The great crossroads
Applying a range of different aggregation methodologies, the combustion of fossil fuels —coal, gas, and oil— stands out as one of the most significant causes of CO2 emissions. Therefore, a transition to clean energy sources is central to slowing climate change. Despite the advances made since the time of the first IPCCC report in 1990, progress towards this transition has been less than needed - and less than it could have been. But this picture is likely to change in the near future for at least three reasons.
First, climate change and its effects are already perceived by the naked eye, increasing passions and forming coalitions – especially among younger generations – to advocate public and private policies that promote the transition, especially in the economies which are the largest emitters. Secondly, extreme weather events are already affecting the performance of economic sectors and the value of companies and investment portfolios, causing reorientation of financial flows and investments. Finally, excessive dependence on imported energy sources at a time of increased economic nationalism makes the agenda of decarbonization a topic of national security – particularly after the Russian attack on Ukraine.
Therefore, the transition has a great chance of occurring; but it can be accelerated in the coming years. It will undoubtedly be traumatic for some economies. But for others, it will be a source of enormous opportunity to undertake new business, expand investment, achieve technological leadership, and attract new partners and investors. Few have as many possibilities and challenges in seizing these opportunities as countries with natural resources and environmental heritage favorable to clean and renewable energy development - many in the so-called Global South, particularly Brazil. But for these opportunities to become realities, with benefits for these countries and the world, the countries in question need to understand the direction of the winds, define and correct strategies, and undertake and choose the appropriate partners.
Challenges and opportunities in the energy transition
Passions can start a walk, interests can accelerate the pace, and fear can provoke a sense of urgency. The energy transition fits this pattern. In recent years, the citizenship agenda has driven it. But increasingly, it has been led by entrepreneurs and investors eager to mitigate the physical and transition risks generated by climate change. This explains what has been happening in various parts of the world.
In Europe, transition has become a key political theme, leading to the European Green Deal, the world's boldest decarbonization project, aiming for the EU to reach zero carbon emissions by 2050 1. In the U.S., 42% of the population still sees the New Green Deal as a critical theme for the new Biden administration, despite resistance to it in Congress. In China, public opinion, influenced by the effects of environmental degradation on quality of life, predominantly urban, sees the climate issue as a central theme. As illustrated in a recent article, both the Chinese government and Chinese productive industries have already understood the enormous business opportunities arising from the green agenda.
The invasion of Ukraine has led to setbacks. However, it may have also accelerated history by increasing the impetus for energy transitions worldwide. For instance, in Europe, the main driver of the transition was, until recently, climate change – though many mentioned the “security imperative” related to the fact of the dependency on oil and coal produced in Russia. As a result of the Ukraine invasion, the European Union now plans to reduce its dependence on Russian gas by two-thirds by 2022, as announced on April 8. That's a lot: 49% of the gas, 29% of the oil, and 54% of the coal consumed by the EU in 2021 originated in Russia.
Admittedly, this shock has caused some contradictory movements.
European gas stocks are controlled partly by governments and partly by Gazprom, a Russian state-owned enterprise. Curiously, the Gazprom stocks were only at 16% of their capacity when the invasion of Ukraine began. Therefore, in the short and medium term, to compensate for the large reduction in fossil fuel imports from Russia, the EU’s new strategy depends partly on making significant investments in storage capacity, transport, and gas processing — and on increasing purchases from other sources via pipelines (especially in Africa). To the dismay of environmentalists, such as the authors of this paper, the United States has announced that it will increase LPG sales to Europe and has relaxed oil and gas extraction restrictions.2
However, in the slightly longer term, the transition should gain momentum. The European strategy will involve producing more biomethane, reducing demand for natural gas, and probably also new international partnerships to provide more security in the supply of clean energy – in Europe and around the world.
Investments in hydrogen will increase, particularly in so-called ‘green hydrogen’ produced using energy sources that do not emit carbon (solar, wind, geothermal, nuclear). It can be anticipated that the energy matrices of the future will be diverse and will include such hydrogen, whose use makes more sense in long-haul maritime transport and heavy road vehicles (buses and trucks), in aviation, in industry, in domestic heating and as a means of storing energy (surplus solar and wind energy, for example).
The use of nuclear energy should also gain traction. At an event in Europe in which one of the authors of this article participated, Nicholas Negroponte, founder of MIT Media Lab, defended investments in nuclear energy and stated that "we [humanity] did not stop flying because accidents occurred, we developed products and systems that were much safer and more reliable. That's how we should think about the use of nuclear power." That's a good argument to be considered. From a technical point of view, it unveils a plan for innovation. From a practical point of view, several countries are already making moves. For example, even before the Ukraine war, at the end of 2021, France announced the resumption of its investments in nuclear generation, constructing 20 new atomic power plants. Recently, the UK made a similar announcement, saying it will invest in a new generation of nuclear power plants.
