Impact of the financial crisis
on carbon economics
Version 2.1 of the Global Greenhouse Gas Abatement Cost Curve
McKinsey & Company takes sole responsibility for the
final content of this report, unless otherwise cited.
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VERSION 2.1 OF THE GLOBAL GREENHOUSE GAS ABATEMENT COST CURVE
Impact of the financial crisis
on carbon economics:
Version 2.1 of the global greenhouse
gas abatement cost curve
McKinsey has updated its global greenhouse gas (GHG) abatement cost curve with a new baseline that
reflects a post-crisis belief about the development of the global economy and associated emissions. The
overall conclusion of this update is that the crisis has had relatively little impact on the greenhouse gas
abatement challenge, and that the main messages and implications from our 2009 report ‘Pathways to
a low-carbon economy’ have not changed substantially. The global business-as-usual emission projection
for 2030 has dropped by only 6 percent relative to the pre-crisis estimate. The total abatement potential
remains essentially the same. Emission reductions might become cheaper in relative terms as a result of
higher fossil fuel price expectations by the external agencies that we rely on for the baseline forecast.
Per-Anders Enkvist, Jens Dinkel, and Charles Lin1
sustainability@mckinsey.com
Introduction
McKinsey & Company created Version 2.0 of its global greenhouse gas abatement cost curve in 2008
– during a period of steady economic growth – and published its findings in January 2009.2 Since then,
the global economic environment has undergone dramatic changes, which have lead many to wonder
what implications this will have on tackling the climate change challenge.
To help answer this question and to provide more recent emissions and abatement data, we have
updated our cost curve. We call this update Version 2.1. We have focused this update primarily
on examining the macroeconomic effects on business-as-usual (BAU) emissions, and the resulting
impact on emission reduction economics. We have not updated our technology projections but will
do so -- along with new BAU projections for forestry, agriculture, and waste -- when we produce our
next comprehensive update. We have performed a small number of selected model upgrades and
enhancements, and determined the associated changes in abatement potential, cost, and investment
requirements. Several other organizations have also recently done analyses on the impact of the
economic downturn on emissions, including the International Energy Agency (IEA), the International
Institute for Applied Systems Analysis (IIASA), the Organisation for Economic Co-operation and
Development (OECD), and the Joint Research Centre (JRC). We will compare and relate to their findings.
In this note, the focus is on changes relative to the results of our 2009 report and we refer readers to
that document for a more comprehensive study of carbon economics.
1 The authors would like to thank our colleagues Amit Bhalla, Rahul Gupta, Vasudha Gupta, and Ruchin Jain for their contributions to this research.
2 Pathways to a Low-Carbon Economy: Version 2 of the Global Greenhouse Gas Abatement Cost Curve, January 2009
(www.mckinsey.com/globalGHGcostcurve).
3
IMPACT OF THE FINANCIAL CRISIS ON CARBON ECONOMICS
Current emission baseline forecasts are approximately 6 percent lower
than they were two years ago
As in our previous abatement studies, in this update we rely primarily on well-known and accepted
external macroeconomic and BAU emissions projections. We use the IEA’s World Energy Outlook
2009 (WEO 2009) as the main reference. In a few instances, we have complemented external data
selectively with McKinsey analysis.
Based on these updated inputs, projections of global 2020 and 2030 BAU emissions have fallen by
around 6 percent compared with the assessment two years ago (Exhibit 1). In 2020, there is a reduction
of 3.6 gigatonnes of carbon dioxide equivalent (GtCO2e) in BAU emissions due to changes in economic
forecasts (from 61.2 GtCO2e to 57.6 GtCO2e). In 2030, BAU emissions drop by 4.3 GtCO2e from 69.9
GtCO2e to 65.6 GtCO2e. This decrease is equivalent to more than the 2030 BAU emissions of Africa and
would contribute to reaching absolute climate stabilization targets. However, the fact remains that the
difference between BAU emissions and stabilization pathways is of the same order of magnitude as two
years ago. The size of the emission reduction challenge remains more or less the same.
Three factors explain why recent economic developments have only produced this 6 percent drop in
BAU emissions compared with projections two years ago: (1) the long time horizon under examination
(relative to a business cycle); (2) the economic resilience of some large developing countries
responsible for a large share of future emissions; and, (3) the fact that activities in agriculture,
forestry, and waste generation correlate more with growth in population rather than GDP. Studies by the
institutions mentioned above broadly concur with our finding that the global economic downturn will
only have a modest impact on long-term emissions.
