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The ESG Brief - Why Article 6, money and ambitions matter so much at COP26
16 Plays4 years ago
In this edition, our Head of ESG Research Wai-Shin Chan and Analysts Tarek Soliman, Camila Sarmiento and Lucy Acton preview the climate talks and what investors may be looking for in the negotiations
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Transcript
Introduction to ESG Brief
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This is HSBC Global Viewpoint, your window into the thinking, trends and issues shaping global banking and markets.
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You're listening to a special edition of the ESG Brief from the Environmental, Social and Governance team here at HSBC Global Research.
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Article 6 of the Paris Agreement may prove a thorny subject at the climate negotiations getting underway in Scotland.
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We'll be looking at its key provisions.
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Plus, we're taking stock of climate finance flows between developed and less developed markets, the net zero pledges from China, the U.S. and the U.K., and what investors may hope to learn over the next two weeks in Glasgow.
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This podcast was recorded on the 27th of October.
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All our disclosures and disclaimers must be viewed on the link attached to your media player.
COP26 Focus Areas
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Hello, everybody.
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I'm your host, Jack Reed, and here to guide you through the complexities of COP26 this week, I'm joined by Weishin Chan, our head of ESG research in Hong Kong, analysts Tarek Solomon and Lucy Acton in London, and Camilla Sarmiento in New York.
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Lots of ground to cover based on a volley of recently published research.
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Weishin, welcome.
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Thank you for having me, Jack.
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Just broadly, what are you looking for when we get underway in Glasgow?
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At COP26, the main things for delegates and negotiators to cover are
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the unresolved parts of the operational guidelines of the Paris Agreement.
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I would like to focus on three main areas.
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The first is Article 6 of the Paris Agreement.
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The second is to do with finance, and that is about $100 billion flowing from developed to developing countries.
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And the third is raising the overall ambition levels of the climate pledges, those nationally determined contributions.
Understanding Article 6
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Okay, let's start with Article 6.
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Article 6 should be broken down into three main issues.
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Article 6.2 is about cooperative approaches.
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That is about the bilateral trading of carbon credits or so-called internationally transferred mitigation obligations.
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And this is about...
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parties buying carbon offsets from another party for use in their climate pledges.
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The second part is known as Article 6.4.
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And so this is about a global carbon mechanism that can support emissions reductions and sustainable development.
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Now, Article 6.4 is supposed to replace the ill-fated clean development mechanism
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of the Kyoto Protocol.
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Now for some countries they have a lot of unused allowances, they're known as Kyoto units.
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They would understandably want to carry forward or grandfather, so to speak, these unused units in the new
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mechanism.
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Brazil is one such country.
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On the other side of this coin, there are countries that believe that no historical units should be allowed to be used in the new mechanism.
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So potentially tricky territory to navigate over Section 6.4.
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And the third part that you're watching?
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The third part is Article 6.8.
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This is known as non-market approaches.
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This is a framework across institutional arrangements that promotes emissions reductions and resilience, and it tries to use both the public and the private sector.
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For example, reducing fossil fuel subsidies would be a non-market approach that has benefits to reduce carbon emissions globally.
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Okay, let's put Article 6 aside for
Climate Finance Commitments
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now.
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Let's turn to finance flows.
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So the financing aspect goes way back to 2009.
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This was at COP15 in Copenhagen.
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Now, developed countries agreed to provide developing countries $100 billion annually by the year 2020.
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And this is to fund the
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mitigation and adaptation projects that would contribute to climate pledges.
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Now, this didn't happen.
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And so we're stuck at the moment because if developed countries cannot meet their financial promises, then developing countries have a reason to say, well, why should I make any further climate pledges when it comes to mitigation and adaptation promises?
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This is a sticking point of the climate negotiations.
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What we'll need to see is renewed promises from developed countries and then developing countries saying, okay, we trust you now enough to make much, much stronger climate commitments.
Net Zero Pledges and Ambition Levels
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And the third broad area on your radar is around those ambitions to cut CO2 emissions, the pledges.
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What have we seen recently on that front?
