Let’s not make the Paris Agreement the “Elephant in the Room”

In my first post I referred to how the Paris agreement mentions transparency, which in the text is confined to transparency around carbon accounting and the disbursement of the huge financial aid that is an integral part of the agreement. Neither of which relate directly to transparency of the upstream in extractive industries, which is where governance efforts are concentrated.

But the agreement does have implications for governance in the upstream as of now. Here I want to examine what they are.

Two general observations to set up the discussion.

First, on timing. If you see the structure of the Paris agreement as being at least as important as its current substance,  then all potential linkages between it and the transparency agenda could – and should – come into play sooner than would be suggested by the current schedule.

In terms of goals, the agreement itself talks in terms of “ the urgent need to address the significant gap” between The Intended National Determined Contributions (INDCs) and the overall global goal set by the agreement. In this sense it is a triumph of diplomacy through constructive ambiguity. Media reports suggest the INDCs add up to global warming or between 2.7 and 3.7 degrees compared to the overall goal of limiting temperature rises to 2 degrees, and having the ambition to reduce them further to 1.5 degrees. This is a massive difference, and the agreement encompasses both.

And it’s the same with processes to monitor implementation of those goals. The agreement sets up a Global “stocktake” by the world body, external review in other words, but not until 2023. At the same time, it urges individual countries to review their own targets by 2020. So the agreement acknowledges that its own current targets are ineffective, and that its mandated review process is too far in the future.

One of several reasons to think that both implementation and monitoring will be sped up is because of another feature of the agreement, the way that both are intimately tied in to the global financing mechanism. This has a hard target of reaching 100 billion dollars a year by 2020, to come from the rich countries to the developing countries, to make the whole agreement stick.

This will dominate the development agenda within 12 to 24 months from now, a subject I will go into in a separate post.

The second general observation is that how strongly each potential linkage kicks in, and when, depends on the overall reaction of global markets. The Paris agreement implicitly accepts the Unburnable Carbon thesis. So when does Unburnable become Unextractable , and Uninvestible? Who will make what bets, balancing which perceptions of investor returns against the now undeniable fact of investor risk? We don’t know. But markets are not slow to factor in risk once they perceive it. I wouldn’t like to be in the shoes of economists at the IEA tasked with producing their next long term Energy Outlook. But the sooner they and others can give a read on how demand may be shaped,  the better.

So, to get to those linkages, here are the bullet points, with details below.

Evaluating New Fossil Fuel Projects

As of this week it is no longer wise for any government to ignore the implications of new fossil fuel development on the commitments to the Paris Agreement. This might not seem self-evident, because the agreement specifies the valuation point of emissions as where they are actually emitted. It does not, in other words, “buy” the argument of activists that responsibility lies with consumers of embedded carbon, and that it is the role of the agreement itself to make consumers in rich countries compensate the world’s cheap manufacturing bases like China for the admissions went into making our fridges, cars, and other appliances. So, viewed from the upstream, why would countries like Mozambique or Ghana need to consider the emissions associated with new fossil fuel development?

Because the oil, gas and coal produced in any new project will either be consumed at home, where it will impede a country’s ability to meet its INDCs, or exported. And if the bulk of production is scheduled for export, the government’s business partners, the international investors, will be thinking hard about the new long term global market conditions. And long-term is key here. Any sizable oil or gas project starting now will have a business model extending well into the 2030s, maybe beyond. The cost of setting up new export infrastructure in a frontier province is rarely less than billions of dollars these days.

There is a rabbit hole of complexity here in the sheer number of variables, and the case-by-case nature of project economics.

For now, let’s just ask how confident is the government of Uganda that Tullow, Total and CNPC, and their investors, are confident enough to build a 1,000-kilometer pipeline out to the Indian Ocean, for export of oil not due to come online until 2017? How confident is the government of Argentina that Chevron, and its investors, are confident enough to invest in an LNG plant for export of gas from the new shale production planned there? In the Eastern Mediterranean how confident are Egypt and Israel that the European Union really represents a viable export market for Eni and Noble for their offshore gas finds, to the extent that it justifies multibillion-dollar investments in new pipelines or offshore floating LNG facilities?

And, most critically for us in the international governance community, if a government is confident, should it be?

