Investors who have significant money tied up in the fossil fuel industry -- every pension and market fund, essentially -- are facing a massive risk. The logic, according to the International Energy Agency (IEA) and banks like HSBC, is this: as the world migrates away from carbon-based fuels, trillions of barrels of oil and billions of tons of coal -- the assets sitting on the books of energy companies -- will become "stranded," or worthless.
It's a compelling argument, but only if we can answer a key question: How exactly will those assets become stranded? That is, what will prompt a fast enough migration from fossil fuels to cause their value to plummet? I see a few plausible paths: government regulation, straight economics (when cleaner energy crowds out fossil fuel investment because the returns are better), or a social movement that propels voluntary action. Let's quickly look at each.
1. The Stick: Regulation
The organizations talking about stranded assets seem to assume that governments will price carbon at some point. As a recent report on the subject from the NGO Ceres said, "According to the IEA, more than two-thirds of the world's proven reserves of fossil fuels will be unusable prior to 2050 if necessary carbon regulations are enacted [emphasis added]."
That's a mighty big "if." While some regions are experimenting with carbon taxes, and Clean Air Act regulations in the U.S. are making coal plants more expensive, regulation is not truly impeding global fossil fuel use.
Ultimately, the political will for fundamental change is lacking. In the State of the Union speech last Tuesday, President Obama said that climate change was a fact and touted the growth of solar energy in America. But he also bragged about increased production of natural gas and oil. Very few politicians will take on those powerful lobbies, so a price on carbon is likely a fantasy in the U.S. for now. And partly because of America's intransigence, 19 years of global negotiations on binding limits on carbon have led nearly nowhere.
2. The Carrot: Money
On this path, we choose renewables because they're cheaper, which is far more plausible every day. In significant swaths of the world, wind or solar power is more than competitive with fossil fuels. About half of the new energy capacity put on the grid globally is now renewables, and the picture going forward is even better. Bloomberg New Energy Finance has estimated that between now and 2030, around 70% of the power generation the world will add will be renewables.
This level of investment is happening because the economics work. But it doesn't mean we'll be stranding many assets any time soon - the installed base of carbon-based energy systems is really large. Renewable energy does provide 21% of electricity globally, but modern renewables (like solar and wind, not hydro), which would really displace coal and natural gas, only provide 5%. Renewables are a long way from dominating electricity enough to make fossil fuel energy a bad investment.
And when you look at mobile energy use (that is, cars), the story is even clearer. To strand oil assets, we'd need to drive mostly electric vehicles or use a lot more public transportation. And while the new electrified vehicles market is growing fast, it'll be many years until those technologies dominate.
3. The Guilt or Enlightenment: Moral Suasion
We could, in theory, see a vast voluntary movement toward clean energy by companies and individuals -- even faster than what they're purchasing already where the economics do work. But it is tough for public companies in particular to spend money when they think it doesn't pay back in traditional ROI terms.
That said, organizations could recognize that the additional benefits from a larger, quicker move to onsite renewables -- including having a hedge on fuel prices, inspiring employees and customers, and building resilience to extreme weather and grid outages -- adds up to real value, even if it's hard to measure. Companies and consumers could also decide it's cool to use clean power. The Toyota Prius sold millions of units not because it saved money on fuel, but because of what detractors noticed was a certain smugness or pride in driving it (I'm guilty as charged).
We could also see moral pressure to move away from fossil fuels. The growing divestment movement, led by the NGO 350.org, is an attempt to make investing in fossil fuel companies morally equivalent to investing in South Africa during the anti-apartheid movement. The next generation -- the students leading the campaign now -- may never work for or buy from the old energy industry.
But moral campaigns are highly unpredictable and we can't count on this path to get us there.
Ultimately, the second path is clearly the most likely, and the clean economy will dominate over time on purely economic terms -- a variable cost of basically zero for renewable energy will win out. But will it be fast enough to turn fossil fuels into stranded assets any time soon? I doubt it, since companies and countries aren't even doing all the clean energy projects that pay back quickly, or don't require any money down. It's not just about economics.
That's why we need all of these efforts to work in conjunction -- movement on any one of them will give momentum and credibility to the others. The social and government pressures will accelerate investment and thus improve the economics. And in return, if companies start buying a lot more renewable energy, they will help build the market, improve the economics, and give cover to politicians to take action.
In short, all three paths are valid and tough, but together, they should do the trick. They'd better.
(This post first appeared on the Harvard Business Review blog network.)
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