11.6.6 Investment and incentive stability

The longevity of capital stock, projections of rapidly growing global emissions under ‘business-as-usual’, and the importance of industrial scale and learning in low-carbon technology industries all illustrate the central role of investment in relation to the climate change problem. As discussed in Chapter 4, the IEA (2004) estimates that about US$20 trillion will be invested in energy supplies up to 2030, half to two-thirds of which is associated with power generation.

Several major studies shed light upon the investment implications of low-carbon scenarios over the next few decades. The World Bank (2006) estimates that to ‘significantly de-carbonize power production’ would require incremental investments of ‘up to’ US $40bn per year globally, of which about US$30bn per year would be in non-OECD countries. However, in a comprehensive scenario, this would be offset by the reduced investment requirements resulting from improved end-use efficiency. The IEA WEO (2006b) ‘alternative policy scenario’ estimates that an increased investment of US$2.4 trillion in improved efficiency would be more than offset by US$3 trillion savings in supply investments. The more aggressive IEA ‘Map’ scenario (IEA, 2006a), that returns emissions to 2005 levels by 2050 (and is consistent with trajectories towards stabilization between 550 and 650 ppm CO₂-eq) as discussed above, reflects greater impact as a result of switching investment from more to less carbon-intensive paths. Investments across renewables, nuclear and CCS are projected of US$7.9 trillion, US$4.5 trillion of which is offset directly by the reduced investment required in fossil-fuel power plants. Most of the rest is offset by the reduced need for transmission and distribution investment and fuel savings arising from increased energy efficiency. The net additional cost for the Map scenario out to 2050 is only US$100 billion, about 0.5% of total projected sector investments.

Because the net cost estimates arise from balancing supply and demand, there is considerable uncertainty. The World Bank figure for incremental low-carbon power generation costs, for example, is much higher, at close to 10% of projected total investment costs, but does not fully offset these against end-use savings, or co-benefits. It is clear that low-carbon paths consistent with the IEA Map result of returning global CO₂ emissions to present levels involve a large redirection of investment, but the net additional cost based on this limited set of studies is likely to be less than 5–10% of the total investment requirements, and may be negligible. The studies collectively emphasize that the choice of path over the next few decades will have profound implications for the structure of capital stock, and its carbon intensity, well into the second half of this century and even beyond.

Much of this investment will come from the private sector. However, the associated literature emphasizes that current signals are inadequate and that the effectiveness of carbon pricing depends critically upon its credibility and predictability. For example, the perceived uncertainty with respect to the EU ETS after 2012 deters companies from investing on the basis of price. The credit agency Standard and Poor’s (2005) state that ‘this uncertainty has and will result in delays to investment decisions’. Sullivan and Blyth (2006) analyse the economics of investment in conditions of uncertainty and concur that the perceived uncertainties make it optimal for companies to defer investment and to keep old power plants running instead. This could even increase emissions. Consequently, the ‘electricity or carbon prices required to stimulate investment in low-carbon technology may be higher than expected...’ due to the uncertainties. This underlines the present gap between the modelling abstraction of perfect foresight, and the real-world uncertainties. The costs of mitigation will be reduced only to the extent that governments can make clear and credible commitments about future carbon controls that are sufficient for the private sector to see as ‘bankable’ in project investment appraisals.