Will climate suffer amid a geopolitical recession?

The second big geopolitical issue complicating negotiations is the growing political saber rattling between the US and China. One of the most promising achievements of COP26, the US-China climate accord, has now been scrapped following speaker of the US House of Representatives, Nancy Pelosi’s, visit to Taiwan. Even though the agreement was not substantively game-changing, it showed a commitment to cooperation and dialogue which reignited some faith in mutual efforts to combat the common challenge of climate change.

Instead, we can expect the US and China to focus on their own unilateral efforts as COP27 progresses, boasting domestic policy achievements and objectives in reducing emissions rather than investing in dialogue and policy coordination efforts.

Competition rather than cooperation in clean energy is likely to increase. The US approved its most ambitious climate plan to date: the Inflation Reduction Act (IRA), two weeks after climate talks with China fell apart. Consistent with Washington’s decoupling policies, the IRA aims at boosting American clean energy manufacturing to reduce dependence on Chinese imports.

For its part, China is also focusing on ensuring the security of energy, food and other key supplies powering the Chinese economy, in an era of growing uncertainty and competition with the West. This was, in fact, one of the main themes coming out of the 20th Communist Party Congress at the end of October. China’s national commitment to reach peak carbon emissions before 2030 and achieve carbon neutrality by 2060 will play out in this context. A recent World Bank report highlights that private sector participation is crucial to China’s path to carbon neutrality. It suggests that a more predictable regulatory environment with better access to markets and finance would allow the private sector to play a central role in delivering market solutions, improving productivity, reducing costs, stimulating technological innovation, and filling the $14 trillion financial gap needed to achieve carbon neutrality by 2060. Considering that China emits 27 percent of global carbon emissions and a third of the world’s greenhouse gases, if it fails to transition to a low-carbon economy, overall global climate goals will remain unfulfilled. In an era of receding globalization and growing distrust between the world’s two largest emitters, the risk is real.

If we thought the geopolitics of oil were complex (ensuring freedom of navigation plus a degree of stability in the Middle East), sourcing for critical minerals and other inputs to empower the ‘electrification’ of energy will prove even harder. Pursuing a clean energy revolution in the age of West vs China competition, will mean dealing with more complex and critical supply and transport systems. Countries will scramble for huge quantities of rare earths, copper, cobalt, chromium, lithium, nickel, graphite, silicon, zinc, and more. And the necessary quantities for a green transition will only be available if we combine supplies from a wide array of disparate suppliers, including those less strategically or politically aligned. Without serious efforts in energy efficiency, circular economy, and overall energy demand optimization, describing the task as herculean would be putting it mildly.

COP27 is also marked by greater tensions between developed and emerging markets as the latter wrestle with growing costs from climate change, amid increasing natural disasters and lagging financial support from developed countries.

Climate finance is one of the central (and most heated) conversations at COP27. Industrialized markets pledge of US$100 billion a year has yet to fully materialize. And the grim reality is that emerging countries will now need trillions of dollars to deal with the disruptions of climate change, adaptation and loss and damage. The extreme weather events that have disproportionately ravaged the developing world over the past year have increased concerns and urgency. We will most likely see more commitments and new ideas on financial frameworks, but with the world grappling with rising inflation, higher cost of capital and overstretched budgets prioritizing non-climate issues, new pledges will not mean much.

The gap between the developed and developing world is so stark that disagreements on climate finance and historical responsibilities could derail the climate talks, at a time when improvement on mitigation and adaption (the main topic of COP27) is most urgently in need.

Against the bleak geopolitical background for COP27, we are not surprised to hear the UN ringing the alarm that the world is on track for a catastrophic temperature rise of 2.4 to 2.6 degrees Celsius by 2100 due to meagre national and international commitment as well as an irreconcilable gap between words and actions by many states and other stakeholders. Many are already looking toward COP28 for clearer progress.

However, there are reasons to cling on to optimism. Despite the short-term boost in fossil fuels, investment into clean energy solutions is increasing. The International Energy Agency’s (IEA) energy outlook for 2022, highlights how the global energy crisis is forcing countries to seriously look at lower emission energy to reduce supply chain vulnerability. For the first time the IEA expects global demand for all fossil fuels to peak this decade. The report forecasts a huge change in natural gas trends, now indicating a demand peak in the 2020s rather than after 2050.

The IEA looks at current policies - particularly the US IRA, the EU’s Fit for 55 package and REPowerEU, Japan’s Green Transformation (GX) program, Korea’s aim to increase the share of nuclear and renewables in its energy mix, and ambitious clean energy targets in China and India - to predict that coal use will decline within the next few years after a short-lived resurgence, natural gas demand reaches a plateau by the end of the decade, and rising sales of electric vehicles (EVs) levels off oil demand in the mid‐2030s.³ The caveat here is that progress is heavily dependent on countries fully delivering on stated commitments and announced policies. A big bet in an era of growing uncertainty, political instability, looming global recession and black swan crises. But the climate stakes are too high not to remain hopeful. And if governments fail, businesses have a major opportunity to pick up the slack.

In many ways this is already happening, and the private sector is gearing up. Corporations and the investment community now understand the financial impact of climate change and have begun to reshape the way capital is allocated accordingly. Investors have responded positively to government announcements that explicitly connect the geopolitical issue of energy security to the decarbonization agenda. This is particularly true in Europe, where national security necessity will accelerate the timeline of the Fit for 55 agenda, making it a “Fit for 35, or even 25”, to eliminate reliance on Russian energy imports as soon as possible. As geopolitical interests converge with climate priorities, we should see private investment becoming a primary engine for climate financing with a transformative impact. ESG investing, technological improvements, energy efficiency, as well as business to business cooperation in low emissions markets, all constitute an unprecedented opportunity. True, this will mean spending more time, money and effort navigating fragmented regulatory environments, dodging geopolitical curve balls, and investing in ambitious corporate ESG strategies. But, if the end prize is a more sustainable society and a thriving planet for our future generations, it will be worth it.