Biden’s Climate Plan: Yes We Can, We Must!

8 April 2021

In the climate model I unveiled last year, I rated 90 countries’ vulnerability to climate change. The United States ranked a disappointing #20 (my blog “Climate Change: Who’s Preparing, Who’s Not” can found be on my website). President Biden intends to change that. Indeed, spending to mitigate the impact of rising global temperatures features heavily in his $2.25 trillion infrastructure plan. In addition to rejoining the Paris Climate Accord, the Biden Administration has set broad goals to eliminate carbon emissions in the energy sector by 2035, and to achieve carbon neutrality in 2050. In prioritising the climate issue, President Biden not only seeks to secure America’s future, but also to provide global political leadership prior to November’s COP-26 Summit in Glasgow.

On Earth Day April 22, President Biden is expected to provide additional details regarding his strategy. As climate change is likely to be the defining macro theme in coming decades, investors must consider whether America’s ambitions are realistic, and what must change to achieve them. Understanding the impact on specific sectors will help identify opportunities. What are the implications for America’s credit standing, US interest rates, and the dollar?

Playing Catch Up

The two Charts illustrate why American participation in the climate debate is so critical. The graph above indicates the USA is the world’s second largest carbon-emitting nation; having been rapidly passed by heavily-polluting China in the past decade. The USA’s carbon footprint is almost twice that of the European Union (ranked third). On a per capita basis, meanwhile, the USA is the G-10’s top polluter.

And, despite the need for sharp reductions in global Green House Gases (GHG), US emissions actually have risen 2% since 1990 (Chart below). At the same time, EU GHGs have declined nearly 30% (UK down 33%). More recently, America’s performance has improved. However, the 10% decline in CO2 levels since 2005 still lags the 22% drop in the European Union.

Roadmap to Cutting Emissions

The Chart above illustrates that GHG growth is driven primarily by three factors: GDP growth (and energy usage), the efficiency of energy use (energy/GDP), and the amount of carbon in the energy used (CO2/Energy). As 2020’s experience indicates, weak economic activity will lead to lower CO2 emissions, but this is not a desirable path. But, let’s dispel the myth that reducing GHGs will have large, adverse economic consequences. The Chart above illustrates as US GHGs declined 10% since 2005, US GDP expanded nearly 30%.

Encouragingly, US energy efficiency has improved nearly 50% since 1990. Likewise, the carbon intensity of US energy usage declined 10% during the interval, primarily since 2005 (more on this in the next section). Nevertheless, even these inprovements have been insufficient to prevent higher emissions during the past 30 years.

However, don’t be discouraged. The Chart above illustrates despite recent improvements, US energy efficiency is the second worst among G7 nations. Therefore, there’s still huge scope for the USA to make additional progress. For example, the composition of the UK economy is quite similar to the USA. However, the UK uses roughly half the amount of energy per unit of output! Likewise, despite declining lately, American carbon intensity remains unenviably high. France, for instance, emits 40% less carbon per unit of energy consumed. Again, lots of clear pathways for improving performance.

Electricity: Bringing Power to the People!

Electricity generation accounts for 27% of American GHGs. And, as the demand for power is expected to soar in coming decades, developments in this sector will be critical to achieving US climate ambitions. Fortunately, there is much encouraging news — e.g., the sector’s CO2 emissions have declined 12% since 1990 and by an even more remarkable 33% since 2005 — largely reflecting the replacement of coal with natural gas.

To be sure, natural gas is cleaner than coal. However, as a fossil fuel, the consumption of natural gas still emits considerable carbon, and its production, transportantion and storage creates damaging amounts of methane. In the previous section, we discovered that US energy intensity remains more than 15% higher than in the European Union. The reason for the gap is that fossil fuels account for 38% of Europe’s electricity generation compared to 64% in the USA. On the other hand, the EU’s usage of renewable energy is twice America’s: 24% versus 11% (Europe also uses more nuclear and hydro power). Electricity generation from wind and solar already exceeds 35% in Germany and the UK, and European nations all aspire to even greater utilisation.

The first key conclusions: To satisfy surging electricity demand in a sustainable manner, changing America’s mix of energy sources is vital — even more important than improving energy efficiency. Consequently, the share of US electricity generated by wind, solar and nuclear sources will double by 2050. Wind and solar will rise 4-fold. Coal usage will virtually disappear (as has already occurred in the United Kingdom). While petroleum is not used widely to generate electricity, oil’s share in America’s overall energy mix will decline by 50% by 2050.

Structural Change: Identifying Sectoral Opportunities

Analysis of emissions trends within sectors helps identify winners and losers as the anticipated dramatic structural changes occur in the US economy. The Chart above shows the emissions shares by sector after reallocating electricity usage to the individual economic segments. The following Chart focuses specifically on the 2005-2019 period, during which US GHGs declined 10%, and splits each sector’s emissions between those generated by electricity and non-electricity usage. Even during this more favourable period, emissions outside the electricity sector did not decline.

Transportation: EVs are a Home Run

Transportation represents 30% of overall US CO2 emissions, the most polluting sector. And, the Chart above illustrates the sector’s GHGs continue to rise — up 25% since 1990 — reflecting Americans’ insatiable demand to hit the road. The following Chart details sectoral emissions by mode of transport: cars 41%, Light-duty trucks 17%, Freight trucks 23%, air 10%, rail 2%, pipelines 3%.