All these investments are designed to be executed using nuclear fission technology in broadly the same type of large-scale power plants that exist today in operation worldwide. However, progress is also being made in several jurisdictions towards the development of a new generation of small modular nuclear plants. These plants are more compact and easier to finance than the traditional large-scale plants.
Perhaps even more importantly, the development of nuclear fusion technologies is advancing. Despite a very long gestation period over the past 60 years, it is important to remember that knowledge in these areas can sometimes progress quickly. Experiments recently conducted in the USA and the UK have increased optimism about the feasibility and reinforced faith in the enormous possibilities for the practical application of nuclear fusion which is in principle far safer and far more efficient than fission technology. No doubt, this is why startups have recently begun work on developing technologies for the commercial use of nuclear fusion, such as Commonwealth Fusion Systems (CFS), financed by Breakthrough Energy Ventures, which has Bill Gates as one of its founders, and Marvel Fusion, based in Europe, among others.
Possible developments for the global South
The security-led energy transition in industrial economies will lead to significant technological advances and be pushed by enormous private and public money flows. So naturally, individual countries will attempt to promote these investments within their boundaries as much as possible. But there are significant limitations to this strategy. For example, Germany announced on March 8 an ambitious program to increase its domestic capacity to generate electricity from solar and wind sources. The plan includes, for example, an increase of more than four times in the power of wind generation added annually. It also includes proposals ultimately to replace all Russian gas with such wind and solar generation. To this end, it plans to reserve 2% of the country's surface for wind generation. That’s a lot of land! There are impacts on nature and biodiversity that need to be analyzed. The strategy will probably soon change towards guaranteeing additional clean energy from external sources that are geo-politically safer than Russia.
Given this background, the opportunities for the global South will undoubtedly increase. From the war in Ukraine to the development of nuclear fusion technology, there are three critical drivers for energy globally, with significant consequences for developing economies.
First, a wave of investments is underway to diversify the sources of gas (and oil) supplies in Europe and worldwide. If we are right, this wave will only increase. The investments will combine infrastructure, new sources of supply, and energy efficiency. In many cases, the expansion will require partnerships and funding to create this capacity outside the boundaries of major economies. Just as foreign direct investment and technology transfers in the 1990s and 2000s turned to durable consumer goods, it is very likely that in the 2020s, green investments will prevail.
Second, and as a result, new opportunities will appear for medium-term investments in renewable energy and green hydrogen. New technological solutions, new production capacity, and new training of personnel for the installation and operation of new structures will be required. To attract entrepreneurs and, especially, financing, it will be necessary to develop projects at scale. Hence, to take advantage of the growing sources of "patient capital" aimed at green investments, the global South needs to establish mechanisms of compliance, aggregation, and packaging of these investments.
Third, the change of the energy matrix towards greater participation of electricity — a trend that was already underway — will be accentuated. This will include the use of nuclear energy. Accordingly, more attention will be paid to nuclear technologies, digitization, construction of individual nuclear installations, and (for as long as fission technology is employed) storage.
These trends present themselves as challenges for the world. However, they also present significant opportunities for developing economies – many of which still require substantial investments to consolidate the energy sources needed for sustained growth. For these countries, it may now be the time to establish institutional bridges and international relations that allow us to attract technologies, partnerships, and patient capital.
What about Brazil?
For Brazil, the war in Ukraine and changes in the energy landscape bring immediate and long-term challenges. In the short term, high oil prices, a shock like what happened in the 1970s, will increase production and transportation costs in Brazil. This supply shock will add to the problems of disarticulation of production chains created by the pandemic, and will contribute to the inflationary surge we are observing. To deal with this shock without putting the country into recession and increasing unemployment beyond the current 11 million will be a short and medium term challenge that will haunt the authorities, whatever the outcome of the elections in October. And, in the longer term, it will compel Brazil to put energy security at the heart of its development strategy.
There are many challenges. But everything leads us to believe that, for different reasons, the opportunities for Brazil are more significant than in most other major global economies. We highlight three. In the short and medium term, energy from Brazil may be needed by other countries as they seek to respond to the demand for alternative energy sources. Hence, there is ample room to increase the export of the Brazilian gas that is burned today productively.
