Talking Heads – Will election results upend climate policies?

This is an audio transcript of the Talking Heads podcast episode Will election results upend climate policies?

Daniel Morris: Hello and welcome to the BNP Paribas Asset Management Talking Heads Podcast. Every week, Talking Heads will bring you in-depth insights and analysis through the lens of sustainability on the topics that really matter to investors. In this episode, we’ll be discussing the latest developments and outlook around climate policies. I’m Daniel Morris, Chief Market Strategist, and I’m joined today by Alex Bernhardt, Global Head of Sustainability Research. Welcome, Alex, and thanks for joining me. 

Alex Bernhardt: Thank you for having me, Daniel. 

DM: Alex, we knew at the beginning of the year already that this was going to be an important year in terms of politics. Not only, of course, elections in the US, but elections all around the world. And there’s always the potential for surprises. Most of the results so far have come in different from expectations, and that has consequences. So, when we think about a huge election year globally with at least a quarter of the global population having voted or heading to the polls through the perspective of the impact on climate goals, how do you see things evolving? 

AB: First and contextualising my answer, I should mention that we are one of the sponsors of the Inevitable Policy Response Initiative, or IPR, which develops a number of scenarios for climate forecasts based on actual assessments of climate policy trajectories. So, we have a detailed view of climate policies and how they are evolving.  

There’s a lot of uncertainty around these different elections. There’s been some surprises in the EU. There was a large rightward swing and there’s been discussion about how that might cool climate ambition in the bloc. Though there isn’t likely to be a clawback or a retraction in the existing climate policies, most of which are in law at this point.  

At the EU level, there may be a reduction in ambition. All eyes are now on the US election in November, and I think it’s fair to say that any sort of significant climate policy in either direction is likely dependent on a sweep of both chambers of Congress and the executive branch by either party. We won’t see a significant ratcheting back of existing policies unless there’s a full red wave and we won’t see a significant increase in policies unless there’s a blue wave, red being Republicans and blue being Democrats. Would the Inflation Reduction Act, which is the central piece of the Biden administration’s climate policies, which includes a huge amount of incentives for green power and other industries, be repealed in some way?  

It would be unlikely for that to happen given that a lot of the incentives embedded in the IRA happen to benefit red states. Another part of the second half of the year, which is worth looking out for is COP 29. There’s a lot of focus around ratcheting up the global finance commitments of global northern countries to global southern countries, which are currently at about USD 100 billion, to USD 1 000 000 000 000. That could have a significant impact on how climate change policies and practices are implemented, particularly in emerging markets.  

DM: What about emerging markets? We look at the elections in India, South Africa, Mexico. There’s more to come. What are some of the developments there? 

AB: Emerging markets is where the fight for combating climate change will be won or lost in many respects. They represent 40% of global emissions today, and emissions have been rising on the back of growing energy demand and in some cases, increasing coal use. So, there’s a lot of focus that needs to be paid, particularly on those countries, as well as some of their smaller peers in Southeast Asia.  

What we’ve seen is a ratcheting-down of ambition in India in particular, which has raised a yellow flag on the back of increased forecast power demand. They are now announcing the intention to increase their coal capacity to meet this increase in demand. And we’ve seen similar step-backs in notably Indonesia and South Africa. In both cases, they’ve cited, again, an increase in energy demand and difficulties in meeting that demand with renewable energy alone. So, they’re resorting to some fossil fuel sources of energy production to meet that.  

Some of the dynamics which have been cited in these ambition cooling announcements have been the increasing cost of renewable power, which is more capital intensive up-front. You must build the entire renewable power plant before you can start producing energy. That cost of building renewable energy plants [is] very interest rate sensitive. And, as we all know, we’re in a higher interest rate environment, and that’s making the cost of capital of renewable projects harder to stomach for investors and countries in which those investments are taking place.  

There’s also been some citations of concern, particularly by the Indonesian government, about green inflation as an issue. There are focuses on the increasing cost of inputs into renewable energy and other clean energy products. This includes natural resource costs which have been highly volatile. There’s concerns about the cost of those inputs into renewable energy projects having another cooling effect on further investment in that space.  

DM: What are the ramifications then for investment portfolios? 

AB: What we find is that most of these changes in policy direction are long term in nature; they don’t have a short-term impact on liquid markets. What is more interesting to examine are two dimensions here. One is the impact of sentiment and the impact of inflation and monetary policy on climate policymaking. The cost of renewable power in the context of a higher interest rate environment is a key component for falling back on other energy sources.  

This interest rate environment has been a challenge for what we’ll call the renewable energy trade more broadly in public markets. A lot of up-front, investment-intensive strategies that rely on debt, for instance, to finance new projects have a lot of sensitivity to this interest rate environment. So, as we see changes in interest rates as a result of inflation going up or down, we can also see changes in the ambition of climate policies as well as changes in the return dynamics of that renewable energy trade.  

DM: There’s an old joke about the difference between equity investors and bond investors. Equity investors are the optimistic ones looking for the growth potential, fixed income investors trying to minimise the losses. So, that fundamental difference between optimism and pessimism in terms of the outlook for climate policies in this environment of significant political change. Are you falling more on the optimistic side or the pessimistic? 

AB: It’s easy to fall into the pessimistic hole. But one of the things that’s highlighted in the Inevitable Policy response Research is the sheer volume of climate-related policies that are being passed and that have been passed in the last few quarters. The large majority of those are moving in the direction of implementing positive climate policies. So, there’s room for optimism and I’m falling more in that camp. I’m excited by the research that the IPR produces because it gives me hope that we are indeed heading towards a more realistic outcome. So,  it doesn’t take a lot of ratcheting-up of our ambition or of our existing policy strength to get to 1.5 [degrees Celsius]. I’m optimistic that we’ll get there.  

DM: Alex, thank you very much for joining me. 

AB: Thank you, Daniel. It’s been a pleasure.