Exhibit 1
Business-as-usual (BAU) comparisons between V2.0 and V2.1
Peak at 550 ppm, long-term stabilization 550 ppm, expected 3°C increase
Peak at 510 ppm, long-term stabilization 450 ppm, expected 2°C increase
Peak at 480 ppm, long-term stabilization 400 ppm, expected 1.8°C increase
Global GHG emissions
GtCO2e per year
- 6%
70
70 V2.0 BAU
- 6%
66 V2.1 BAU
60
- 5%
50
40
30
20
10
0
2005
10
15
20
25
2030
Note: As a reference, 1990 total emissions were 36 GtCO2e.
Source: Global GHG Abatement Cost Curve v2.0, v2.1; IEA; US EPA; Houghton; IPCC; OECD; den Elzen; Meinshausen; van Vuuren
4
VERSION 2.1 OF THE GLOBAL GREENHOUSE GAS ABATEMENT COST CURVE
Exhibit 2
Change in BAU emissions by region
V2.1 BAU emissions
GtCO2e per year; 2030
North America1
OECD Pacific
5.8
2.5
6.5
Latin America
4.7
India
Middle East
Eastern Europe3
2.9
-6
-0.3
-11
-0.4
-5
-0.3
-6
-0.3
-9
0
8.8
16.7
China
Global Air & Sea
1.8
Total
66
Developed countries
experience the
largest decline
-12
3.9
Rest of developing
Asia
1
2
3
Source:
-0.4
-0.5
3.6
Africa
Change from V2.0
%
-11
-1.0
8.2
Western Europe2
Change from V2.0
GtCO2e per year; 2030
0
0.2
2
0.1
1
-44
-1.5
-4
Many developing
countries are also
significantly affected
Some developing
countries are
expected to grow
even faster, with
upward revisions in
GDP growth
Revision of external
forecasts for sea sector
-6%
United States and Canada.
Includes EU27, Andorra, Iceland, Lichtenstein, Monaco, Norway, San Marino, and Switzerland.
Russia and non-OECD Eastern Europe.
Global GHG Abatement Cost Curve v2.1, v2.0, IEA WEO’09, IEA transport report 2009, JFK 2009, EIA 09, IMO
Examining the drop in BAU emissions in 2030 by region reveals that the emissions forecasts for
developed countries have fallen by between 6 to 11 percent compared to the projections two years ago
(Exhibit 2). Projections for the emissions of developing countries are more varied. In some regions and
countries, including Africa, Latin America, India, and the Middle East, BAU emissions projections have
declined by between 5 and 12 percent. In contrast, China, parts of developing Asia, and Eastern Europe
now have higher BAU emissions projections due to these economies’ relative resilience in the face
of the global downturn and upward revisions in their expected GDP growth. Reduced BAU emissions
will help countries achieve their reduction targets; on the other hand, the credit-constrained economic
environment will likely make the financing of abatement measures more challenging.
Turning to a sector-by-sector view, we find that the impact of the economic slowdown has varied
according to the sectors (Exhibit 3). In the power, industry, and consumer sectors, BAU emission
projections have dropped, as emissions are largely linked to GDP. But in the agriculture, waste, and
forestry sectors, there has been no change in BAU projections, since emissions are primarily linked to
population -- and population projections have changed very little since our 2009 report. A specifically
high drop is in sea transport, as new research from IEA and the International Maritime Organization
(IMO) about this relatively uncertain sector has substantially revised emissions estimates downwards.
Going into more detail, new assumptions made by the IEA for two main macroeconomic drivers – GDP
growth and energy prices – explain the majority of the change in BAU emissions between Version 2.0 of
the cost curve and the assessment in this note (Exhibit 4).
•• GDP growth. The financial crisis is expected to have a larger impact in developed countries than in
the developing countries. In developed countries growth rates fall from 2.1 to 1.8 percent annually
in the period from 2005 to 2030. In developing countries, the GDP effect is very small (from a
5
IMPACT OF THE FINANCIAL CRISIS ON CARBON ECONOMICS
Exhibit 3
Change in BAU direct emissions by sector
V2.1 BAU emissions
GtCO2e per year; 2030
Power
Change from V2.0
GtCO2e per year; 2030
-0.9
17.8
Road Transport
7.4
Buildings
4.0
Petroleum & Gas
3.2
Other Industry
2.9
Chemicals
-5
-0.7
-8
-0.7
-15
-0.4
3.6
Iron & Steel
-3
-0.1
-2
3.5
Waste
1.7
Agriculture
7.9
Forestry
7.2
Global Air and Sea
1.8
Total
66
-10
-0.1
4.7
Cement
Change from V2.0
%
0
-1
0
-1
0
0
0
0
0
0
Affected by
economic slowdown
Linked to population
growth- unaffected by
economic slowdown
Revision of external
forecasts for sea sector
-44
-1.5
-4
-6%
Note: To obtain the total BAU emissions, only direct emissions are included.