Second, awareness of the need to reduce dependence on fossil fuel, transformed into an energy security theme with the war in Ukraine, can lead Brazil to quickly accumulate "stranded assets" - those that end up suffering from devaluations or conversion to liabilities due to physical and transition risks, which are expanded by the increase in extreme events caused by climate change. Therefore, a vital issue in Brazil relates to the investments made to extract the immense reserves discovered in the so-called "pre-salt." The use of revenue stemming from these reserves to proactively finance investments in energy transition has been considered in the past. It may be a solution to the country's shortage of patient capital.
Third, in recent decades, the government has greatly expanded Brazil’s solar and wind generation – taking advantage of a technological advance beyond the expectations of many qualified observers. In 2022, wind generation capacity reached 21 GW of installed power, while solar reached the 14 GW, equaling the Itaipu plant. With a sustainable energy matrix, a broad experience with clean energies, and a history of entrepreneurship in the sector, "greening" and modernizing the energy matrix can be a fundamental part of a new axis of growth, job creation, and development for the Brazilian economy.
Brazil can and must combine energy transition with innovation. Success in transition depends on innovation. This means taking advantage of the new, emerging decentralized and digital models for energy. It also means that Brazil must take brave decisions on the production of new fuels — such as biogas (which is already growing significantly in Brazil), and green hydrogen, which has enormous export potential (especially after the Russian invasion of Ukraine broadened the desire of Europe, to increase its geopolitical security without damaging its decarbonization effort).
For this, Brazil needs to have a strategy and plan, develop technologies, promote and aggregate projects, and transform them into part of an articulated development program – connecting science and technology, economic diplomacy, international investment, workforce formation, advances in regulation, and so forth. Brazil will need simultaneously to tackle two significant bottlenecks: the generation of pipelines of energy projects and the promotion of innovation in technologies and business models. It will also have to change the relationship between public and private actions dramatically. In the past, state-owned companies have predominated in developing energy technology and solutions. Now the context is different. The country has entrepreneurs and resilient companies that can carry forward a new phase of development of the sector, more focused on the industry's future, in a way that is fully connected with the rest of the world.
Paradoxically, for the Brazilian private sector to prosper in this process, advances in regulation and public action are fundamental. It should be recognized that, in regulation, advances have already been made, for example, with ANEEL Normative Resolution 482/2012 — which regulated distributed generation, allowing the creation of new markets and the emergence of new ventures focused on renewable energies. However, there is more to be done, such as the improvement and expansion of regulatory advances such as the "tarifa branca", which enables different pricing for peak times of the day. Other improvements in regulation can usher in a new era of innovation, give consumers and producers more freedom, create markets, and promote the digitization of energy.
It is vital to avoid setbacks with choices that do not conform with economic rationality – such as the recent law that incentivizes buying and generating energy from coal. The primary justification for the law was to protect local businesses and employment. These should be a concern in any nation, particularly in one with double-digit unemployment rates. But the overriding aim must be to focus on building the future, on innovation, on the transition of the economy, the development of new skills, and the requalification of the workforce.
It is still necessary to rethink the role of the State, requiring a new "conversation," overcoming the obsession with tying the hands of the state. The role of the state is particularly critical in investment financing. Here there are both old and, more significantly, new challenges. For example, investments in the energy sector are historically linked to the creation or expansion of capital-intensive assets, with high sunk costs and long-term maturing of investments and return. To these "old" challenges, is now added the need to finance the energy sector of the future. In this future energy economy, much of the necessary investment will be associated with smaller-scale projects, with enormous potential for innovation and the creation of green jobs. This applies in the case of assets related to decentralized clean energy, but also connectivity and innovation in technologies and processes.
Even in countries with sophisticated financial systems and high degrees of financia integration, there is often insufficient provision of financing with appropriate deadlines and costs. Policy instruments such as public banks, and especially development banks, can help a lot, as a recent study shows. Even in developed economies, these banks support the origination and aggregation of projects in pipelines and create bridges to capture specialized capital in the national and international markets. But in developing economies they can also help by developing instruments and markets, piloting models, and accelerating the growth of the green finance sector. These institutions must have the ability (and the mandate) to get in fast when opportunities are offered, and – that's very important! – to leave when agents and private markets start to meet these needs.
Across the globe, times of crisis have often stimulated individual firms and national governments to launch new projects from which have come sources of prosperity subsequently admired. This was the case with the United States at the beginning of the last century, in Europe and in post-war Japan, and in the newly emerging Asian economies in the turbulent 1980s and 1990s. Brazil has already missed many opportunities; but it now has one more chance to redefine its growth and investment strategy and to launch a new development model. In an unprecedented social and economic crisis, this redefinition has never been more indispensable and urgent. But, of course, Brazil is going to have to make choices. Choosing the future rather than the past should be at the top of its priorities.