The grey zone of the energy transition

13.09.2023 /

The energy transition in Western countries will be a complex and challenging endeavor. To manage it effectively, it is imperative that we refine and optimize our transition strategy for a more sustainable outcome. Equally important is the global perspective, recognizing that the world’s remaining 7 billion people will have a significant impact on future fossil fuel consumption and greenhouse gas emissions. Finally, financing is a critical component in addressing this global challenge.

Current Trends

On the positive side, “clean tech” has been growing exponentially, well before the US/EU industrial policy implementations. The US, for example, will subsidize the equivalent of 30% to 50% of the total cost under certain conditions:

• New renewable capacity additions should be around 2’500 GW over the next 5 years (the equivalent of the last 20 years). It is worth noting that China alone will represent the US, Europe, Southeast Asia and Latin America combined.
• The marginal cost of producing electricity from renewables is equal to 0.
• We now have a carbon price in Europe and a methane price in the US, which should help the transition.
• Electric vehicle sales are booming, and China now appears to be an exporting leader in this area.

On the less positive side, according to Vaclav Smil and Jean-Marc Jancovici (http://vaclavsmil.com/publications/), leading authorities on the history of energy transitions, this energy transition will be a very gradual and lengthy process. Moreover, each new technology has never replaced an old one, only the natural growth of demand.

The need to accelerate

According to Michael Cembalest, Chairman of Market and Investment Strategy at JPMorgan (https://privatebank.jpmorgan.com/gl/en/insights/investing/eotm/annual-energy-paper), there are 6 main obstacles:

• Permitting delay across generation and transmission capacity (this is a problem that can be solved at the federal level, but which is more difficult at the local level, think of NYMBism).
• Availability of critical minerals and rising resource nationalism (building EVs and renewables is very material intensive). According to the IEA, it takes an average of 16 years to open new mines. Materials typically represent 70% of the cost of solar panels.
• Excessive unit energy costs to decarbonize heavy industry (mainly heat).
• Back up thermal power and storage costs, which are every often prohibitive at this stage and which are needed because of the variability of production from renewables (let’s not forget that ironically, we want to solve climate change by adding renewables which in the short-term are correlated with climate change… The IPCC shows that average global wind speeds could fall by 10% by 2100, as climate change reduces the difference in atmospheric temperatures that generate wind, warmer waters and droughts will make it harder to cool power plants, transport fuels and rely on hydropower).
• The challenge of integrating thousands of new renewable energy projects. Renewable energy is a decentralized technology that requires a lot of transmission, but grid capacity is not growing fast enough and is even tending to shrink…
• The long useful life of existing machinery, vehicles and furnaces.

In addition to these considerations, it’s worth highlighting another key factor: geopolitics. For a deeper understanding of this crucial dimension, I highly recommend reading the recent essay by Jason Bordoff of the Center on Global Energy Policy at Columbia University (https://www.foreignaffairs.com/world/energy-insecurity-climate-change-geopolitics-resources).

• Today, the new energy insecurity is forcing countries to do reshoring. Such moves are understandable but yet an interconnected global energy system is the cornerstone of energy security and markets remain the most efficient way to allocate supplies… Increased self- sufficiency can provide a sense of resilience that can also make it vulnerable, and interconnected markets can ease disruptions caused by extreme weather or political instability.
• Our dependance on China for the production of solar panels, mineral refining capacity, batteries and electric vehicles is another issue (we are simply shifting our dependance from one region to another).

To conclude

It is too early and unrealistic to believe that renewable energy and electric vehicles are the solution to the energy transition. They are only part of it. This underlines the need for a broader and more nuanced understanding of the energy transition. This is particularly important in a context that tends to focus primarily on the supply side of the energy equation. It is equally important to consider the demand side of this equation, which raises a number of complex questions. These questions go to the heart of our willingness to change our consumption patterns and lifestyles, and pose challenges that go far beyond the dynamics of energy supply.

Anecdote: It is worth remembering some harsh realities about the economic growth and our life aspirations: according to Vaclav Smil, global SUV sales were responsible for ALL of the 3.3 million barrels per day growth in the oil demand from passenger cars between 2010 and 2018. The average SUV emits 25% more carbon than an average car and there were 250 million SUVs on the road in 2020. That could wipe out the decarbonization gains that would come from 10 million EVs. In recent years, SUVs have been the second highest cause of CO2 emissions, behind electricity generation and ahead of heavy industries, trucking and aviation! If the SUV trends growth continue, it could offset the carbon savings from more than 100 million EVs.

Florent Ghose, Analyst & Portfolio Manager