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There are many nations that have not stepped up, shall we say, but the UN looks at it in a different way.
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There's making a net zero pledge and there's formally submitting a climate commitment.
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So those are different things.
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Now, the UN just this week issued an update of its synthesis report.
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This aggregates all the climate pledges that have been formally received by the United Nations Framework Convention on Climate Change.
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And what the aggregation shows is that for those countries that have updated their climate pledges, we could see a 9% decline in emissions by 2030 from 2010 levels.
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That is OK.
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But what we're really looking for to get on a one and a half degree trajectory or a net zero trajectory is for a 45% emissions reduction in the year 2030.
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the 45% that is required.
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Now, at the same time, the UN found that if you were to add up all the pledges, even the ones that have not been updated, so everything that's been received to date, we're heading for a 16% increase
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in 2030 from 2010 levels.
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And that is clearly in the wrong direction.
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And the scientists tell us that that would take us to about a 2.7 degrees of warming by century end, clearly sailing through the one and a half and sailing through the two degree goals of the Paris Agreement.
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And what do you think investors are looking for?
Investor Concerns on Transition to Net Zero
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What our clients are looking for is long-term clarity.
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And that will be, I think, one of the outcomes we will see out of COP26, whether the speed of the transition to net zero will be faster or slower than they were originally expected.
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expecting.
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What we will not see is a sudden jump in the markets.
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Climate change is by definition a long-term game and the policies take time to be conceived and the policies to deal with climate change take time to be implemented.
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So the longer term
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visibility is what will be important to our clients.
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Is this transition happening more quickly or more slowly?
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And do they need to be repositioning their portfolios over the medium term towards lower carbon technologies, lower carbon solutions, and net zero strategies of companies?
Structural Changes in Energy Systems
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I'd like to pick up on the question of the pace of the transition with you, Tarek, and your research on the energy system.
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What are the biggest challenges in actually cutting CO2 emissions?
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Well, there's no denying that there is a big problem.
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And I think that's something I guess we all know.
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First of all, emissions have kept going up in the years since we signed the Paris Agreement.
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What happened in 2020 and now in 2021 has taught us that our emissions are, when they come to energy at least, are cyclical.
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They go up and down with economic activity.
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We saw a big dip in 2020 and they've come roaring back in 2021.
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For a longer term solution, along the lines that Wei Xin sort of described of cutting emissions almost in half in this current decade, we need to make structural changes, i.e.
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we need to reduce the amount of CO2 that we have in our energy system, but not necessarily by curtailing or hindering economic activity.
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So it's
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It's dislocating carbon from our energy system.
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It's not something we've done before.
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Emissions will have to fall in the coming decades faster than they ever rose in the 20th century with everything that came with the great industrialization.
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There's no mistaking the magnitude and the pace that needs to change.
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All the meantime, whilst many countries at COP will also, given that we're in the midst of an energy crisis, be concerned about energy security, energy prices, and also for perhaps the least developed countries in this world, energy access for the poor.
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So there's a myriad of issues at play.
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But the challenge is big.
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It's not been done before, and it needs to happen quick.
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And where do these structural changes need to be made most urgently?
Decarbonizing Electricity and Industry
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Well, we actually wrote about this earlier this year in a piece we called Future Frontiers.
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We identified four major industry groups.
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I'll only focus on a couple.
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And we actually, in fact, we didn't feature one, which is agriculture.
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But together, the big five are electricity generation, transport, energy.
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industry, buildings and agriculture.
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Five main anchors of the economy.
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And the fact that there is more than just one thing we can do tells you that emissions and carbon is quite widespread throughout our economy.
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So we can't just do one thing to fix the problem.
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But if I was to perhaps highlight a couple, I would say electricity generation and cleaning up the grid is absolutely paramount.
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First of all, it's the single largest source of emissions globally.
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And secondly,
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decarbonizing electricity opens up a lot of other possibilities elsewhere.
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We can't have things like electric vehicles whizzing around our towns and cities or green hydrogen powering some of our industry without having a low cost and low carbon source of electricity.
