Energy Mixes and Policy Blends

Jyrki Katainen, President of Sitra and former European Commission Vice-President for Jobs, Growth, Investment and Competitiveness talks about the key issues with Tomas Jermalavičius, Head of Studies at ICDS.

Tomas Jermalavičius (TJ): I would like to begin our conversation with a picture of the international commitment to net-zero carbon emissions.

Over the last couple of years, humanity’s attention has been primarily focused on more immediate issues – such as the coronavirus pandemic and now the outbreak of war in Europe. They distract all of us from one major threat – a truly existential one for us as a species – the catastrophic effects of runaway climate change.

However, there is now a clear understanding in the scientific world and most of the policy world that maintaining a rise in temperature well below two degrees Celsius, and preferably no more than 1.5C which was the goal of the Paris Agreement, and thus preventing the most catastrophic scenarios requires radical action that will fundamentally transform not only our energy systems, but our entire economies and societies.

The UN Climate Change Conference in Glasgow created an expectation that nations would rise to the challenge, and it did achieve a range of climate goals that offer a glimmer of hope. Yet, one can hardly disagree with the climate activists, NGOs and many scientists who say that it might be too little and too late. The nations that emit the largest quantities of CO2 committed to achieving net-zero targets over timelines stretching into 2060 and 2070, and those commitments are often vague. Absent any concrete plans and with such long transitional periods, the world will probably hit so many climate tipping points that there will be no way to avoid the most risky scenarios.

Estimates still take us over the two-degree threshold. To quote one of the latest reports by the Intergovernmental Panel on Climate Change, “Any further delay in concerted anticipatory global action on adaptation and mitigation will miss a brief and rapidly closing window of opportunity to secure a liveable and sustainable future for all.”

Your experience is grounded in the hard policy-making realities of bargaining between nations and with society in order to establish social compacts. It would be interesting to hear how optimistic or pessimistic you are concerning the likelihood of global transition to a net-zero carbon world within that narrow window of opportunity we may still have.

Jyrki Katainen (JK): Some countries have adopted the right measures, but we are not there yet. We are moving in the right direction but not necessarily fast enough, at least with regard to commitments made and delivered. To be completely honest, I am not sure if we will manage to achieve the 1.5C target, despite moving in the right direction. If we fail, the consequences to our society will be grave, and this is why we must move faster.

My source of hope is that market forces can be extremely helpful. Market reactions can be more influential, compared to the public sector. Industries have already been significantly reducing their carbon emissions. When either businesses or consumers start to demand cleaner solutions and net-zero or minus-emission production, they accelerate the transition even faster than we might expect.

I have to introduce the circular economy into this, because even though the world might not yet be circular today, there is a clear trend: industries and enterprises are moving more towards circular business models. This is an untested and uncharted opportunity. If I remember the figure correctly, only 9% of natural resources consumed will end up recycled, which means there is a huge potential in this area. And this is just one good example.

Unfortunately, if we only look at the commitments and how we have delivered on them, then we are not there yet – we are actually quite badly behind.

TJ: This is very interesting. I do share your sentiment about the importance of free market forces. However, the developments at the end of last year and in the beginning of this year – meaning the volatility in energy prices – impact society’s perception of what drives that volatility. Of course, a lot of blame can be put on Russia – what it has done to the European energy markets with its gas supplies – but at the same time, there are populist forces that are quick to jump on the issue and say, “The EU Green Deal and transition to clean energy are to blame for these troubles.”

Could we bungle this transition if we simply leave it to market forces? Then extremely polarised domestic politics, climate change denialism, and EU-scepticism, which means that whatever is underwritten by the EU must be torpedoed, intervene.

Circling back to the market, the entrenched fossil fuel industries remain a major financial magnet. Fossil fuel subsidies in 2020 amounted to 6 trillion dollars, according to the IMF. As the International Energy Agency states, “Momentum from net-zero pledges and sustainable finance is yet to translate into large increases in actual spending on clean energy projects”. Are we really confident that if we leave it entirely to the markets and customer pressure, then the momentum and traction that the new business models gain will simply sort themselves out? Or do we need more forceful, top-down policy instruments to guide and accelerate the transition?