As the most polluting sector with seemingly insatiable demand, generating rising (not declining) emissions, and dominated by road vehicles, something has to give. Indeed, the rise in emissions takes place despite a meaningful improvement in energy efficiency (Chart below). Clearly, the answer lies in lowering the sector’s CO2 intensity by shifting the energy mix from petroleum to electricity generated by renewables. In other words, without doubt, Electric Vehicles are the future, especially as the cost of batteries and solar and wind power continues to decline. No wonder, President Biden is providing enormous resources into EV-charging infrastructure.

In long-haul trucking, aircrafts, and shipping, hydrogen may have a large role to play (as will design alterations in ships, trucks, and aircraft to improve fuel efficiency). If international shipping were a separate country, it would be the 7th largest polluter. These sub-sectors appear commited to change, but carbon pricing might also be part of the answer.

Manufacturing: Innovation Drives Change

Industry also represent 30% of US emissions; and, fortunately, the earlier Chart illustrates the sector’s GHG share has been declining consistently during the past 30 years. Indeed, the absolute level of GHGs has declined 16% since 1990 (compared to the nation’s overall rise of 2%). In part, of course, this simply reflects manufacturing’s diminishing role in the US economy during the period. And, the sector’s emissions related to its electricity consumption shrank 34% during the interval. However, reflecting energy-saving initiatives, manufacturing’s non-electricity related emissions declined 10% as well.

However, this is no time to relax! Indeed, non-electricity-related emissions have been rising again since 2016, perhaps reflecting the Trump administration’s environmental complacency (Chart above). The sector will continue to benefit from the electricity sector’s shift towards renewables. But, as the Chart illustrates that non-electric emissions dominate in this sector, I believe energy-saving technological innovation holds the key to emissions control in the manufacturing. Sharp emissions declines already have occurred in the iron, steel, and mining segments. But, more progress is required in these difficult-to-mitigate areas, along with cement, chemicals, etc. I am not sure the economics support carbon capture technologies yet (subsidies might be required). Again, carbon pricing might be necessary to encourage change.

Building a Clean Future: Residential and Commercial Sectors

After redistributing the electricity sector’s emissions, the commercial and residential segments account for 30% of US GHGs. Electricity represents roughly 60% of both sectors’ carbon emissions, and they will benefit from greener utilities. However, non-electric emissions — largely heating and cooking –are still rising is in both sectors. There is considerable scope to lower emissions — both in new buildings and retrofitting — through electrification of residential/commercial heating, insulation, and improvements in air conditioning/ventilation. Trane (TT is a good example).

Agriculture: Get Smart, Stay Healthy

To be sure, continued supply of food from America’s vast agicultural sector would help limit vulnerability during a climatic emergency. However, the sector also accounts for 10% of US GHG emissions, largely methane. And, the Chart illustrates the sector’s CO2 emissions have been rising steadily since 1990. Roughly 50% of the segment’s emissions emanate from soil and water management. “Smart” or “precision” technological innovations must aim at boosting agricultural efficiency and production (necessary to meet growing global food demand), while reducing emissions. Amongst the large players, Deere (DE) is providing leadership in this area. Meanwhile, if cows were a country, they would be the 5th most polluting nation (accounting for 2.5% of US GHGs)! I anticipate reduced beef and dairy consumption in the years ahead.

Waste Not, Want Not!

Emissions emanating from waste management (primarily landfills) account for roughly 2% of US GHGs (largely methane). Recyling, which already reduces annual emissions by about 1%, has a larger role to play.

Strategic Considerations

  • The United States has irreversibly turned the corner on climate change. American’s flexible markets and institutions, relatively favourable demographics, and adaptable health care system will help the nation respond to the challenges.
  • As the United States demonstrates it commitment to the issue, American political leadership will be critical to encouraging (coercing) needed changes in other heavily-polluting countries, e.g. China, Russia, India, Japan, etc.
  • The pathway to carbon neutrality will not be detrimental to US GDP growth, as Europe’s experience has shown.
  • Climate vulnerability may be a headwind for the US dollar, especially relative to greener EU nations.
  • Environmental factors should be reflected in sovereign risk assessments and credit spreads. The premium now offered on US bonds (e.g. relative to Europe) may already compensate for America’s relative vulnerability.
  • Improvements in US carbon intensity must be top priority. The share of renewables will double (wind and solar will increase 4-fold). Coal usage will virtually disappear by 2050. While the amount of natural gas will remain sizeable, it’s share of energy usage will decline. Oil usage will decline 50%.
  • Electric Vehicles are the future. Dramatic changes in the rest of the transportation will also occur.
  • Energy-saving technological changes in the manufacturing sector will be critical, including the electrification of industrial processes. Carbon pricing may be required to encourage change in difficult-to-mitigate sectors.
  • Electrification and improved energy effieciency will be needed to curb emissions in residential and commercial buildings.
  • In order to meet rising global food demand, precision technology will boost productivity while reducing emissions in the agricultural sector.