Evaluating currently producing Fossil Fuel projects

The risk profile of currently producing projects is of course radically different, and more positive in financial terms. The investments have already been made and even now with the price crash very few conventional oil and gas projects have reached the economic limit of actual operating losses which would cause the company to abandon production. In that sense, day-to-day, why not continue to take what you can get, whatever happens to global prices, before and after the Paris Agreement is factored in?

But to a large extent this reflects dysfunctionality in the economic development plans of many governments which we should be seeking to address anyway.

Inside line ministries and state oil companies, who often have a near monopoly on negotiating and managing projects, business will go on as usual for as long as it can. But once you move out to government as a whole, this should stop being true quite quickly. The agreement mentions economic diversification several times. The natural view from the finance ministry, thinking about revenue forecasts, and the planning ministry, thinking about longer-term economic development, looks quite different.

As a community, we are already engaged in the sensitive but vital task of seeing how we can contribute positively to joined-up public policy. So here is a suggested a rule of thumb: as of now, no engagement of this kind should take place without our referencing the Paris Agreement. It should be in the room even if we only have questions, not suggested solutions or answers. If we don’t mention it, it will simply be the elephant in the room.

Renewable Energy in Africa

The agreement specifies “the need to promote universal access to sustainable energy in developing countries, in particular in Africa, through the enhanced deployment of renewable energy”. How will that affect the continent’s power sector?

There are two key unknowns here. First, just how much will international funding for African renewables increase? It seems almost certain that it will be a massive increase from what it is now. But that’s looking at it the wrong way round. It’s more a question of will that funding scale up to a level where it starts to make a serious dent in power sector plans to develop more electricity generation based on coal and gas?

Secondly, and related, what are the underlying economics are renewable energy specifically in Africa? Many grid infrastructures are limited, some are imploding, and there is widespread energy poverty, especially in rural areas. The economics of off-grid and local network renewables already look different and more competitive compared (in total cost of ownership terms) to how they appear in the rich countries, before trying to factor in the ever decreasing costs of building and maintaining renewable systems.

And we should not overlook the soft but powerful influence the Paris agreement will have on elite thinking, and overall world view. We are not the only international experts our counterparts in the policy and business elites, or indeed civil society leaders, engage with. The theory of Resource Curse, such as it is, takes concepts like policy capture and rentseeking for granted. Is the Paris agreement a landmark in the erosion of a world view that development only seriously happens through fossil fuels? It was the largest meeting ever of heads of state. These things matter even if they can’t be quantified.

In policy terms, then, we should begin to see concepts like integrated energy plans, which genuinely account for cost benefit across all forms of energy, become a reality for the first time.

The Mining Industry’s use of energy

Wild thought: this could be a bright spot. Oil company attempts to get into renewables have failed in substance. But what about the mining companies? Could they show leadership in expansion of renewable energy for their current operations? Even begin to remodel themselves as “natural resource companies”?

On the nuts and bolts, they are very significant users of energy. In South Africa, 6 percent of total energy consumption; Vale alone accounts for 4% of Brazil’s energy use and even in the United States mining represents 3% of total consumption by industry. And viewed the other way round, energy accounts for 15% of the mining industry’s spend globally. In less developed economies, mining companies often create their own power infrastructures. Malawi’s INDC, for example, quotes emissions figures which explicitly exclude the mining industry, presumably because these are not easily calculated.

Since the Paris agreement counts emissions at location, if mining companies rely exclusively on fossil fuels, that will in short order become part of their conversations with governments. This could add to existing pressure on mining economics, which has already become acute in the past 18 months since commodity prices started dropping. Governments will naturally want companies to pay for their part of national emissions. Companies will point to their already stressed bottom lines.

All the more reason, then, to try and frame this as opportunity rather than threat. Because, even if such emissions are a small proportion of the global total, we are in a new policy world where close attention will be paid to all sizeable emissions. The Paris agreement will affect nearly every mining project for good or ill. Companies, and more broadly industry groupings like the ICMM, will have to engage one way or another.

One thing 2016 should see: a review of the Africa Mining Vision on this issue.

Conclusion

These are some of the linkages between the extractives governance agenda and the Paris Agreement – which should start to play within the next 12 months.

Beyond that, there are bigger and more complex implications within a one- to three-year period, as well as outlier effects, the interlacing of the Paris agreement with the international development agenda, and broader considerations of what we mean by natural resource governance anyway. But this post is already too long!

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