Source: Global GHG Abatement Cost Curve v2.1, v2.0, IEA WEO’09, IEA transport report 2009, JFK 2009, EIA 09, IMO
Exhibit 4
Drivers of change from V2.0 to V2.1
1 GDP growth
% per annum
2 Oil price
$ per barrel, real terms
Near term (2005–2015)
2.3
1.6
Developed world
5.8
5.8
WEO ’07/V2.01
WEO ’09/V2.12
-33%
120
110
+1%
100
Developing world
WEO ’07/V2.0
90
WEO ’09/V2.1
80
Long term (2005–2030)
2.1
1.8
70
-15%
60
Developed world
50
4.8
4.8
Developing world
WEO ’07/V2.0
WEO ’09/V2.1
-1%
10
0
2010
1 In 2006 real prices.
2 In 2008 real prices (if adjusted to 2006 real prices, 2030 would be 109 $ per barrel).
Source: IEA World Energy Outlook 2007 and 2009
6
2020
2030
VERSION 2.1 OF THE GLOBAL GREENHOUSE GAS ABATEMENT COST CURVE
4.8 to 4.7 percent compound annual growth rate in the period from 2005 to 2030) as developing
countries seem to have been less affected by the recent slowdown. In absolute terms, GDP
estimates for developing countries fall by only about 1 percent in 2030 from the forecast two years
ago. In the case of developed countries, the forecast drop is about 8 percent.
•• Energy prices. The assumed trajectories of energy prices have risen significantly. The IEA’s WEO
2007, which was the basis of Version 2.0 of the cost curve, assumed real oil prices in 2030 to
be $62 a barrel in 2006 prices. In its 2009 WEO, the IEA raised its assumption to $115 a barrel
in 2008 prices.3 The IEA has also raised its assumptions about natural gas and coal prices
considerably. Although the financial crisis has caused energy prices to fall since their 2007 spike,
the IEA’s WEO 2009 anticipates tighter energy markets coming up than it did in the 2007 edition.
Despite a drop in BAU emissions, abatement potential remains stable
at 38 GtCO2e in 2030, and comes at a lower incremental cost
Relative to BAU emissions of 66 GtCO2e in 2030, we have identified an abatement potential of 38
GtCO2e (58 percent) through technical measures costing below €80 per tonne of carbon dioxide
equivalent (tCO2e) (Exhibit 5).4 We estimate that an additional 8 GtCO2e of abatement potential exists
(similar to Version 2.0 of the cost curve) if more expensive technical measures as well as changes in
behavior are included. Taking this additional abatement into account would result in a total reduction
Exhibit 5
Emissions abatement pathway
Peak at 550 ppm, long-term stabilization 550 ppm, expected 3°C increase
Peak at 510 ppm, long-term stabilization 450 ppm, expected 2°C increase
Peak at 480 ppm, long-term stabilization 400 ppm, expected 1.8°C increase
Global GHG emissions
GtCO2e per year
70
66
BAU
60
- 38
Technical measures
< €80 per tCO2e
28
-4
-4
20
Technical measures
€80–€100 per tCO2e1
(High-level estimates)
Behavior changes
(High-level estimates)
50
40
30
20
10
0
2005
10
15
20
25
2030
Note: As a reference, 1990 total emissions were 36 GtCO2e.
1 Upper cost threshold kept constant at 100 EUR/tCO2e, thus additional potential lower given increase of cost curve threshold to 80 EUR/tCO2e
Source: Global GHG Abatement Cost Curve v2.0, v2.1; IEA; US EPA; Houghton; IPCC; OECD; den Elzen; Meinshausen; van Vuuren
3 In real 2006 prices, the price is $109 per barrel.
4 We raised the global threshold cost to €80 per tCO2e from €60 per tCO2e in order to include known carbon capture and storage
(CCS) levers. Their abatement cost increases due to the energy consumption necessary to run CCS. At a threshold cost
of €60 per tCO2e, the abatement potential is about 36.5 GtCO2e.
7
IMPACT OF THE FINANCIAL CRISIS ON CARBON ECONOMICS
potential of more than 70 percent from BAU emissions. In 2020, technical measures costing below
€80 per tCO2e provide an abatement potential of 19 GtCO2e. It should be noted that these values
represent economic abatement potential if the measures are implemented aggressively, and not a
forecast of how abatement will develop.