JK: I think we need both. We certainly cannot leave all to the market and customer demand. However, they are equally important in the sense that we could successfully combine economic growth and decrease CO2 emissions.

Therefore, this market mechanism is badly needed, otherwise the top-down measures will be detrimental to economic growth. The biggest challenge at this moment is upward inflation and the economic downturn stemming from instability and the war in Ukraine. In fact, it is quite easy to say that due to high inflation and an uncertain economy, we have to take some temporary steps back – we already see it happening now. Such populistic political pressure may challenge climate policies quite significantly.

There are many other examples. For instance, Finland has a big wind energy project waiting for an environmental impact analysis to be completed. Public sector procedures are usually very slow. The government has facilitated these investment projects by hiring additional personnel to conduct environmental assessments, so wind energy investments are expected to boom.

This is a countermeasure to inflationary economic recession. The more investments we have, the better the economy is doing. Even in times of crisis, we have to consider what is right in the medium and long-term, instead of focusing on short-termism.

For example, when the Fukushima nuclear power plant shut down, Japan managed to replace 50% of its nuclear energy consumption through savings and energy efficiency. Initially, the measures were top-down: the government regulated how much energy a household could consume. However, this was then followed by significant investments in energy efficiency. And today, Japan consumes less energy than it used to before the Fukushima incident.

Even absent any crises, the Netherlands – in two years’ time between 2019 and 2021 – managed to stimulate wind and solar power production by 10%. The Netherlands now produces more solar power than Greece, for instance.

Let us look at Estonia. Between 2019 and 2021, the solar power share in energy production rose from below 1% to close to 4%, which means that things can happen. It is up to politics and also up to market players.

TJ: You’ve identified one clear bottleneck in our crisis response – the public sector’s regulatory framework and the speed with which it moves to enact the necessary changes to allow market players to scale up and deliver more renewables.

As to the societal aspect, there is a lot of activism. And the policy world responds to popular demand by sending the right impulses to the markets. However, one can hardly see much drive and sense of urgency to make changes in our daily lives. Our comfortable and affluent western society is reluctant to reduce consumption, including energy, unless the government tells us to – as Japan did. People rarely change the wasteful habits that pump even more CO2 into the atmosphere.

In the US, driving a gas-guzzling monster 200 yards to the mall is still the norm rather than the exception, while Europeans still hop onto cheap flights for unnecessary travel. Beyond the West, people aspire to these lifestyles, even though they are achieved at great cost to the environment and climate. This all drives up energy consumption in industries, services, and households, most of which is still satisfied by fossil fuels.

Beyond market forces and top-down policies, what more should be done to generate a bottom-up, mass-scale societal movement to propel us into a carbon-free, net-zero future?

When either businesses or consumers start to demand cleaner solutions and net-zero or minus-emission production, they accelerate the transition even faster than we might expect.

Jyrki Katainen

JK: This is an important point. Just lately, I was wondering to myself when was the last time we had a nationwide discussion about energy saving or efficiency. Every once in a while, there is some news telling us that if we go to the sauna three times a week instead of every day, we will save significant amounts of energy. Yet, the motivation factor is not there, since energy prices are pretty low, and the issue has not been high on the agenda for ordinary citizens.

Now, however, especially with inflation spiking, might be a good moment to start talking about energy savings: if you want to save some money – save energy, too. These are the little things that each one of us can do.

My organisation, Sitra, has been encouraging the Finnish government and some big city authorities to launch public energy-saving projects so that the public sector will lead by example. Lowering heating by one degree Celsius saves 5% of energy. The effort is minimal, but the outcome is remarkable.

What the public sector can do is provide more subsidies – or other incentives – to households or real estate owners to invest in energy efficiency. Europe still has much work to do: many houses are not well insulated, so their energy consumption remains high. There are many good examples where countries and regions have made substantial investments, and ordinary citizens have benefited financially from them. There is a lot we can do without compromising our standard of living.