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So the grid is an absolutely paramount part of this.
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It's also probably the most technologically and economically feasible part of that equation to address in the first instance.
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And at the country level, where do we look first?
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Weixin?
China's Carbon Neutrality Challenges
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China is probably one of the most important, if not the most important country in the world because it is such a big emitter.
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And China
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Any climate pact or negotiation or agreement or outcome requires China to be involved.
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Now, it is committed to be carbon neutral by 2060, which is around 40 years away, which gives it a long time.
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But they're coming from a place where they require coal in the economy.
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Now, China has a lot of coal, and it would require a long time to wean itself off this coal dependence.
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China has very, very recently indicated how it's going to reach its carbon neutrality by 2016.
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And one of those milestones is to have
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at 80% of its primary energy mix coming from non-fossil fuel sources by mid-century.
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Now that is very interesting because in China, non-fossil fuel sources include renewable energy, it includes hydro, and it also includes nuclear.
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Let's turn to the US now.
US Climate Leadership and Infrastructure Investments
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Camilla, what are the challenges for the Biden administration?
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So as we enter these climate talks, we see two priorities and challenges for the Biden administration.
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The first being reestablishing the United States as a global climate leader, which President Biden has prioritized since the start of his term by rejoining the Paris Agreement on day one and hosting the Climate Leader Summit back in April, along with a plethora of other executive orders like preserving 30% of land and water and focusing on climate-related risks.
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And, you know, the second challenge being actually reducing emissions within the United States.
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You know, the United States is the second larger emitter of greenhouse gas emissions and Biden has prioritized emission reductions heavily across all sectors.
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really energy, transportation, buildings, and agriculture.
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But central to reducing emissions is their updated national determined contribution or climate goal in line with the Paris Agreement.
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And this is to reduce greenhouse gas emissions by 50 to 52 percent from 2005 levels by 2030.
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So a 50 percent cut in greenhouse gas emissions in under a decade seems super ambitious.
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How does the United States get there?
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Yeah, so the United States has reduced emissions by about 12% since 1990.
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They reached peak emissions back in 2007, but they have declined since then by about 1% per year on average.
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So in order to reach this new climate goal, we estimated that the decarbonization rate would need to be about 5% to 5.4% annually to reach it.
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Now, we can look
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look at how we just goal by focusing on transportation and electricity, which are the larger emitting sectors.
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So within transportation, the Biden administration has focused on electric vehicles and aviation through executive orders.
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And on the electricity side, the United States has put forth a sub goal, which is to reach zero carbon electricity by 2035.
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And how does the infrastructure bill that's making its way through Congress help in meeting the target?
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So the infrastructure deal has important components for climate policy, most specifically relating to electricity, which it plans to invest $65 billion in rebuilding the electrical grid and expanding power lines to help ease the expansion of renewable energy.
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And then along with this, they also prioritize EV infrastructure and they plan to invest $7.5 billion in a network of EV charging stations across the nation.
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Camilla, thanks very much.
UK's Emission Targets and Challenges
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Now, ESG analyst Lucy Acton in London has been looking at the UK's climate goals in her latest report.
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Lucy, what's behind that research?
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Yeah, there's a number of reasons.
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I mean, first of all, the UK is hosting COP26.
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So there's been a lot of attention on them as hosts and the sort of agenda that will be brought to COP26.
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But another main reason for it is actually that the UK has some of the most ambitious emissions reduction targets in the world.
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So they've pledged for net zero by 2050, as have many other countries, but they've actually enshrined this into law.
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And then more interestingly is that they have a very strong and ambitious target for the near term.
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So looking at a 78% reduction in emissions by 2035 versus 1990 levels, that's actually one of the most significant, most ambitious pledges that we've seen around the world.
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So lots of attention on the UK for those two reasons, really.
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And do you think the UK can meet its targets?
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That's the key question.
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There is a lot of ambition, but there are concerns about whether or not that ambition will be met.
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I mean, if you look at the UK, they've done quite well so far with their emissions reduction.
