The Three Pillars
for integrating objectives and instruments of energy-climate policy
Presentation to World Energy Council Conference
‘What policy measures for energy transition in Europe?’
Paris, 24th April 2014
Michael Grubb
Chair of Energy & Climate Policy Programme, 4CMR Cambridge
University
Editor-in-Chief, Climate Policy journal
Senior Advisor, UK Office of Gas and Electricity Markets
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
The Three Pillars
for integrating objectives and instruments of energy-climate policy
Drawing on the book Planetary Economics:
Energy, Climate Change and the Three Domains of Sustainable Development
•
•
•
•
•
Uncomfortable challenge, curious context
Three Domains of economic processes
The Three Pillars of policy
Structural problems of the EU ETS
Structural solutions (1): ‘stabilisation’
mechanisms
• An integrated package
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
An uncomfortable challenge
• A mega-problem of risk management under deep
uncertainty
– Not the primary science but the consequences
– .. And how to value them, act, and coordinate response
• “The perfect moral storm”, a “Super-Wicked” problem
• … “The biggest market failure in history” (Stern)
And we have not been doing very well globally ...
• “Current trends are at the high end of levels that had been
projected … growing on average at 2.2%/yr since 2000”
• Energy debate dominated by bills, competitiveness & security
• … a planetary arena for the philosophies that led to the
financial crisis ? And who will get the blame?
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Prices Matter! – but do not drive long-run energy bills
National energy intensity approx inversely proportional to long-run prices
- across countries the % of GDP spent on energy is remarkably constant
1000
Italy
900
Sweden
Average energy prices ($/t)
Japan
800
UK
Germany
700
600
EU 15
France
Korea
500
Australia
Netherlands
400
Hungary
Czech Republic
Slovak Republic
USA
300
Poland
200
100
0
0
0,05
0,1
0,15
0,2
0,25
0,3
0,35
0,4
0,45
0,5
Average energy intensity (kg oil equivalent/$2005 GDP)
Figure 6-1 The most important diagram in energy economics
Note: The graph plots average energy intensity against average energy prices (1990-2005) for a range of prices. The dotted
line shows the line of constant energy expenditure (intensity x price) per unit GDP over the period
Source: After Newbery (2003), with updated data from International Energy Agency and EU KLEMS
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
“Bashmakov’s Constant”
• The proportion of national income spent on energy
has remained surprisingly constant
- for more than a century
- for most countries
- Despite huge variations in energy prices (Bashmakov)
- This cannot be explained through the classical
measures of in-country consumer price response
(elasticities) but needs also to invoke:
– Energy efficiency regulation and related policy responses
– Innovation throughout energy supply and product chains
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
The Three Pillars
for integrating objectives and instruments of energy-climate policy
Drawing on the book Planetary Economics:
Energy, Climate Change and the Three Domains of Sustainable Development
•
•
•
•
•
Uncomfortable challenge, curious context
Three Domains of economic processes
The Three Pillars of policy
Structural problems of the EU ETS
Structural solutions (1): ‘stabilisation’
mechanisms
• An integrated package
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
‘Can only get stability through clear framework of thinking’
– which recognises multiples concerns and processes
Recognise Three Domains of economic behaviour that
• rest on different fields of theory
• apply at different scales of time and decisionmaker
T
I
M
E
Behavioural and
organisational
H
O
R
I
Z
O
N
Neoclassical and
welfare
Evolutionary and
institutional
S
O
C
I
A
L
S
C
A
L
E
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Solutions need to harness corresponding policy pillars
based on the three domains, to transform energy systems
Policy pillars
1
Domain
Satisfice
H
Highest relevance
M
Medium relevance
L
Lowest relevance
2
3
Standards &
Engagement
Markets &
Prices
Strategic
Investment
H
L/M
L
Smarter
choices
To deliver
Optimise
M
H
M
Cleaner
products &
processes
Transform
L
L/M
H
Innovation &
infrastructure
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Experience and theoretical reasoning on each pillar
shows..
• There are multiple lines of evidence that in context of
transforming the global energy system over a few decades,
all three domains are of comparable importance
• Only approaches that integrate across all three domains
have potential to generate ‘Green Growth’
• The dominant neoclassical ‘Second Domain’ theories
emphasise instrument (pricing) that maximises political
opposition unless it is nested in the complementary triad
that also offers hope of containing energy bill impacts
• First and Third pillar policies can (and have) delivered
multiple benefits, but ….