TJ: Looking at the housing stock in the Baltic states, one can see how much is still not renovated and leaks heat. We do, indeed, have much homework to do.

It comes down to the availability of affordable technology and financing. Technology is not a silver bullet, but it does play an outsized role during energy transition. Ever cheaper and more efficient technology for developing clean renewable resources, electricity generation (wind, solar, thermal), smart grids, transport electrification, and energy storage gives us the hope that the rapid wider diffusion of such tech will alter the energy landscape faster than we would probably recognise. Some countries may even seize the opportunity to leapfrog the legacy solutions, which we have been struggling with in the developed world.

In this context, nuclear energy is one of our legacy solutions but, at least outside the West, it has been experiencing a renaissance. There are new-generation reactors already available as well as the enthusiasm of innovators for small modular reactors; improvements to nuclear waste storage, and even novel solutions for the re-use of nuclear waste. They have created a momentum behind nuclear energy – to back up and supplement renewables in the future.

The societal inhibitions created by first the Chornobyl and then the Fukushima disasters have proved to be very powerful. Even the looming energy crisis, which is a result of the geopolitical confrontation with Russia, does not seem to be sufficient to convince anyone to halt or slow down the decommissioning of the last remaining nuclear power plants.

Finland, on the other hand, seems very comfortable with nuclear energy as part of the overall energy mix and adroit at integrating it with renewable sources. Will nuclear energy remain the preserve of the most daring and most resourceful, a niche almost? Or will it regain a central role in the net-zero world?

When the Fukushima nuclear power plant shut down, Japan managed to replace 50% of its nuclear energy consumption through savings and energy efficiency.

Jyrki Katainen

JK: It is always good to have a wide-ranging energy mix so that a country is never too dependent on one single source.

With that in mind, nuclear energy will continue to play a significant role in the future – especially with the smaller-scale, modular reactors. They can replace municipal or regional coal or wood burning energy. They can become a meaningful part of any country’s energy mix.

When considering such ambitious technology, investments in renewable energy, such as hydrogen and small modular nuclear reactors, appear quite promising indeed. However, energy should not be produced with the constant support of public subsidies but should rather be market-based. This is also beneficial for the public sector, because less bureaucracy enables the energy sector to invest in new resources.

TJ: Looking farther ahead into the future of circular economy models, will clean technology produce a hunger for various mineral resources: from so-called rare-earth elements to more conventional ones like aluminium, copper and, especially, lithium. An exponential growth in demand for them is anticipated, with some estimates of fourfold increases by 2040.

The next problem is that much of the disruptive, toxic waste generating activity is concentrated in countries with poor environmental standards and loose enforcement, with weak governance and struggling with corruption. Many developing nations prioritise economic development over sustainability. We risk causing damage to local ecosystems tantamount to that inflicted by the extraction of hydrocarbons.

Even when it comes to hydrogen, the plan for global production and distribution will bring industry to countries and regions with abundant solar power potential but who, nonetheless, may already struggle with the availability of fresh water. For instance, countries like Estonia and Ukraine, which offer significant green hydrogen production capacity, are anticipated to experience increased water stress levels by 2040 according to World Resources Institute estimates. Absent innovative technological solutions, such as hydrogen production from sea water without energy-intensive desalinisation, hydrogen may fuel the ‘water wars’ of the future.

How do we avoid the traps we stepped into in the age of hydrocarbons? Does the circular economy offer a solution?

Countries like Estonia and Ukraine, which offer significant green hydrogen production capacity, are anticipated to experience increased water stress levels by 2040 according to World Resources Institute estimates.

Tomas Jermalavičius

JK: This is a tricky question. Obviously, since we do need more rare-earth metals, the issue of biodiversity comes into the picture. We have not solved it yet, primarily because there are no market mechanisms to value biodiversity. This will hardly happen any time soon, even though market mechanisms to protect biodiversity are badly needed now.