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Their emissions have
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demonstrated pretty much downward trend since about the 1970s um they've fallen about 45 since 1990 um or 41 if you include their contribution to international shipping and aviation as well um but looking forwards i mean the uk needs to decarbonize at a quicker rate over the next 20 years than it has done over the previous 20 years um so it's a big ask we've
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had a fairly good run of decarbonizing our power sector.
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It's now transport is one of the biggest emitting sectors for the UK.
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Buildings is another sector too.
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So we're starting to get to sectors that are much harder to abate in terms of emissions, which makes the challenge that much harder as well.
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And finally, going forward, what's the cost in the perennial question?
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Who's going to pay for it?
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Well, it's a big one.
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There's a big need for financing in order to reach this transition.
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And you'll see sort of various different estimates of the investment that's required.
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Last year, the UK released their 10-point plan and they announced £12 billion worth of investment from the public sector.
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to help with this transition.
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On top of that, they said that they hope to mobilize three times that amount in private sector investments.
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I think one of the key sort of concerns around the UK and something that we mentioned in our notes is that there's not a lot of detail at the moment for
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how we will achieve such ambitious targets.
Financial Requirements for UK Climate Goals
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And we've seen businesses over the past few months sort of asking the government for a bit more detail on how these targets will translate into sort of material changes and what sort of timelines we're looking at.
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Lucy, thank you very much.
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Wei Xin, if I can turn back to you now, when the COP26 meeting ends on the 12th of November, how are you going to measure success?
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That is the planetary question that I think is almost unanswerable.
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We've said that success will be on a spectrum depending on the perspectives of all the actors here, not just investors, but also civil society, business, as well as governments.
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It will be a combination of how well Article 6 is agreed.
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Now that will follow along
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definitions that will follow along governance that will follow along timeframes and accounting issues, as well as how committed the developed countries are on their finance.
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Will they be given in the form of grants or will they be given in the form of loans?
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Will they be given bilaterally or will it go to the Green Climate Fund?
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Will the finance be focused on
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adaptation as well as mitigation or just in decarbonisation and reduction.
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The ambition levels will come from more countries applying peer pressure to each other saying, I've now committed to net zero by this time.
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Are you going to do the same?
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Or I'm going to raise my commitments for the 2030 period.
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Are you going to do the same?
Diverse Perspectives on COP26 Success
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And how confident are you?
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It is something that I am losing sleep over, Jack.
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What usually happens is there are a lot of background negotiations in the run-up to these climate negotiations, which are supposed to get elements of the deal lined up, so to speak.
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And the hosts, the UK, as Lucy mentioned earlier, will be...
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doing a lot of diplomatic effort behind the scenes and the US and their special envoy on climate change, Mr. John Kerry has been flying around the world to try and get elements of an agreement.
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What we are seeing is that some of the larger emitters out there are not sending their heads of state.
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So President Xi Jinping will not be live in person in Glasgow.
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And that is a concern.
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So I am losing a lot of sleep over how the outcome will be.
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The Prime Minister of the UK, Mr. Boris Johnson, is not giving off the most confident vibes.
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He's saying it's a bit touch and go, and he's saying the chances of success are six out of 10.
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So when this comes from the Prime Minister of the UK, that could give a lot of people cause for concern.
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But there is optimism to be had.
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We've seen the pressure applied on
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various countries to deliver new net zero promises.
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So the United Arab Emirates, Saudi Arabia, and hot off the press is Australia.
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I think that is a win.
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And we're seeing increasing commitments from companies as well.
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And in there on a slightly more positive note, Weishin, thanks very much for
Conclusion and Additional Resources
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joining us.
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And to Tarek Solomon, Camilla Sarmiento, and Lucy Acton,
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If you're a client of HSBC Global Research, all of the terrific work from our ESG team is available by subscription and on the research website, and it's showcased on the research app.
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That's it for now.
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We'll be back next month with another edition of the ESG Brief.
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Thank you for listening today.
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This has been HSBC Global Viewpoint Banking and Markets.
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For more information about anything you heard in this podcast or to learn about HSBC's global services and offerings, please visit gbm.hsbc.com.