SustainaWeekly - Transition scenarios point to fossil fuel peak by 2030

Economist: The IEA published the new version of its flagship World Energy Outlook 2023 in which it provides transition scenarios under several assumptions and climate targets. All of its transition scenarios indicate a peak for fossil fuels by 2030. Still, scaling up investments in all clean energy technologies is seen as the key to orderly transition rather than cutting spending on oil and gas. Solar PV is currently the rising star among renewables.

Strategist: Issuance of euro benchmark ESG bonds in the financials space is set to break records this year. As the energy transition steps up pace, we expect supply of ESG bonds to rise again next year to a total of EUR 75bn (versus EUR 70bn in 2023). We expect supply of senior non-preferred bonds to rise to EUR 35bn, while the supply of green covered bonds is likely to remain stable.

Sector: The EU is not on track to meet its target for the existing building stock to be rennovated into ‘nearly-zero-energy buildings’ by 2050. The revised Energy Performance of Buildings Directive (EPBD) is one of a number of policy initiatives that aims to accelerate the process. Trialogue discussions on the final shape of the revision are ongoing. Differences on how to implement minimum energy performance standards have persisted.

ESG in figures: In a regular section of our weekly, we present a chart book on some of the key indicators for ESG financing and the energy transition.

Takeaways from IEA’s World Energy Outlook 2023

• All IEA transition scenarios indicate a peak for fossil fuels by 2030

• Solar PV is the rising star among renewables with a huge increase in manufacturing capacity and potential deployment to reach NZE capacity additions in 2030

• The pathway to a 1.5 °C limit on global warming is tough but still possible

• Diversification and innovation are the best strategies to manage supply chain dependencies for clean energy technologies and critical minerals

• Scaling up investments in all clean energy technologies is seen as the key to orderly transition rather than cutting spending on oil and gas

• Collaboration between countries is essential to achieve an efficient and smoother pathway to net zero emissions

IEA published the new version of its flagship World Energy Outlook 2023 in which it provides transition scenarios under several assumptions and climate targets. IEA has three main transition scenarios, namely: the Stated Policies Scenario (STEPS), the Announced Pledges Scenario (APS), and the Net Zero Emissions by 2050 Scenario (NZE). We note that one of the major changes in scenario assumptions is the slower growth rate of China and its consequent impacts on energy markets has been incorporated in the STEPS. This translates into projections for a smaller Chinese economy (5% in 2030 and 15% by 2050) in comparison to last year projections. Also, the 2023 outlook envisioned a faster growth in electric cars sales and continued momentum in the deployment of renewables especially in solar PV, which reduces oil demand from road transport and coal and gas demand for power generation. In this note we highlight main takeaways from the IEA’s publication.

Energy demand

Clean energy projects are the most dynamic factor in global energy investments even given the presence of obstacles related to higher financing costs, higher inflation, and supply chain bottlenecks. Moreover, the momentum in clean technology investments is sufficient to drive a peak in all fossil fuels by 2030, albeit with the rate of decline following the peak diverging widely across oil, gas, and coal.

In the STEPS scenario, the growth rate in energy demand to 2030 is around 0.7%, almost half of that of previous decade. The demand increase remains until 2050. This is not the case under APS scenario where total energy demand flattens, mainly because of efficiency improvements and electrification. In the NZE scenario, these advantages are even stronger and faster inducing a 1.2% yearly decrease in primary energy to 2030. The figure below shows the peak in all fossil fuel consumption in STEPS where demand reduction by China and advanced economies dominate the increase elsewhere. The projected decline in coal after the peak is due to the decline in the share of coal based power in the electricity mix, and changes in iron and steel production.

For oil, the rise of electric vehicles sales is dampening demand, and by 2030 road transport will not be a source for growth in demand. Moreover, demand decrease from road transport, power and building sectors will be more than enough to offset the demand increase from petrochemicals, aviation and shipping through to 2050 in STEPS.

For natural gas, capacity additions for power plants and space heating boilers already witnessed a peak, while demand reduction from these sectors, along with the shift to renewables and heat pumps driving a peak for natural gas by 2030.

The IEA notes that the peaks in demand does not eliminate the need for new investments in oil and gas given the steepness of the decline from existing fields.

