Waking up to Climate Risk

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Dr Charles. Donovan.  First posted November 2016.

20 years ago this year, I got my first big career break.  At the time, I was a young and eager policy analyst drowning in the sea of brown office cubicles at the U.S. Environmental Protection Agency’s headquarters in Washington, D.C.  Then one day, my boss called me in to ask, “Would you be interested in working on the preparations for Kyoto?”  Without hesitation I said yes, although truth be told, I had no idea what she was talking about.  Go to Japan?  Great!

As it turned out, my special role was to “guard the fort” while senior colleagues made the long trip to Kyoto for the landmark UN climate meeting in 1997.  I was sorry to miss the tastes and sights of Japan, but I’ll never forget the excitement I felt over those days.  The world had reached a binding agreement to reduce climate pollution, with our Vice President flying in on the final days to heroically seal the deal.  It seemed the start of an entirely new era.

I’ve still not been to Japan, but I have been to my fair share of UN climate meetings over the past two decades.  And while it has been an honor each time to attend, I remember leaving each successive meeting more deflated.  It seemed like I was living in the movie Groundhog Day: the same problems, the same conversations, the same day over and over again.

Fast Forward to 2016 and there was again a lot of optimism in the air. However, the new US President’s hostility to climate action has no doubt disrupted this.  But politics aside for a moment, what’s really changed over the past 20 years?

You could say the science is better.  Indeed, those models predicting extreme weather events, sea level rise, and habitat loss are much improved from 20 years ago.  But there are still so many uncertainties.  Anyway even if the scientific consensus were perfect, would it matter if nobody is listening?

Or perhaps, now there’s a better political framework.  Gone are the hard, arbitrary limits of the Kyoto Protocol and in are the Paris Agreement’s frameworks for investment based on aspirational targets.  Sure, that helps.  But if the numbers don’t add up for investors – after all, it’s the private sector, not governments who do the bulk of new infrastructure investing – well then here comes more of the same.

Yet here I am on my way to another UN climate summit with a sense of optimism.  Why?  Because 20+ years of climate policy is finally having an effect, but in a way that most people don’t realize.  The energy and automotive sector are currently reeling from disruptions caused by hundreds of billions of dollars in support to climate-friendly technologies.  Climate risk is not something looming in the future, it’s playing out already.

As deployment of new energy technologies increased, the cost of alternatives steadily reduced.  Blah, blah, same old, same old.  But then suddenly, we’ve woken up and it’s a brand new day.  Solar PV, energy storage, and energy efficient lighting have fallen through price floors that were not expected for another decade.

Waking-up-to-climate-blog-image

Source: US Department of Energy

In many parts of the world, solar energy is now the cheapest way to generate energy – no subsidy, no handouts.  Just cheaper.  That’s reality.

But despite some standout successes on the technology front (electric vehicles are another), this challenge is by no means solved.  If the next UN climate summit is to be a success, then we’ll have to crack the financing challenge.  Climate negotiators need to stop fixating on the $100 billion that has been promised by governments for climate finance and get serious about the regulatory mechanisms needed to shift trillions of dollars of private sector investment decisions.  In short, governments must address the real issues that are stopping large, mainstream investors from putting money to work in this sector.

After 20 years of working in this area – in government, in large energy companies, and now in academia – it’s clear to me that mainstream investors are not doing more because they don’t have the right information.  In boardrooms in London, New York, and Singapore, there’s plenty of talk about expected returns, but still not enough about potential losses.  For capital markets to become more sophisticated about climate change it is imperative that we clarify the fundamentals.

Bank of England Governor Mark Carney said it best in his recent speech in Berlin, “With better information as a foundation, we can build a virtuous circle of better understanding of tomorrow’s risks, better pricing for investors, better decisions by policymakers, and a smoother transition to a lower carbon economy.”  Better information will be found in analysis that addresses the real rate of profitability, the one that takes into account risk.  Generating that kind of analysis is the challenge we’re setting for ourselves at Imperial College Business School.

On 14 November, we launched a new Centre for Climate Finance & Investment.  Our goal is to help investors unlock what still can be the greatest economic opportunity of this century: reducing greenhouse gas emission, while increasing the rate of economic growth.  Amongst the world’s top 10 universities, Imperial College London has several outstanding peers with well-established climate and energy research initiatives.  But we are the first to house a climate research centre in its business school, sending an important message that climate investing is no longer a matter of environmental studies, it’s about intelligent investing in a future climate of risk.

Dr Charles Donovan is Director of the Centre for Climate Finance and Investment at Imperial College Business School and Principal Teaching Fellow in the Department of Management. He will be speaking at our next Imperial Business in the City event: Business and Climate Change.

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