When the climate debate was in its relative infancy in the late 1990s, two approaches were put forward to mitigate emissions growth and address climate change – a market approach and a technology approach. The consensus was for a market-led approach. Today, as the global consensus builds in favour of a new green economy to enable a secure and sustainable future, and with the ‘failures’ of the free market evident in the near collapse of the banking sector and the continuing economic downturn, the consensus is increasingly in favour of technology.
Of course, technology and markets are not mutually exclusive. Indeed it was the Industrial Revolution in the late eighteenth century that began the era of per-capita economic growth in the capitalist economies and fuelled the notion of free market enterprise. And once the modern capitalist economy had been formed an evolutionary process replaced the revolutionary growth of technology, with its speed dictated largely by economic needs.
But while industrial technology has evolved slowly, communication technology has undergone a revolution in the past twenty years. The advent of the internet has radically changed the business process and, in tandem with advances in financial engineering, has further fuelled the growth of the capitalist economy. Nowhere is this more starkly evident than in the energy market, which has rapidly evolved from a physical to financial market where risk management is perceived to be one of the most important business functions.
Historically, the main energy risks that need to be managed are price, credit and volume, but as the market moves toward its green nirvana there will be a new energy risk to address – technology. For if governments are to be successful in meeting their long-term emission reduction targets the new low-carbon and renewable energy technologies currently being researched and developed will have to be proven, both technically and economically.
Consider the example of carbon capture and storage (CCS) technology. Last month, UK energy and climate change secretary Ed Miliband announced that all new coal-fired build would require CCS to be fitted to about a quarter of the new plant from when it comes online, with all new coal-fired plants being required to have CCS technology fully fitted within five years of the technology being proven.
The UK government has developed its CCS plans on the basis that the technology will be technically and economically proven by 2020, which means that all new coal-fired plant will have to be fully fitted with CCS by 2025. But what if the technology misses the 2020 ‘proven’ deadline? This is a justifiable concern among utilities that are planning new coal-fired capacity. As one utility executive commented: ‘If you are going to spend billions of pounds building a new power station which could be online in 2015 – if you are only going to get ten years out of it, it's not going to be worth it.’
CCS technology not only presents a major financial risk for those companies investing in new coal-fired capacity, it also presents a potential security risk if upwards of 6 GW of new UK coal-fired capacity has to be taken offline in 2025 if the technology has not been proven. Clearly this risk has to be managed, but how?
Managing technology risk is not as straightforward as managing price, credit or volume risks. As the renowned management consultant Peter Drucker once observed: ‘If you can't measure it, you can't manage it.’ And the problem with technology is that it cannot be compartmentalised as it transcends the overall business, and in the new green market the low carbon and renewable technologies will be the backbone of the energy business.
Instead of managing technology risk a company has to manage the impact of the technology on the other risks faced, ie price, credit, volume etc. And only by understanding the role that technology plays in enabling core business operations can a framework be established for understanding where the relevant technology risks lie.
Arguably the current greatest risk impact of technology is in the credit market. Amid the global economic downturn utilities have argued that governments have to assume part or all of the financial risks involved in developing unproven new energy technologies.
With utilities loath to take a financial punt on CCS, but happy to ‘blackmail’ governments into supporting clean fossil fuel plants by pointing out that supply security will be impaired without the guaranteed baseload
provided by coal and gas-fired generation, governments have coughed up funding for the new technology. And wind power is another example where investment is increasingly conditional on government support, with last month’s announcement that the London Array offshore wind project would finally proceed due only to the government increasing the subsidisation of offshore wind projects, through a higher Renewable Obligation banding, following lobbying by the project’s partners.
By pushing for increased government funding in the new green energy market infrastructure, utilities could argue they are covering their technology-induced incremental risks by using the government as the risk management counterparty. But while this may appear a sound short-term strategy that hedges financial risks, it potentially undermines the longer-term standing of the free market utility sector.
Governments believe the economic downturn has been largely fostered through free market greed and some have used this view to promote the need for increased government interventionism to right these wrongs and to prepare for a more robust and sustainable economic platform that will underpin future GDP growth. And by inviting governments to take a greater financial interest in the new energy market infrastructure the utility sector risks conceding the initiative in how the future energy market should develop, which would arguably be detrimental to the market’s long-term health and prosperity.
There is little doubt that the path toward the new green economy will test the relationship between technology and markets, but ultimately it is the markets that have to take the lead and dictate the pace and extent of the technology evolution. There is no need for another technological revolution to realise the future green economy, and the role of the markets must not be subordinated by technological idealism or government interventionism.
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