The IEA also emphasizes the impact of China’s growth on energy markets:

“If China’s near-term growth were to slow by another percentage point, this would reduce 2030 coal demand by an amount almost equal to the volume currently consumed by the whole of Europe. Oil import volumes would decline by 5% and LNG imports by more than 20%, with major implications for global balances”.

Fossil fuels supply

Scaling up investments in all clean energy technologies is the key to orderly transition and is more important than cutting spending on oil and gas, according to the IEA. However, the IEA also notes that investment in oil and gas today is still high, almost double the level required in the NZE Scenario in 2030.

The unprecedented investments in new LNG projects, starting in 2025, is set to bring the balance to markets and alleviate the concerns about natural gas supply. However, alongside gas contracted on a longer-term basis to end-users, the IEA estimates that more than one-third of the new gas will be looking to find buyers on the short-term market as mature markets are moving towards a strong structural decline, while emerging markets may not have the infrastructure to absorb much larger supply especially if demand from China slows further.

The effect of increase in solar manufacturing capacity

Solar PV has been the rising star in energy investments and is set to stimulate clean energy transitions around the world. China has been leading the increase in solar manufacturing capacity, with more than an 80% share. This trend is expected to persist and global solar capacity is set to reach 1200 GW in medium term.

Deployment is also expanding, in the STEPS it is expected to reach 500 GW in 2030, but planned manufacturing expansion means that the utilisation rate of solar manufacturing stays below 40%, which is lower than 70% for healthy industry. This represents an opportunity to boost the transition further with a potential extra capacity that can be deployed in 2030, which would be in line with the deployment levels in NZE for 2030.

To better align solar PV output with demand, scaling up storage is essential. Furthermore, the modernization and expansion of grids and networks, along with facilitating demand response and system flexibility would also be necessary. In some regions the integration of more solar PV could be facilitated by hydropower resources, for example in Africa, while natural gas could still play a major role to provide system flexibility, for example, in the Middle East.

It is noted that China accounts for around half of wind and solar additions and well over half of global EV sales in 2022.

Is the pathway to a 1.5 °C limit on global warming still feasible?

The answer is yes, but it looks very difficult. The IEA outlines several reasons for hope. First, many countries and businesses are increasingly committed to reach net zero emissions, while clean energy policies are being stepped up. For example, the response to the pandemic and energy crisis by many governments was targeted towards the stimulation of different clean technologies. Second, the fast acceleration of clean energy deployment. Third, the tools needed for going faster are readily available to help achieving the needed growth in renewables, efficiency improvements, and electrification envisaged in the NZE Scenario, which drives down demand for fossil fuels by more than 25% this decade. Finally, the world is finding innovative answers, with energy R&D spending exceeding USD 130 billion in 2022 and strong clean energy venture capital flows.

Areas requiring urgent attention

Even though in some aspects the transition is surpassing expectation, there are still some areas that require attention. One of which is the differences among countries, where scaling up clean energy investments in emerging and developing countries needs to increase to more than six times in order to achieve NZE scenario. However, this is hard to be achieved with existing economic, financial and indebtedness conditions for these countries.

Furthermore, there is a need for a balanced mix for investments between different transition needed (supporting) technologies, especially infrastructure. For example, larger, flexible and smarter electricity grids, alternative clean fuels, and carbon capture technologies are much needed to accommodate the rapid growth in renewables and electrification.

Moreover, it is very important to make transitions resilient, inclusive, and affordable. The dependence of clean technologies on critical minerals requires more investments in mining, processing and refining of these minerals in order to avoid the risks associated to the supply of these materials. In addition, more attention is needed for the resilience of supply chains which are geographically concentrated in few number of countries to avoid disruptions whether from geopolitical tensions, extreme weather or a simple industrial accident. Finally, more effort should be put to help low income households meet the upfront cost for clean technologies so that they are able to enjoy the benefits of these technologies.

Above all, collaboration between countries is essential to achieve an efficient and smoother pathway to net zero emissions. Countries need to find ways to make this a common, unified effort, which will help expanding financial funds to countries in need, and guarantees a cost-effective clean energy supply with effective safety nets to face any emerging disruptions.