Geo-political tensions threaten global commitment to decarbonization

As global attention has remained riveted on the ongoing battle between Russia and Ukraine, the UN’s Intergovernmental Panel on Climate Change (IPCC) issued its starkest warning yet of the dangers facing humanity from our ever-more rapidly changing climate.

Thinking about energy in the face of the humanitarian crisis unfolding in Ukraine and amid the resulting brinkmanship between global superpowers the world thought it had largely left behind seems tone deaf to the point of parody. While this is primarily and unquestionably a human tragedy, Russia’s role as a key exporter of both oil and natural gas, and Ukraine’s position as a link between that oil and gas to one of the largest consumer markets in the world underscores that this is also a conflict at least in part about energy.

The sharp, abrupt rise in energy prices has added to an already significant inflationary burden for most people around the world. Dated Brent crude oil prices have rocketed up to their highest levels in nearly 15 years as the world has moved to divest from Russian hydrocarbons amid an unprecedented supply, and there has been a renewed call from world leaders for more oil and gas drilling to supplement energy supply in the short term and in the name of energy security.

This change in rhetoric comes mere months after the conclusion of UN climate summit COP26 in Glasgow where world leaders pledged to reduce global emissions in an effort to meet the 1.5-degree Celsius temperature rise laid out in the Paris Agreement. While it has been kept out of the headlines by the Russian-Ukraine war, the release of the IPCC’s latest report underscores the importance of rapid decarbonization across the entire global economy, an objective that is now increasingly in question, at least in the short-to-medium term at a time

COP26 in November 2021 saw some important progress made on global climate objectives, but it proved to be a profound disappointment for others. S&P Commodity Insights’ Global Integrated Energy Model — even before the Russian invasion of Ukraine caused global energy prices to shoot astronomically higher — has predicted a global temperature rise of 2.7 degrees under current global climate pledges (and that’s even if their pledgers are met), well above the 1.5 degrees eyed at Paris. A 2.7-degree scenario is far and away above the level that can be considered as safe for humanity.

In the absence of a strong regulatory international framework, it is critical that we continue to pursue decarbonization anyway; the IPCC report makes it clear that we have no other choice if the worst predictions are to be avoided.

The question before us really is how to do that effectively. Prices are a funny thing: high prices may be bad for consumers, but they are great for producers. When it comes to energy, the sudden surge in crude oil and gas prices — Platts Dated Brent is the marker for nearly 70 percent of the world’s crude oil — is going to make a lot of previously harder-to-extract energy assets more attractive and profitable than they otherwise would. Further, a lot of these assets are likely to require more energy to pull them out of the ground and refine them for use, greatly increasing the carbon intensity of the whole endeavour.

As the newest IPCC report shows, the planet cannot afford this, but under our current mitigation approaches within the private sector, industry certainly can. Even as energy prices have shot higher, global carbon prices — be they compliance schemes like the European Union Emissions Trading Scheme (EU-ETS) or voluntary ones like the carbon credit market — have tumbled sharply. Carbon markets function as a way to put a cost on greenhouse gas emissions, and the more expensive the cost of either claiming emissions (compliance schemes) or offsetting (voluntary ones), the more financial incentive a company or industry has to cut overall emissions. 

The recent trend in carbon prices has been bullish, particularly in the run-up to COP26, and 2021 was a banner year. The EU-ETS more than quadrupled from its previous high, nearly breaking into triple digits for the first time ever in early 2022. Voluntary carbon credits, once worth pennies on the dollar, saw value for particularly “high-quality” credits jump as a new suite of decarbonization pledges across different industries saw demand surge: Platts CNC, which prices nature-based credits, rose from a starting price of around $4 per metric tons of carbon dioxide equivalent in mid-June to more than $16 per metric tons of carbon dioxide equivalent by the early part of 2022.

Emissions suddenly started to carry a not insignificant cost, making active decarbonization an attractive alternative not only for the planet but as an economic choice. But the question that continues to face companies ahead is whether a fall in carbon prices — particularly if it proves to be a sustained one — will affect the collective commitment to decarbonisation, even has higher commodities prices makes the cost of polluting less onerous for the potential polluter.

Carbon markets are a tool, but in order for them to have any hope of working at all, they must also incentivize sharp, comprehensive, and accountable emissions reductions across the board. Given the unfortunate tendency among many to underestimate the volume of emissions, they need to be scientifically and comprehensively measured through carbon accounting. And we need to learn to take ownership not just of the emissions we are directly responsible for — Scope 1 and Scope 2 — but also the emissions we are only indirectly responsible for in Scope 3. There is no danger in over-counting, but there is a substantial threat to continuing to under-count.

The geopolitical challenges facing the world are profound, and the knock-on effect that they have had on the already-significant rise in the cost of living for most people needs to remain a priority. But it is important that this current crisis does not derail what progress has been made so far on climate change, nor strangle future progress in favour of short-term solutions to a much larger problem. Decarbonization needs to remain a priority and failing to address it now as the window of opportunity to do so continues to narrow is going to only going to significantly increase the challenges we will all face in the future.

Energy transition is energy security.

Paula VanLaningham is the global head of carbon at S&P Global Commodity Insights.