If all the abatement potential was fully captured across regions and sectors, the resulting emissions
development would be broadly consistent with an emissions pathway put forward by Intergovernmental
Panel on Climate Change (IPCC) authors that would see the atmospheric concentration of GHGs peak
at 480 ppm and then start decreasing to stabilization levels of 400 ppm of CO2e. According to the
IPCC authors’ analysis, such a pathway would result with high likelihood in an increase of the global
mean temperature of just below 2 degrees Celsius above preindustrial levels.5 Abatement studies by
the other institutions mentioned have also concluded that there is sufficient potential to contain global
warming using technical measures.
Increasing energy price expectations lead to more abatement technologies being net profit positive –
in the “compared to BAU” cost perspective that the cost curve takes. The average abatement cost
across all levers has fallen from plus €4 per tCO2e to minus €6 per tCO2e between Version 2.0 and
Version 2.1. The share of net profit positive measures (excluding transaction costs) has increased
from 29 to 35 percent in our new assessment, reducing the cost challenge to some extent. Another
40 percent of abatement measures costs between zero and €20 per tCO2e and the next 10 percent
costs between €20 and €40 per tCO2e. Only 15 percent of the abatement potential comes at a cost of
between cost between €40 and €80 per tCO2 (Exhibit 6).
Exhibit 6
V2.1 Global GHG abatement cost curve beyond BAU – 2030
Gas plant CCS retrofit
Abatement cost
€ per tCO2e
Reduced slash and burn agriculture
conversion
Reduced pastureland conversion
80
60
40
20
Iron and steel CCS new build
Lighting – switch incandescent
to LED (residential)
Appliances electronics
Motor systems efficiency
1st generation biofuels
Cars full hybrid
Coal CCS new build
Coal CCS retrofit
Grassland management
Organic soils restoration
0
-20
-40
-60
-80
-100
-120
-140
-160
-180
-200
5
10
15
Geothermal
Rice management
Small hydro
Waste recycling
Efficiency improvements other industry
Landfill gas electricity generation
Clinker substitution by fly ash
Building efficiency new build
Insulation retrofit (residential)
Tillage and residue management
Cropland nutrient management
Cars plug-in hybrid
Retrofit residential HVAC
2nd generation biofuels
Appliances residential
20
25
30
35
Solar CSP
Reduced intensive
agriculture conversion
High penetration wind
Solar PV
Low penetration wind
Degraded forest reforestation
Pastureland afforestation
Degraded land restoration
Nuclear
Note: The curve presents an estimate of the maximum potential of all technical GHG abatement measures below €80 per tCO2e if each lever
was pursued aggressively. It is not a forecast of what role different abatement measures and technologies will play.
Source: Global GHG Abatement Cost Curve v2.1
5 Den Elzen, Meinshausen, van Vuuren
8
38
Abatement potential
GtCO2e per year
VERSION 2.1 OF THE GLOBAL GREENHOUSE GAS ABATEMENT COST CURVE
In interpreting these numbers, readers should remember that they exclude three factors that might be
important, depending on how abatement measures are implemented. First, we use a societal interest
rate, similar to a long-term bond rate, of 4 percent, rather than the cost of capital to a private investor.
Second, the cost excludes transaction and program costs to implement at a large scale, as these are highly
dependent on policy choices for implementation. Third, the analysis does not include dynamic effects such
as changes in energy prices due to the implementation of abatement measures (these dynamic effects
could both increase and decrease cost).
Higher energy prices have a particularly large effect in the transport sector through higher savings on
fuel costs, and in the buildings and industrial sectors through increased savings from energy efficiency
measures. In the power sector, fossil-fuel-based generation technologies become more expensive and
low-carbon alternatives such as renewables or nuclear become relatively cheaper.
IPCC cost estimates for adaptation to climate change under a BAU scenario lie in the range of 1 to 5
percent of GDP on average across the globe.6 Since our average abatement cost estimate across all levers
has fallen to minus €6 per tCO2e (excluding transaction cost), mitigation would come a net profit to society
(mainly due to the increased energy price expectations) and would represent a lower societal cost than that
estimated for adaptation.
Looking at the distribution of abatement opportunities, there has not been much change between Version
2.0 and Version 2.1. The two largest sectors in terms of abatement potential remain power (26 percent
of potential) and forestry (21 percent). The split of opportunities has shifted slightly more toward the
developing world from 70 percent in Version 2.0 to 72 percent in this update. This is due to the fact that
BAU emissions, and therefore abatement opportunities, have dropped more in the developed world than in
the developing world between these two assessments (Exhibit 7). We note that the regional distribution of
abatement potential does not hold any implications as to who would finance emissions reductions.