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
But no pillar on its own can credibly solve the problem
– nor offers a politically stable basis for policy
• Energy efficiency policy on its own limited by:
– Scale of intervention required
– Growing scale satisficing behaviour
– …. Leading to large Rebound effects
• Pricing on its own limited by:
– Blunt nature of impacts First and Third Domain impacts
– Rising political resistance to rising fuel bills
– .. and competiveness concerns
• Innovation on its own limited by:
– Lack of demand pull incentives
– Scale & risks of investment costs
– Political failures in absence of rising market feedbacks
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
The Three Pillars
for integrating objectives and instruments of energy-climate policy
Drawing on the book Planetary Economics:
Energy, Climate Change and the Three Domains of Sustainable Development
•
•
•
•
•
•
Uncomfortable challenge, curious context
Three Domains of economic processes
The Three Pillars of policy
Structural problems of the EU ETS
‘Stabilisation’ mechanisms
An integrated package
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
European CO2 pricing and Murphy’s law:
“If anything can go wrong, it will”
(a)
Evolution of the EU CO2 (spot) price
EUR/t
35
30
25
European CO2 price
Phase II
20
European CO2 price
Phase III
15
European CO2 price
Phase I
10
Apr/ 13
Dez/ 12
Aug/ 12
Apr/ 12
Dez/ 11
Aug/ 11
Apr/ 11
Dez/ 10
Aug/ 10
Apr/ 10
Dez/ 09
Aug/ 09
Apr/ 09
Dez/ 08
Aug/ 08
Apr/ 08
Dez/ 07
Aug/ 07
Apr/ 07
Dez/ 06
Aug/ 06
Apr/ 06
Dez/ 05
Aug/ 05
Apr/ 05
0
Dez/ 04
5
Fig.7.2 Evolution of European carbon and international offset prices
Data Source: European Climate Exchange
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Real-world experience has confirmed the wisdom …
with added twists
Emissions cap: supply of
emission allowances in a
given period is fixed
CO2 Price
Initial assumptions on
emission trends and
abatement costs tend to
be conservative and to
underestimate
uncertainties
The price - where the
lines cross- may be very
sensitive to errors or
changes in underlying
demand curve
CO2 emissions
Figure 7-5 Source of price instability in an emissions trading system
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Emissions banking supposed to be answer .. but is only
stable within a certain range, otherwise amplifies risks
CO2 Price
Emissions banking ‘flattens the
demand curve’ (cf Fig 7.5) by
extending time horizon
Declining but unstable
price based on future
expectations
Theoretical value on
long term view
Collapse of confidence – a
short term view
Figure 7-7 a. Impact of emissions banking on carbon price in emissions trading system
CO2 emissions
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
And introducing other policy pillars can
amplify the difficulties … [IEA 2011]
• ‘Reduces the space’ for the carbon price
• Increases the net uncertainty and hence volatility
• Whilst with a fixed cap:
– No-one can effectively budget for use of the carbon
revenues
– Energy efficiency programmes ‘do not save carbon’
– Successful innovation / strategic deployment programmes
• risk exacerbating their own downside investor risks
• have no identifiable ‘sunset’ timescales because the caron
price is too fundamentally uncertain
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Price stabilisation mechanisms therefore essential for
credibility – and also for linkages to other domains
CO2 Price or related index
Cap alleviated
Additional
allowances
withdrawn
Withheld allowances
returned
Allowances withheld
at floor
Emissions Volume
Figure 7-8 Steadying mechanisms for emissions trading systems
Note: The Figure illustrates mechanisms to help emissions cap-and-trade systems deal with deep uncertainties , so as to maintain a
reasonable balance of price and quantity objectives. The mechanisms are most simply illustrated with respect to price floors and
ceilings, in which case the shaded area indicates the likely region of price and quantity for a system with substantial surplus
allowances. However the same principle could apply to other ‘threshold’ triggers, for example based on the level of cumulative
surplus.
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
The Three Pillars
for integrating objectives and instruments of energy-climate policy
Drawing on the book Planetary Economics:
Energy, Climate Change and the Three Domains of Sustainable Development
•
•
•
•
•
•
Uncomfortable challenge, curious context
Three Domains of economic processes
The Three Pillars of policy
Structural problems of the EU ETS
‘Stabilisation’ mechanisms
An integrated package
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Changing course requires a sustained package the key is to integrate and synergise across all three domains
POLICY PILLARS
Standards &
Engagement
Markets &
Prices
Strategic
Investment
Values, pull & preferences
Manage bills,
increase
responsiveness
Attention,
products &
finance
Revenues,
revealed costs,
strategic value
Technology
options &
competitiveness
Education, access & control
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
If the message is fully embodied ….
A potential ‘First among Equals?’
• A rising base carbon price is an instrument that
could contribute across all domains:
I. Attention effect and funding for 1st Domain responses
– rising steadily enables efficiency to keep pace and stop
much rise in total bills
II. Price differential will steadily reduce use of coal in power
generation, and help to move renewables on from
transitional subsidies into mainstream market
III. Facilitates increased investment stability and funding for
innovation, infrastructure and tech transfer programmes
• Embedding in an international agreement would
enhance stability and credibility
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge
Planetary Economics:
Energy, Climate Change & the Three Domains of Sustainable Development
1. Introduction: Trapped?
2. The Three Domains
• Standards and engagement for smarter choice
Pillar 1
• 3: Energy and Emissions – Technologies and Systems
• 4: Why so wasteful?
• 5: Tried and Tested – Four Decades of Energy Efficiency Policy
Pillar II
• Markets and pricing for cleaner products and processes
• 6: Pricing Pollution – of Truth and Taxes
• 7: Cap-and-trade & offsets: from idea to practice
• 8: Who’s hit? Handling the distributional impacts of carbon pricing
Pillar III
• Investment and incentives for innovation and infrastructure
• 9: Pushing further, pulling deeper
• 10: Transforming systems
• 11: The dark matter of economic growth
12. Conclusions: Changing Course
See www.climatestrategies.org/events/2014-events/book.html for information and pdf of full book
presentation materials.
Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge