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The financial industry should prepare now for a “Carbon Correction”

David Craig
David Craig
CEO of Refinitiv

It feels like big business has woken up to the climate crisis with a start, and our number crunching suggests they are right to do so.

Over the last week or two some of the world’s biggest companies signaled that ‘business as usual’ must end. Microsoft’s bold pledge on Thursday was a big moment, but Blackrock’s announcement to put sustainability at the heart of its investment decisions could be a game changer. With more announcements inevitable next week at the World Economic Forum in Davos, momentum is building.

Climate change and sustainability seem to be the first thing I’m hearing in meetings with clients and other business leaders right now. So what’s behind this apparent change of tack? The first thing to say is that the concern in boardrooms feels absolutely genuine. The horrific images from Australia moved us all..

But leaders are also applying a rational, business-focused lens to this issue: not only will their consumers harshly judge companies on the wrong side of this debate, financial markets are increasingly punishing the laggards.

As-yet-unnoticed threat

The financial consequences are becoming clearer every day, but we think there’s another, as-yet-unnoticed threat that the climate crisis poses to both corporate balance sheets and the broader global economy. As you’d expect, at Refinitiv we’ve been pouring over the data and we think it’s a risk that could amount to as much as 13% of revenues for those companies with the greatest exposure.

Please bear with me while I try to explain. The world emitted roughly 55 giga-tonnes of carbon dioxide or CO2 equivalent last year. Yet only 20% of those emissions were taxed, and at a level (around $28 a tonne) that most economists and climate scientists say is too low to have enough impact on emissions. If a levy were applied to every one of those 55 giga-tonnes, then the tax take would shoot up from around $220 billion today to around $1.5 trillion. A ‘carbon gap’ of around $1.2 trillion might sound like a big number, but it’s fairly manageable at an individual corporate level (the additional cost for the average company would be around 1% of revenue).

However, increase the level of carbon taxes to $75 a tonne of CO2 (a level the IMF has said is needed to limit temperature increases to around two degrees) and companies in sectors including construction materials, utilities, metals and mining and airlines could face a major impact, based on our analysis of around 3,000 publicly-listed entities. Applied to all emissions globally, and the carbon gap yawns to almost $4 trillion*, or around 4% of world GDP.

Simply put, this is a cost that global businesses have not factored in. And they need to. The message from policymakers around the world is coming through loud and clear: “the world needs to tax carbon at a realistic level and we are increasingly likely to do just that, given the urgency of the crisis.”

Even if I’m wrong and policymakers fail to act decisively on this issue, business leaders need to weigh up the probability that they might act – and the cost that would entail. For the most exposed companies it could threaten their very existence.

So my advice to peers at Davos next week will be to act on this issue and get ahead of the curve. The “Carbon Correction” is coming. The only question is, how quickly.

Gain new insights for a new decade from Refinitiv at the 2020 World Economic Forum annual meeting.

* Our forecast carbon gap is based on the following: That global emissions of CO2 + CO2 equivalents were 55 giga-tonnes in 2019 (World Economic Forum, 2019). Today, the capitalization of the ‘priced’ market for CO2e (via ETS and tax schemes globally) comes in at $216 billion (based on forthcoming research from Point Carbon). This factors in the sum totals of every known jurisdiction globally with a structured ETS / tax scheme, leveraging their ‘price’ multiplied by the emissions they cover.  Due to there being no “set” cost for a tonne of CO2e (it ranges from $1-2 in some jurisdictions to $150+ in others), we have taken the most widely traded ‘price’ from the EU ETS (Emissions Trading Scheme), where the average traded price was $28/tonne in 2019 (Refinitiv Point Carbon data). Once we multiply by total global output (our 55Gt) this gives an estimated global ‘cost’ for CO2e of $1.4 trillion in 2019, which means, if the price rises to $75 then this global cost grows to >$4T, leaving the world with a ‘CARBON GAP’ of $3.9 trillion, (even before we start to factor in potential expansion in annual emissions over the coming years which could take this figure even higher if we fail to act).