Exhibit 7
Abatement potential by sector and region – V2.1
GtCO2e per year; 2030
By sector
By region
Power
9.7
North America1
Petroleum and gas
0.8
Western Europe2
Cement
1.0
Eastern Europe3
Iron and steel
2.4
Chemicals
1.9
Other Industry
1.6
OECD Pacific
4.5
3.0
2.1
1.4
Latin America
4.5
Rest of developing Asia
Transport
Buildings
Waste
7.8
1
2
3
Source:
4.6
0.4
38
2.7
China
1.6
Agriculture
Total
Africa
3.0
Forestry
Global Air & Sea Transport
6.0
2.6
9.0
India
Middle East
Global Air & Sea Transport
Total
2.5
1.4
0.4
38
United States and Canada.
Includes EU27, Andorra, Iceland, Lichtenstein, Monaco, Norway, San Marino, and Switzerland.
Russia and non-OECD Eastern Europe.
Global GHG Abatement Cost Curve v2.1
6 IPCC AR4, 2007.
9
IMPACT OF THE FINANCIAL CRISIS ON CARBON ECONOMICS
Although the average abatement cost has fallen, capturing the full abatement
potential identified will still require upfront investments of as much as €860 billion
annually on top of BAU investments by 2030
While higher fossil fuel prices help to reduce abatement costs, they do not change the capital
expenditure necessary to finance abatement. To capture the full abatement potential in 2030, about
€860 billion per year of capital expenditure (on top of BAU) will be required globally in 2030, and some
€490 billion per year in 2020 (Exhibit 8). This represents an incremental 5 to 6 percent on top of BAU
investments into fixed assets.
Exhibit 8
Investment requirements to achieve abatement potential – V2.1
€ billion per year; 2030; in addition to current projected BAU investments
By sector
By region
Power
182
Petroleum and gas
16
Cement
12
North America
Western Europe
65
Iron and steel
119
Chemicals
34
Other Industry
35
100
Eastern Europe
45
OECD Pacific
38
Latin America
49
73
Rest of developing Asia
Transport
245
Buildings
Waste
207
Agriculture
Global air and sea transport
Total
34
China
9
43
Forestry
Africa
17
864
72
India
Middle East
0
280
Global air and sea transport
Total
37
17
864
Source: Global GHG Abatement Cost Curve v2.1
The change in investment requirements from Version 2.0 of the cost curve to this update is small.
Taking a regional view, we see that China alone accounts for 32 percent of the required capital
expenditure with North America and Western Europe together making up 25 percent of the total. If we
then look at the capital expenditure by sector, we see that just three sectors (power, transport, and
buildings) account for nearly three quarters of the investment required.
10
VERSION 2.1 OF THE GLOBAL GREENHOUSE GAS ABATEMENT COST CURVE
Delaying action for ten years would reduce the technical abatement potential in 2030 by half
Timing remains of the essence. Policy makers need to act now if they want to reduce emissions to the
levels that the climate scientists believe are necessary to stabilize global warming below 2 degrees
Celsius. Our model shows that a delay of 10 years, with action on abatement starting in 2020 instead
of 2010, would cut the abatement potential by half from 38 GtCO2e to 19 GtCO2e. Under such a
“delayed” abatement path, the emissions trajectory would exceed a 550 ppm stabilization path – as
laid out by IPCC authors – in some years. This would make it challenging to limit global warming to the
3 degree Celsius threshold associated with a 550 ppm stabilization (Exhibit 9).
Exhibit 9
Effect of delaying action for 10 years
Peak at 550 ppm, long-term stabilization 550 ppm, expected 3°C increase
Peak at 510 ppm, long-term stabilization 450 ppm, expected 2°C increase
Peak at 480 ppm, long-term stabilization 400 ppm, expected 1.8°C increase
Lost abatement opportunity
Global GHG emissions
GtCO2e per year
70
66
60
-19
50
Potential emission
47 development
if starting in 20201
40
Potential emission
30
28 development
if starting in 20101
20
10
0
2005
2010
2015
2020
2025
2030
1 Technical levers < € 80/tCO2e.
Source: Global GHG Abatement Cost Curve v2.0, v2.1; IEA; US EPA; Houghton; IPCC; OECD; den Elzen; Meinshausen; van Vuuren
*
*
*
We hope that this analysis will serve as a useful starting point for discussions on how best to manage
the transition to a low-carbon economy. In 2011, we aim to release Version 3.0 of the global GHG
abatement cost curve in which we will undertake a new and more comprehensive review of greenhouse
gas abatement economics.
11
IMPACT OF THE FINANCIAL CRISIS ON CARBON ECONOMICS
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VERSION 2.1 OF THE GLOBAL GREENHOUSE GAS ABATEMENT COST CURVE
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