Taking stock: What does greater climate ambition mean for refiners and other hard-to-abate sectors?
COP28 marked the first global stocktake of climate action towards the goals of the Paris Agreement. Results send a warning.
By David Hone, Chief Climate Change Advisor, Shell, on behalf of Shell Catalysts & Technologies
May 14, 2024
COP28 marked the first global stocktake (GST) of climate action towards the goals of the Paris Agreement. The results send a warning: if countries do not step up their climate ambition, the world will almost certainly miss Paris targets. But what does more ambition look like, and what does it mean for refining and other hard-to-abate industries?
In December 2015, 196 countries signed the Paris Agreement, a global commitment to limit the increase of global average temperature to well below 2°C and pursue efforts to limit warming to 1.5°C above pre-industrial levels. This was just over eight years ago, so how have we done so far? The short answer: the world is off course from where it needs to be.
To stay on a pathway compatible with 1.5°C, the IPCC 6th Assessment Report set a carbon budget of 500 GtCO2. But, approaching mid-2024 and with no drop in global emissions, that budget may have shrunk to 275 GtCO2, or less than seven years of CO2 emissions, which were about 41 Gt in 2023.1 Such is the task in front of us, CO2 emissions would need to halve globally by 2030 and reach net zero by 2045 to stay within 320 Gt.
However, emission reductions covered by existing nationally determined contributions (NDC) and agreed commitments at COP28 will achieve less than half of what is needed. In fact, even if all current commitments are implemented and achieved, the world will end up 12 GtCO2 short of its 2030 target2 – this is approximately equivalent to the CO2 emissions of China.
Climate change is already here
Slow implementation of climate policies around the world may already be having an impact, with recent reports announcing that average global temperatures – though elevated slightly by El Niño – have, for the first time, broken through the 1.5°C threshold over a 12-month period.3
Crucially, although this does not constitute a breach of the Paris Agreement – as global temperatures will almost certainly slip below 1.5°C levels for several years once El Niño conditions have subsided – it will likely send a clear signal to countries that bolder and more co-ordinated action is needed.
Much of this action will need to target hard-to-abate industries, such as refining, petrochemicals, cement, steel and power generation, which collectively account for about 63% of total global CO2 emissions.4 As such, there are key questions to ask: should COP28 and the GST change the way heavy industry views the future? How could bigger and bolder climate policies impact operations and competitiveness? And what can be done to build long-term resilience against climate-related risks?
Ramping up national ambition
The outcome of the GST demonstrates in no uncertain terms that countries are not doing enough to reduce greenhouse gas (GHG) emissions. With the global temperature increase already straddling the 1.5°C threshold, nations must significantly ramp up climate action to meet the long-term goals of the Paris Agreement.
The next round of NDC submissions at COP30, in 2025, will be the first test of how ambitious countries are willing to be. With just five more formal rounds of submissions before 2050, the next set of commitments cannot be a continuation of what has gone before. Instead, they need to be bold and progressive, and set the foundation for transformative change over the next 25 years and beyond.
NDCs and the Global Stocktake
Nationally determined contributions. NDCs show how each country intends to contribute to meeting the goals of the Paris Agreement. New or updated NDCs are submitted every five years with the next submissions at COP30, in 2025.
The global stocktake. The GST assesses global action towards the goals of the Paris Agreement, to reveal where collective action is making progress, and where it is falling short. First undertaken in 2023, the GST will be performed every five years and will inform each following round of NDC submissions.
Aligning national policy with NDCs
To maximise chances of success, new or improved commitments should be ingrained into national policy and reflect key targets of COP28, including transitioning away from fossil fuels by 2050, tripling global renewable energy capacity and doubling the rate of energy efficiency improvements by 2030.
Policy-backed action is already evident in many countries and regions. For example, emission trading systems (ETS) – financial mechanisms that put a price on GHG emissions using cap and trade – have proved an effective way to incentivise industrial operators to reduce GHG emissions. Crucially, as emission allowances progressively shrink, companies will have less and less margin to emit GHGs before incurring hefty financial penalties.
