Why aren't we investing enough in low-carbon technologies?

The Paris Agreement goal to limit global warming to less than 2°C at the end of the 21st Century demands that we sharply reduce global greenhouse gas emissions, reaching near zero in less than 100 years. Achieving this long-term decarbonisation while sustaining economic growth requires massive investment in innovation across existing and potential low-carbon technologies. So why is activity slowing down just when we need it most?

We can measure the pace and progress of low-carbon innovation by looking at global patenting activity in related technologies. Growth here could reflect general growth of patenting in all technologies, and so the chart below indicates low-carbon inventions as a share of inventions in all technology areas.

We can see rapid growth in the number of green patents filed over the last 30 years and particularly since 2005. Between 2000 and 2013, the number of new climate-mitigation inventions patented globally grew at an annual rate of almost 10%, more than double the rate of innovation in all technologies. However, low-carbon innovation efforts have started to slow since 2013.

One of the main drivers of low-carbon innovation is the price of energy. It is clear from our chart above that innovation efforts in low-carbon technologies go hand-in-hand with the price of oil, which is strongly correlated with the price of coal and gas, the two other major fossil fuels. Correlation, of course, is not necessarily causation, but there is ample evidence that inventors react to higher energy prices by developing energy-saving (and hence carbon-saving) technologies.

We suspect, therefore, that the recent decline in low-carbon innovation is a direct consequence of the collapse in oil prices from $110 a barrel in August 2013 to $51 this month, which makes the value of future energy savings smaller.

Low-carbon innovation also responds to the price that carbon emitters pay on their carbon emissions. When carbon can be emitted without cost – despite the damage created through increased climate change – companies and consumers lack incentives to invest in emissions‐reducing technologies. Without appropriate policy interventions, the market for technologies that reduce emissions will then be limited.

By making carbon emissions costly, climate policies such as carbon taxes or emissions allowances encourage the development of new low-carbon technologies. Research and development is motivated by profit, after all.

A recent paper demonstrates this very clearly. The European Union carbon market (EU ETS) obliges 12,000 industrial facilities to purchase allowances to cover carbon emissions. The chart below shows how this has increased innovation activity in low-carbon technologies among regulated companies. The chart plots the low-carbon patenting activity of firms regulated under the EU ETS against that of a carefully selected control group of unregulated but similar firms.

Both groups showed similar innovation activity before the introduction of the EU ETS, but companies facing a price on their carbon emissions from 2005 reacted by filing 30% more patents in low-carbon technologies, particularly in renewable energy, energy storage, energy efficiency and carbon sequestration.

Interestingly, the effect on innovation occurred when the price of carbon on the market was about €30/tonne CO2 and when firms expected prices to remain at a high level in the foreseeable future. Since expectations over future prices are what determine innovation, long-term regulatory consistency is crucial. Recent evidence suggests that up to 90% of the recent fall in EU ETS carbon prices to about €6 a tonne could be explained by the uncertainty about the level of ambition around long-term climate targets.

So a sufficiently high and stable carbon price encourages the development of low-carbon technologies. However, recent analysis by the OECD shows that the price of carbon emissions globally is still extremely low. Among the 41 OECD and G20 countries surveyed (accounting for 80% of all energy use and carbon emissions worldwide), some 70% of emissions are not priced at all and only 4% are subject to a carbon price above €30, a conservative estimate of the damage that results from emitting one tonne of carbon dioxide.

A consequence of our analysis is that higher and more stable carbon prices than observed today are a necessary condition to restart the low-carbon innovation machine. This is particularly important given that the other major driver of low-carbon technology development – the price of fossil fuels – is both at a historical low and volatile. Agreeing on a single internationally binding minimum carbon price, or establishing a price band for CO2 emission rights in existing carbon markets would offer the kind of stability that innovators are currently lacking.

As with all innovation, it is usually impossible for inventors of low-carbon products to capture all the benefits of their innovations. Smartphone makers were all able to copy Apple’s iPhone idea even if they couldn’t copy the device itself. This low appropriation of the returns from innovation leads to under-investment in R&D. This is particularly the case in clean technologies.

Overcoming this requires innovation policies such as public funding for basic research, subsidies for private R&D, better access to finance, funding for demonstration projects, technology accelerators and incubators, and support for commercial deployment of early-stage technologies, for example feed-in tariffs that subsidise electricity produced from renewables.

During the Paris talks, 20 countries from across the developed and developing world promised to double their clean energy R&D investment over five years. This is welcome, and now needs to materialise.

However, technology support policies on their own are irrelevant. If no carbon pricing is in place to create a market demand for things like carbon capture and storage (CCS), then no R&D will be conducted even with large subsidies in place. In 2009 the European Commission implemented a programme which dedicated €1 billion to co-finance projectsin CCS, but all publicly supported projects have since been abandoned because of the low carbon price on the market.

Meeting the commitment made in the Paris Agreement will require all countries to adopt low-carbon alternative technologies in all their sectors. Greater public funding for low-carbon R&D and higher and stable carbon pricing mechanisms are essential to achieve this. With all eyes now on COP22, it is to be hoped that events in Marrakesh can offer a greater commitment to low-carbon innovation as a central part of the way forward.

This article was first published by The Conversation.