Basically, we could start by looking into the opportunities of the circular economy. Only 9% of resources consumed globally are circular, so the potential is there to unlock. Given the scarcity, industry will have to apply new circular business models. However, this is only a partial solution, since there is not enough data to indicate to what degree the circular economy can replace the need for raw materials.

Furthermore, there is another angle to sustainable mining: there are good and bad mining practices. And this is a topical issue in Finland. Lapland has plenty of the raw materials utilised for batteries and wind turbines, but many natural treasures are located in the same area. Those who are in favour of issuing licenses to new mining businesses in this particular region say that the alternative option would be to purchase the same raw materials from China, where mining practices are not as sustainable as in Finland.

This is not a black-and-white issue, and we will have to deal with it at some point. This is why the emphasis should be on the circular economy and sustainable mining practices.

TJ: We should also assist countries to improve their governance and introduce environmental management standards.

Let us now pivot to the topic of geopolitics. Energy transition and economic transformation will undoubtedly lead to significant reconfigurations in global supply chains. For instance, the world depends on China for rare-earth minerals, and we seem to lack the wisdom and foresight to avoid such geopolitically toxic entanglements. The outcome of Europe’s dependence on Russia’s oil and gas is another vivid example: we have repeatedly said we should diversify, yet we now struggle, in very extreme circumstances, to surrender that critical energy dependence and increase pressure on Russia to stop its war in Ukraine.

Moreover, the West relies on the Gulf nations for hydrocarbons. Just recently, the Wall Street Journal alleged that the Crown Prince of Saudi Arabia rebuffed a US request to increase oil production as soon as the White House National Security Advisor brought up journalist Jamal Khashoggi’s murder – a human rights issue.

Is there a way to avoid such dangerous entanglements when establishing the supply chains of the future? As a former EU Commissioner, do you believe the EU should play a greater role in steering these supply chain policies? For instance, there is a French-proposed anti-coercion instrument already in the pipeline. What concrete tools can the EU apply to prevent a situation like the one we have ended up in vis-à-vis Russia?

The entrenched fossil fuel industries remain a major financial magnet. Fossil fuel subsidies in 2020 amounted to 6 trillion dollars, according to the IMF.

Tomas Jermalavičius

JK: First and foremost, the Russian attack on Ukraine has once again divided the world into democratic and autocratic camps. It will require a miracle to avoid repeating such scenarios in the future.

Even though Russia’s economy is only slightly bigger than Spain’s and smaller than Italy’s, Russia is, nonetheless, capable of inflicting significant harm on the rest of the world: the African continent suffers from food shortages, whereas Europe feels the war’s impact on its economic prosperity. These developments and the new “camping” (the division of the world into democratic and autocratic camps – Editor) will inevitably force the EU to reassess our resilience, not only in terms of energy but also in other segments of our economy.

For instance, semiconductors: 90% of high-quality semiconductors are produced in Taiwan. And while Taiwan is not a problem itself, it is common knowledge that its relationship with China may well trigger some uncertainties in the foreseeable future.

We must carefully evaluate our vulnerabilities and strategise how to reduce our dependency on raw materials and energy, in particular. Even though energy policy is in the hands of the national governments of EU member states, the current crisis has revealed that we must consider collective resilience and collective efforts to strengthen it – it is, without a doubt, an EU-wide problem. The EU economies are so interlinked that troubles in one country may easily spill over to others.

TJ: Nevertheless, we will have to deal with large authoritarian powers, because we need their cooperation. We will have to persuade them to meet global climate targets, since we share the same Earth with them. Despite our differences, we still need to keep moving towards common objectives if we want to ensure the very survival of our species.

JK: Exactly. Although previously, many used to believe that interdependency would increase security, we now know that this was not necessarily the case. This is one lesson to learn: even though the whole idea of the EU was about increasing interdependency, that interdependency involved only democratic nations. Globalisation, on the other hand, has increased interdependency between polar opposite ideological blocs, and the picture is different – this is why the resilience question is critical.