There are several national and regional ETSs currently in operation, including in the EU and UK, China (currently the largest ETS in the world based on covered emissions), South Korea, New Zealand and Mexico. Although the USA lacks a national ETS, it has several state-wide systems in California, Oregon and Washington, and the Regional Greenhouse Gas Initiative, which covers a large part of north-eastern USA. Additionally, new ETSs are being piloted in countries such as Turkey and Vietnam, with others under consideration by countries including India, Brazil, Chile and Japan.
A carbon border adjustment mechanism (CBAM), such as that recently established by the EU, is another financial mechanism aimed at reducing “carbon leakage” – the offshoring of carbon-intensive operations and the importing of goods with higher carbon footprints from countries with less stringent climate policies.
By putting a price on carbon imports, CBAM ensures that domestic production of goods, such as iron, steel, cement and refined petroleum products, is not disadvantaged by cheaper, more carbon-intensive products shipped from countries with less stringent climate policies. Following the EU, the UK aims to implement its own CBAM by 2027, and the USA is considering a range of potential policies to tariff the carbon intensity of imported goods.
What does this mean for hard-to-abate industries?
The adoption of increasingly stringent climate policy over the next couple of decades is the only way that countries can hit the heights of climate ambition needed to meet the goals of the Paris Agreement. However, the speed and scale of changes may catch some companies off-guard, leaving them vulnerable to financial and reputational risks.
For example, heavy emitters might face new or stricter emission regulations and caps (such as ETSs), environmental taxes and penalties or litigation for noncompliance. Additionally, companies will likely have to navigate more complex and thorough emissions accounting and reporting procedures.
Companies seen as not aligning with net zero may have to pay a higher cost for capital and finance (non-aligned companies are increasingly viewed as higher risk for long-term investments), and current assets and future investments risk becoming stranded assets if they cannot be brought to net zero. Additionally, from a market perspective, CBAMs and other carbon-related trade policies have the potential to shut some companies out of international markets if the cost of embodied carbon proves too much for importers.
And then there is the potential for reputational damage and loss of social licence. Companies slow or unwilling to adapt may be subject to, for example, negative media campaigns, social protests or customer boycotts. Having a poor environmental reputation can also lead to less favourable treatment by host governments if operations are perceived to undermine government policy and commitments.
How can industry keep pace?
The world’s journey to net zero will only accelerate from here, so it is vital that operators in hard-to-abate sectors keep pace with policy and market changes. So, what can companies do to avoid being caught out?
Engage with regulators
Companies could consider engaging directly with host governments on a regular basis to understand how they are interpreting COP28 commitments and the GST, and what the potential policy implications might be. By working with governments, companies can contribute to the development of fit-for-purpose policies that align with NDCs and can support hard-to-abate sectors throughout the energy transition.
Particularly important will be policies that help create sustainable business models for key abatement technologies, such as carbon capture and storage (CCS), and the removal of CO2 from the atmosphere through mechanisms such as direct air capture (DAC) technology. A core element of such business models will be a vibrant international carbon-removal trading market.
Revisit investment plans
New assets will have a carbon impact, so all companies might want to revisit investment plans and assess whether planned projects align with the host country’s or company’s own carbon budget. CO2 budgets will only decrease as the COP process continues, so it is vital that existing and planned projects are capable of reaching net zero to avoid the risk of impaired assets.
DeCarb Masterplanning
Effective decarbonisation requires a well-considered strategy that takes into account different technology and business model solutions in addition to the market and regulatory context of each business. By undertaking techno-economic analyses, services such as Shell’s DeCarb Masterplanning can help companies evaluate and identify technically and financially viable solution pathways through the energy transition.
The direction is set
The world is significantly behind where it needs to be if the goals of the Paris Agreement are to be met; however, the direction is set and what needs to be done is clear. How quickly net zero is reached depends on the level of ambition and the pace at which commitments can be implemented.
Crucially, how different countries interpret the GST and COP28 commitments will have important implications for refiners and other hard-to-abate sectors. Stricter environmental policy, including enhanced emissions regulations, may catch some operators by surprise – but this does not have to be the case.
Engaging with governments and regulators can shed light on the policy path ahead and enable operators to develop proactive strategies that can adapt to increasingly strict regulations and market demands. Moreover, companies can contribute to shaping policy that helps them to remain competitive while striving for net zero.