Sector Transition Plans and why they matter to investors
Sector Transition Plans and Why They Matter to Investors
Dr Ian Woods and Dr Rory Sullivan
For a country to achieve its Paris Agreement goals, policymakers need to decide how to allocate greenhouse gas emission reduction efforts across the economy. They need to define who should reduce emissions, by how much and over what timeframe. And they need to do that in a way that is fair, effective and responsive to changing scientific, political and economic conditions. Policymakers are doing this by developing sector pathways and sector transition plans that allocate long-term emissions budgets among sectors, ensuring that the goal of decarbonisation is achieved in an orderly manner and achieved on a least cost basis.
We have worked with the Australia/New Zealand Investor Group on Climate Change (IGCC) to develop a discussion paper on sector transition plans that explains why such plans are important and to define the features of high-quality sector transition plans.
Joining the discussion
The paper identifies eight key features of credible sector transition plans. It argues that sector transition plans, if they are to support and encourage international and domestic investment in the low carbon transition, should:
1. Align with the Paris Agreement goal of limiting temperature rise to 1.5 degrees
2. Be credible
3. Align with commonly accepted international transition pathways
4. Focus on emission reductions within each sector, and have limited reliance on offsets
5. Be comprehensive and granular, covering all sectors and sub-sectors and all greenhouse emissions
6. Be action-orientated, identifying R&D and capital investment needs, identifying social capital and just transition requirements, and supporting government policy requirements
7. Be updated every five years to reflect changes in technology costs, new scientific findings, international developments, and the impacts of domestic policies
8. Identify pathway sensitivities to changes in core assumptions, as well as key areas of uncertainty,
The discussion paper also explains why sector pathways are important to investors. First, the publication and commitment of governments to sector transition pathways and plans, significantly reduces the climate change policy risk facing investments. Second, sector pathways help investors to better forecast the extent and timing of changes in imports and exports (e.g. fossil fuels), the extent and timing of capital investment requirements across the economy, the scale and timing of potential government debt issuances to support decarbonisation, and national demand for labour skills. Third, these pathways help investors to better understand the climate change-related risks and opportunities within their portfolios, and allow investors to more usefully engage with companies, and to direct capital to companies in a way that supports least-cost decarbonisation.
Chronos’ view
This project with IGCC is part of our wider programme of work on the public policy frameworks needed to enable and accelerate the low carbon transition. This includes our work with the Principles for Responsible Investment making the case for whole-of-government approaches to enable the economic transition, with the Investor Agenda on global climate policy frameworks to catalyse global climate action, and with the UK Transition Plan Taskforce developing sector-specific guidance on transition plans. Across all of these projects, the importance of reducing policy uncertainty has been a key theme. The reality is that, when faced with policy uncertainty, investors will look for larger incentives to invest (e.g. higher interest rates, more insurance or downside risk protection), they will choose to wait and see (or need to be incentivised to invest earlier) or they may simply choose to invest earlier. The nett effect is that the costs of transition may be significantly higher than they might otherwise be and that capital is deployed much later than it needs to be. In our view, sector transition plans, underpinned by credible analysis and with clear commitments to action, have a critical role to play in reducing policy uncertainty and, in turn, reducing the costs of the low carbon transition.
Notes:
The IGCC discussion paper Decarbonisation Investment Solutions for Sectors: A Discussion Paper on Sector Transition Plans and their Importance to Investors (2023) can be accessed at https://igcc.org.au/wp-content/uploads/2023/10/IGCC-Sector-Pathways-Report_2023.pdf