Who will fund the low-carbon revolution?

This article is published in collaboration with Project Syndicate.

The global agreement reached in Paris last week is actually the third climate agreement reached in the past month. The first happened at the end of November, when a group of billionaires led by Bill Gates, Mark Zuckerberg, and Jeff Bezos announced the creation of a $20 billion fund to back clean-energy research. On the same day, a group of 20 countries, including the United States, the United Kingdom, Germany, India, China, and Brazil, agreed to double their investment in green energy, to a total of $20 billion a year.

Of the two pre-Paris announcements, it was that of the Breakthrough Energy Coalition (BEC) – Gates and his fellow entrepreneurs – that grabbed most of the headlines. This is not surprising, given the strong association in the popular imagination between innovation and the private sector. If a technological breakthrough is needed in the fight against climate change, whom should we expect to provide it, if not the wizards of Silicon Valley and other hubs of free-market innovation?

Gates himself is the first to acknowledge that the public perception is far from accurate. “The private sector knows how to build companies, evaluate the potential for success, and take the risks that lead to taking innovative ideas and bringing them to the world,” reads his coalition’s manifesto. “But in the current business environment, the risk-reward balance for early-stage investing in potentially transformative energy systems is unlikely to meet the market tests of traditional angel or VC investors.”

On its own, the free market will not develop new sources of energy fast enough. The payoff is still too uncertain. Just as in previous technological revolutions, rapid advances in clean energy will require the intervention of a courageous, entrepreneurial state, providing patient, long-term finance that shifts the private sector’s incentives. Governments must make bold policy choices that not only level the playing field, but also tilt it toward environmental sustainability. Then – and only then – will private financing follow. So far, however, austerity has prevented sufficient public financing. One hopes that the Paris agreement changes that.

As with the information technology revolution, advances in clean energy will require the involvement of both the public and the private sector. Because we do not yet know which innovations will be the most important in decarbonizing the economy, investment must be allocated to a wide array of choices. Long-term, patient finance must also be available to help companies minimize uncertainty and bridge the so-called “Valley of Death” between basic research and commercialization.

The BEC’s argument – that the “new model will be a public-private partnership between governments, research institutions, and investors” – shines a welcome spotlight on the relationship. Unfortunately, however, aside from Gates and his colleagues, there are few signs that the private sector can be counted on to lead the way.

The energy sector has become over-financialized; it is spending more on share buybacks than on research and development in low-carbon innovation. The energy giants ExxonMobil and General Electric are the first and tenth largest corporate buyers of their own shares. Meanwhile, according to the International Energy Agency, just 16% of investment in the US energy sector was spent on renewable or nuclear energy. Left to their own devices, oil companies seem to prefer extracting hydrocarbons from the deepest confines of the earth to channeling their profits into clean-energy alternatives.

Meanwhile, government R&D budgets have been declining in recent years – a trend driven partly by under-appreciation of the state’s role in fostering innovation and growth, and more recently by austerity in the wake of the 2008 financial crisis. Tight budgets are straining the agencies that could be driving path-breaking innovation. The US Defense Advanced Research Projects Agency (DARPA) was a catalyst for the IT revolution. By contrast, the Advanced Research Projects Agency-Energy (ARPA-E) has a 2015 budget of $280 million – barely a tenth of DARPA’s. In 1981, energy accounted for 11% of the total US public R&D budget. Today, it accounts for just 4%. Meanwhile, problematic demand-side policies are also in crisis, impeding the deployment of existing renewable-energy technologies.

The main public-sector bodies playing a leading role in promoting the diffusion of green-energy technologies are state development banks. Indeed, Germany’s KfW, the China Development Bank, the European Investment Bank, and Brazil’s BNDES are four of the top ten investors in renewable energy, amounting to 15% of total asset finance.

The public sector can – and should – do much more. For example, subsidies received by energy corporations could be made conditional on a greater percentage of profits being invested in low-carbon innovations. After all, it was this kind of condition – imposed on the US telephone company AT&T in the early twentieth century, in exchange for being allowed to retain its monopoly – that led to the creation of Bell Labs, a crucial incubator of innovation.

Similarly, while charitable donations by billionaires certainly should be welcomed, companies should also be made to pay a reasonable amount of taxes. After all, as the BEC’s manifesto points out, “current governmental funding levels for clean energy are simply insufficient to meet the challenges before us.” And yet, in the UK, for example, Facebook paid just £4,327 in tax in 2014, far less than many individual taxpayers.

The willingness of Gates and other business leaders to commit themselves and their money to the promotion of clean energy is admirable. The Paris deal is also good news. But they are not enough. If the low-carbon revolution is to be achieved, we will need both the public and private sectors to commit more fully to green innovation, from both the supply and demand sides.

Publication does not imply endorsement of views by the World Economic Forum.

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Author: Mariana Mazzucato is Professor of the Economics of Innovation at the Science Policy Research Unit of the University of Sussex.

Image: A wind turbine is seen near the village of Piansano, 90 km (60 miles) north of Rome. REUTERS/Max Rossi.