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July 28, 2011
Is the Carbon Bubble About to Burst?
    by Robert Kropp

The Carbon Tracker Initiative finds that if global warming is to be contained, 80% of fossil fuels must remain unburned, leaving asset owners with holdings in the fossil fuels industries at risk.

Lost in the hue and cry of the ongoing "debt crisis" argument here in the US is any hint of awareness that the planet is hurtling toward environmental catastrophe, and that far to little is being done to address it. An article posted yesterday on described a report in which the Economics for Equity and the Environment Network (E3) sought to determine an accurate social cost of carbon (SCC).

The estimates of SCC arrived at by the US government, the report found, were in all likelihood far too low.

Another recently issued report, by the Carbon Tracker Initiative, seeks to determine the economic consequences if meaningful action on climate change is not undertaken; that is, if global warming is allowed to exceed two degrees Celsius.

The report, entitled Unburnable Carbon – Are the world's financial markets carrying a carbon bubble?, cites research concluding "that to reduce the chance of exceeding 2°C warming to 20%, the global carbon budget for 2000-2050 is 886 GtCO2." In the first decade alone, the world has already used more than one-third of its carbon budget for the half-century in question. As a result, 565GtCO2 are left for the next 40 years. At the current rate, the entire carbon budget will have been used up within 16 years.

The proven reserves on the books of public and private coal, oil, and gas companies, as well as those owned by governments, is equivalent to 2,795 GtCO2 of emissions, only 20% of which can be burned to stay within the parameters. The top 100 listed coal, and top 100 listed oil and gas companies, alone represent total emissions of 745GtCO2. As the report points out, "This means that governments and global markets are currently treating as assets, reserves equivalent to nearly 5 times the carbon budget for the next 40 years."

Overall, the report argues, quoting the United Nations Environment Program (UNEP), global financial markets suffer from a "gross misallocation of capital."

"During the last two decades," UNEP states, "Much capital was poured into property, fossil fuels and structured financial assets with embedded derivatives, but relatively little in comparison was invested in renewable energy, energy efficiency, public transportation, sustainable agriculture, ecosystem and biodiversity protection, and land and water conservation."

Furthermore, UNEP argued in its 2010 report, the misallocation of capital has been abetted by policies and incentives that fail to account for social and environmental externalities. "Unfettered markets are not meant to solve social problems," UNEP pointedly states, quoting the microfinance pioneer Muhammad Yunus.

What are the consequences for investors of what Unburnable Carbon describes as the "potential systemic risks to financial markets of the increased exposure to climate change risk"? The report states, "In the same way that universal owners held Lehman Brothers and HBOS to their collapse, asset owners cannot accept that a problem exists until the carbon bubble bursts."

"Active shareholders need to push harder for actions which would reflect their long-term ownership position" in order to avoid serious shortfalls in payouts to beneficiaries of pension funds, for example, the report advises.

Many of the report's recommendations address the actions of regulators, which, it argues, have not been "adequate to send the required signals to shift capital towards a low carbon economy at the speed or scale required." Regulators should require that companies in the fossil fuel industries report reserves and potential CO2 emission and ensure that stability measures are in place to prevent the bursting of the carbon bubble.

As the report states, "The missing element in creating a low carbon future is a financial system which will enable that to happen."

The aforementioned report from E3 concluded that "it is unequivocally less expensive to reduce greenhouse gas emissions than to suffer climate damages…it is worth doing everything we can to reduce emissions."

Taken together, the two reports deliver urgent calls for an immediate shift in economic priorities. A meaningful price on carbon, and a shift in investment from fossil fuels to renewable technologies, must occur immediately if climate change—as well as another financial collapse—is to be averted.


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