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Rapid climate-change policy action forecast over next four years
Long-run costs of inaction far outweigh costs of aligning with Paris agreement protocols
Jonathan Rogers 21 Oct 2021

Analysts at the Inevitable Policy Response (IPR) are forecasting a swift response to climate change by global governments, with a sudden ratchet up in policy expected between 2023-25.

The IPR is a climate transition forecasting consortium – commissioned by the UN-supported Principles for Responsible Investment (PRI) and led by Vivid Economics and Energy Transition Advisers – which aims to prepare institutional investors for the portfolio risks and opportunities associated with the acceleration of government policy action in response to the risks of climate change. 

Its latest policy forecast released on October 18 paints a scenario whereby a powerful combination of investor, corporate and civil society pressure around climate impacts, volatile weather patterns and low carbon technology developments, together with the aspiration to meet the net-zero carbon emissions targets enshrined in the Paris climate accord, which aims to limit global temperature rises to less than 2 degrees Celsius, will force the hand of policymakers.

The IPR has formulated the Forecast Policy Scenario (FPS) covering 21 major economies which finds that the doubling of net zero commitments – which collectively represent 70% of global GDP – makes a forceful policy response much more likely than before the Covid pandemic hit in 2020.

Within the FPS rising carbon prices play a crucial role in driving sweeping economic change, although there are limits to their use as a major policy tool and accompanying policy action is necessary.

The forecast predicts that policy action could result in global warming being held to below 2 degrees Celsius thanks to radical transformation across key sectors, including energy, transport, industry and food, although this dynamic would still be insufficient to achieve the 1.5 degree Celsius level which is the preferred target of the Paris agreement. 

For that goal to be reached, according to the report’s Required Policy Response, global deforestation would need to cease by 2025, unabated coal must be retired by 2035 across the majority of the world – and crucially in China, the world’s biggest user of coal for energy production – and fossil fuel powered cars should be phased out by 2040 while all power production must be clean by 2045.

Momentum for these sweeping changes is gathering swift pace: "The turning point for the inevitable policy response will be 2023-25 when the Paris agreement Global Stocktake (GST) kicks in. It will represent a very real catalyst,” says Eric Ling, engagement officer at Vivid Economics and one of the lead authors of the policy forecast.

The first round of the GST is ongoing and set to be completed in 2023, two years ahead of the due date for nationally determined contributions – countries’ climate action plans, which are formulated according to their national circumstances. GST is a collective enterprise aimed at assessing progress on climate change mitigation, adaptation, finance flows and the means of implementation and support.

Within that rubric, questions remain about the ability of developing economies to meet the criteria required to reduce carbon emissions, although it is self-evident that the developed bloc will not act unilaterally without accompanying measures from developing nations.

Carbon tax will have a crucial role to play in pushing developing economies to step up, alongside other measures, such as direct wealth transfer, the sharing of crucial technology, interventions from government agencies and multilateral development banks, and capital provision from commercial banks and the green and sustainable debt markets.

"Everyone now realises that the mechanism for enforcing collaboration on the Paris agreement will ultimately be carbon border tax adjustments,” says Julian Poulter, partner at Energy Transition Advisors in Sydney.

Most developing economies are net exporters of CO2, while their developed country peers are importers; and this presents the risk of “leakage”, whereby to avoid cap-and-trade mechanisms in their home countries, companies move production abroad.

The European Union has proposed a Carbon Border Adjustment Mechanism (CBAM) with the aim of equalising fees on the carbon content of goods in the EU via the imposition of carbon border taxes in a bid to avoid leakage. A version of the CBAM is mooted to emerge from the US and other non-EU developed countries.

“As far as the developing economies are concerned it's apparent they face the same drivers to act as the developed economies as far as climate change is concerned,” says Vivid Economics’ Ling.

“The long-run costs of inaction far outweigh the costs of aligning with the Paris agreement protocols. At the same time, potential trade strictures in relation to carbon emissions will push the developing world to step up as countries that are acting on climate will take steps to protect their markets from countries that are not.”

The report’s findings have profound implications for investors across a range of asset classes, from fossil fuel energy providers encompassing the oil, gas and coal sectors – where the risk of stranded assets and write downs to zero loom – to transportation, steel and cement manufacturers through to mass food producers.

“IPR scenarios for investors encompass both the large-scale market shifts to come in carbon, energy and land use. The 2021 IPR forecasts signal to investors that they must focus on the transition, 2030 and net-zero pathways, and the investment opportunities emerging as policymakers respond to growing climate challenges” says the PRI’s CEO Fiona Reynolds.

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