ‘hothouse earth’ tipping points should raise alarm bells amongst policy-makers. The implications of these pressures for migration flow and national security would also need to be considered by governments.
  • The PRI recognises the complexities around linking climate change to individual weather events in the short term. Nevertheless, the prompt for escalation in policy will likely be more a reflection of an unexpected and rapid shift in societal attitudes and a (politically motivated) response to that shift.

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    The inevitable policy response: why

    September 2018

The inevitable policy response to climate change