In early November, major nations will reconvene to discuss global plans to tackle climate change. COP26 (the 26th UN Climate Change Conference of Parties) will see leaders revisit the commitments that were made under the Paris Agreement in 2015, assess the progress to date and set a roadmap for the future. The legally-binding commitment made in 2015 was to limit global warming to well below two degrees Celsius, compared to pre-industrial levels, by the end of the century.
What is different about this annual meeting is that the US is back at the table, providing renewed momentum. Top of the agenda will be to compare national greenhouse gas emissions outcomes to those planned, and assess whether they are sufficient to achieve global climate objectives.
The conclusion is likely to be that greater efforts are required – though many governments have already accelerated their plans. The EU plans to reduce its emissions by 55% by 2030, while achieving net zero emissions by 2050 has recently become the new benchmark. In 2020, the UK and France were the first major economies to write their net zero emissions targets into law, and many other countries, including the US, are now following their example. China has given itself an additional decade with net zero emissions targeted for 2060.
The realignment of the US with global climate initiatives is a gamechanger. Having organised a global climate summit on Earth Day and supported a G7 announcement to end fossil fuel subsidies by 2025, the US will probably support a new Grand Climate Accord during COP26.
With the major economies already aligning behind the goal, reaching net zero emissions may well become the new official global target. This will require dramatic changes to the global economy, and we expect a wave of new policy and major investments in green infrastructure to be announced at COP26. However, to reach net zero emissions, policymakers will also need to increase private sector incentives to reduce carbon emissions, so carbon pricing initiatives such as emissions trading schemes (ETS), and carbon taxes are also likely to be key topics of conversation at COP26 (see On the Minds of Investors: The implications of carbon pricing initiatives for investors)
However, such discussions could lead to trade tensions as countries try to lay blame – and the need to change – at others’ doors. By country, China is the biggest emitter of greenhouse gases (Exhibit 8). But looking at the data by capita suggests the US has the most work to do. Others will argue the most appropriate comparison takes into account stages of economic development or reliance on manufacturing for GDP. This may hinder the group’s ability to agree on a common solution.
Exhibit 8 – Disagreement on who is ‘to blame’ may strain international relations
Share of global CO2 emissions by country
Global CO2 emissions per capita
Obstacles to progress may prove particularly frustrating for Europe, which is far more advanced in this area, and keen to ensure that its own high regulatory standards are matched elsewhere, so that measures such as higher carbon prices in the EU don’t damage the profitability or competitiveness of the region’s companies (Exhibit 9). If the EU, China and the US cannot agree on a path towards a common carbon price, the EU may need to find a short-term solution to ensure that its climate efforts do not disadvantage European businesses.
Exhibit 9 – The EU will be keen to see others raise their carbon price
Emissions trading system prices
One solution that appears to be growing in appeal in Europe is a carbon border adjustment mechanism (CBAM). This import tariff would be designed to ensure that the environmental footprint of a product was priced the same whether it was manufactured locally or imported.
Investors should be aware of how announcements at and after COP26 might influence their portfolios. Some companies will benefit from new green infrastructure investments, or from being relatively well prepared for the transition compared with their peers. Others may lose out – particularly firms that will face higher costs due to higher carbon prices, and especially if they are unable to pass these costs on in higher prices.