The Problem of Stranded Assets in Emerging Economies

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By Johannes Urpelainen

 

Eurasia Group’s Ian Bremmer once defined an emerging economy as a country in which “politics matters as much as economics”. These countries are pivotal to mitigating climate change, but understanding and shaping their energy decisions is difficult because the conventional rules of a competitive marketplace do not apply. The growing interest in stranded assets, such as coal-fired power plants that might not be able to operate in a low-carbon future, illustrates this problem.

 

Emerging Economies and Climate Change

 

Today, these countries are crucial to dealing with the problem of climate change. Energy demand continues to grow in non-OECD countries. If most of that demand is met with fossil fuels, we have little hope of bending the global curve of greenhouse gas emissions. The International Energy Agency estimates, for example, that India’s energy demand will more than double by 2040.

 

A major difficulty in understanding the politics of climate change in emerging economies is their heavy reliance on state-owned companies in the energy sector. From the power sector to oil and gas, emerging economies tend to have far higher levels of state intervention. Conventional approaches to investment decisions in a competitive market simply don’t apply in these conditions.

 

Stranded Assets in Emerging Economies

 

A good example of this difficulty is the growing emphasis on stranded assets, that is, investments that may stop producing returns in a changing future. In the climate debate, the most commonly cited example is coal-fired power plants that might have to stop running before their technical lifespan ends because of environmental policies.

 

In a competitive energy market, stranded assets are a problem of uncertainty. Investors may choose not to invest billions in coal-fired power plants if they worry that a future carbon tax makes these plants non-competitive. This idea brings hope to climate advocates, as it may bring a rapid sustainable energy transition when investors and financiers see the writing on the wall.

 

In a competitive market, investors would consider different reasons why the plant might be stranded. These could be environmental policy or advances in clean technology. Indeed, new work by the Carbon Tracker estimates that 96% of existing coal could not compete with new wind and solar by 2030.

 

(Here I deliberately refuse to go down the rabbit hole of commenting on the great difficulty of comparing the cost of dispatchable coal-fired power generation to intermittent wind and solar power.)

 

But how would stranded assets shape energy investments in emerging economies? When energy investments are made by politicians who consider a wide range of motivations, the possibility of stranding does not necessarily translate into caution. Consider these motivations:

 

  • Project developers, motivated by greed, will continue to lobby for government investments and promise electoral support in exchange.
  • Managers of state-owned energy companies demand protection from entrants with new technologies.
  • Politicians from districts with coal mining insist on new power plants to shore up demand and fight against new environmental regulations.

 

Such considerations are to a certain extent relevant in all countries, but they are particularly important when state-owned enterprises play a key role in the energy sector. Under state ownership, investment decisions simply cannot be disentangled from politics. While lobbying plays a role in market economies too, it is a far less potent instrument when key decisions are controlled by shareholders.

 

The Need for a New Approach

 

Consider the importance of stranded assets as a driver of a turbocharged energy transition. Consider the central role that state-owned energy enterprises play in China, India, and other emerging markets.

 

Taken together, these two facts highlight the need for a new approach. Sustainable finance experts should stop hammering decisionmakers with the run-of-the-mill stranded assets argument.

 

Instead, they should study decisionmaking in emerging economies’ highly politicized energy sectors. They should identify the real drivers of investment decisions, inform policymakers of how the problem of stranded assets manifests itself to state-owned energy companies, and develop solutions tailored to the emerging market context.

 

 

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Johannes Urpelainen is the Prince Sultan bin Abdulaziz Professor and Director of Energy, Resources and Environment at the Johns Hopkins School of Advanced International Studies. He is also the Founding Director of the Initiative for Sustainable Energy Policy (ISEP).