The IEA illuminates the path to Net Zero

• The IEA’s Roadmap to Net Zero by 2050 provides a comprehensive baseline of the changes to the global economy as the world fills in the details about how we get there.
• Massive worldwide investment in renewable energy, low-carbon technologies by end-users and a tripling of the pace of energy efficiency will add 4 percentage points to global GDP by 2030
• With the IEA roadmap, financial institutions reviewing the scenarios presented by customers have a detailed baseline to use as a starting point

The International Energy Agency hasn’t been one to make waves about the transition towards a Paris-aligned future. However, its net-zero pathway through 2050 report is more robust than expected, with a bold outlook described as “the most technically feasible, cost-effective and socially acceptable” path to net zero emissions globally by 2050. It includes no offsets outside of the energy sector, with “low reliance” on negative emissions technologies.

This net-zero pathway is significant for the financial sector because the IEA is often seen as representing a ‘consensus’ position in relation to energy issues. Financial institutions are likely to see this as a ‘middle ground’ path when they analyze the risk profile built into their investment/financing portfolios. Investors are likely to take a similar position, and the IEA’s scenario could become a starting point for investors, financial institutions and companies as they assess what is likely to happen to the economy over the next decade and how it will affect their assets.

Although the energy transition scenario that the IEA lays out is significantly disruptive, it is also filled with opportunities. The macroeconomic opportunity comes as a result of the investment up-front to get on the net-zero pathway through 2030, especially for renewable energy resources that are more capital-intensive up-front with lower ongoing costs. Piling those investments into the next decade will increase world economic growth by an average of 0.4% per year, and create an economy that is 4% larger in 2030 than it would otherwise be.

The top-line number hides a lot of disruption below the surface, which is why there has been a significant movement towards improving climate-related financial disclosures. For example, the IEA sees no new oil and gas field development directing more market supply in coming years towards OPEC, whose share of global production is seen rising to record levels (over 50% of global production), even though that production would result in diminished revenue over time.

The drop off in revenue from oil & gas under the IEA’s scenario would come from a fall in demand, as well as a significant reallocation of investments away from new developments. Much of that investment would have to be reallocated towards more efficient production methods, as well as developing carbon capture and usage technology, and alternative tradeable energy such as green and blue hydrogen.

Some countries with non-energy commodity production would see demand for their mining exports rise even while their energy commodity exports falls, which would provide some smoothing. However, this would still require a large reallocation of investment and job transitions between sectors, which would bring adverse social impacts.

For countries reliant on oil and gas, whether or not they have significant exports of non-energy commodities, the transition will also bring opportunities in renewable energy. The IEA estimates that “by 2030, annual investment in renewables in the electricity sector is around US$1.3 trillion, slightly more than the highest level ever spent on fossil fuel supply (US$1.2 trillion in 2014)” [emphasis added].

The growth in renewable energy investment would be needed for electricity capacity to significantly scale up for many purposes including transportation, heating and cooling, and to meet industrial demand. Some of that investment in electricity production will be directed towards the creation of new energy export opportunities from green hydrogen. Projects that can create energy sources from renewable electricity for export could play a role in smoothing the transition with a lateral shift in energy production for energy exporting countries in the coming decades. The IEA scenario expects US$40 billion of new investments to enable these types of shifts.

Apart from the energy sector, there will be significant investment needed in those on the demand side who are inducing energy supply growth. The IEA estimates that low-carbon technologies for end-use sectors will rise more than 3 times between 2020 and 2030 under the net-zero scenario to reach US$1.7 trillion.

Much of that will involve transitioning end-use sectors away from greenhouse gas-emitting technologies, including deep retrofitting of buildings, transformation of industrial processes, and the purchase of new low‐emission vehicles and more efficient appliances. Some of it will also represent investment in energy efficiency, which will have to reduce energy intensity by 4% every year through 2030 to stay on the net zero pathway, which is three times the pace of change seen since 2000.

The transition that the global economy will undergo between now and 2030 if the world is committed to the Paris Agreement and net zero by mid-century will produce significant changes. Business as usual from an investment and financing decision-making process won’t be robust enough for the scale of economic shocks, booms and busts that different sectors will face as a result of the race to net-zero.

Energy is one of the fundamental sources of change, and it underpins many of the changes that will be needed in other sectors. Electrification will be a significant driver of energy demand growth, but the steps forward on energy efficiency that are needed will also produce investment risks and opportunities. But beyond the direct emitting sectors — transportation and electricity generation being the largest in many countries — the spillover effects will also have an impact on financial outcomes that investors and financial institutions need to account for.

Doing the analysis robustly has overwhelmed the capacity of many investors and financial institutions because the problem is complex. But it’s too important and impactful not to try, and net-zero scenarios from the IEA and other organizations will play an important role in setting out what the global reference ‘base case’ for a net zero pathway is and what it entails.

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