carbon bubbleThe idea that a large proportion of the world’s proven fossil fuel resources would be unburnable in any reasonable climate change control scenario has fed a growing body of analysis over the last year, all of it suggesting that carbon could become the next housing bubble.

If the outcome doesn’t go that way, it will mean national governments are propping up a multi-trillion-dollar global industry, almost literally by not lifting a finger. The argument for unburnable carbon rests on the assumption that nations will have to do something substantial, sooner rather than later, to minimize the risk of runaway climate change. But the carbon won’t be unburnable if climate policy remains at a standstill.

On the other hand, if the prospect of serious limits on greenhouse gas (GHG) emissions translates into real policies, the European Union’s plan to impose an import fee on Canada’s “dirty oil” may be just the opening act. If that’s the way the story unfolds, more and more fund managers will have to take notice. And that’s when the investment community could gain prominence as a new front in the campaign for low-carbon energy futures.

Do the Math

The conversation about unburnable carbon broke into the public domain last year with a Rolling Stone exposé by Bill McKibben, co-founder of 350.org. The argument, carried in a growing wave of research reports, magazine articles, and blog posts over the last six to 12 months, is that fossil fuel companies may be sitting on trillions of dollars of overvalued assets. They know where the resources are, they’re exploring for more, and their balance sheets express the unmistakable expectation that those resources will go into production.

But with a serious enough effort to get GHGs under control, those assets will be stranded.

McKibben brought the climate challenge down to three numbers:

  • 2° Celsius: The compromise target, arrived at during the 2009 climate summit in Copenhagen, for limiting the increase in global temperatures due to climate change.
  • 565 gigatons: The carbon dioxide humans can afford to pump into the atmosphere through mid-century if we want a four in five chance of meeting the 2° target, “somewhat worse odds,” McKibben noted, “than playing Russian roulette with a six-shooter.” Two things are true about 565 Gt: It’s a huge number, almost incomprehensibly huge unless you can proudly call yourself an energy nerd. And, at present rates, we’ll blow through the target around 2029.
  • 2,795 gigatons: The carbon contained in the world’s proven oil and gas reserves.

The ‘Numbers People’ React

The UK-based Carbon Tracker Initiative kicked off much of the discussion with the release of its Unburnable Carbon report in 2011. It estimated that, “if the 2° C target is rigorously applied, then up to 80 per cent of declared reserves owned by the world’s largest listed coal, oil, and gas companies and their investors would be subject to impairment as these assets become stranded.” With those words, Carbon Tracker began capturing analysts’ and researchers’ attention with the source material they value most: the numbers.

  • In February, HSBC Global Research calculated that oil and gas multinationals could lose up to 60 per cent of their market value if the world cuts its carbon emissions to limit climate change. According to a February 3 summary on the Responding to Climate Change (RTCC) blog, “reduced demand for fossil fuels could force down oil and gas prices, meaning that between 40 and 60 per cent of leading fossil fuel firms’ current market capitalization—essentially their net worth—could be at risk.”
  • In March, the Canadian Centre for Policy Alternatives calculated that 78 per cent of Canada’s proven reserves, or 89 per cent of proven and probable reserves, would have to stay in the ground to meet a low-carbon objective. “By not accounting for climate risk, large amounts of invested capital are vulnerable to the carbon bubble,” CCPA stated, and with one-third of the $1.1 trillion in trusteed funds invested in stocks, “pension funds and other institutional investors need to be part of the solution.”

A Turning Point?

The conversation about unburnable carbon is just beginning to take shape, but it may be a turning point in the conversation about climate change, energy choices, and—most significantly—energy investment.

By their nature, financial markets are supposed to be risk-averse. The principle may not be applied with great consistency—think of the turn-of-the-century dot.com boom or, for that matter, the 2007/2008 housing bubble. But in energy, the search for steady, predictable investments has generally played in favour of established industries, to the detriment of low-carbon supply sources and aggressive energy efficiency measures.

But if investors pay close enough attention to the climate crisis and its implications for fossil fuel investment, they’ll get worried. That possibility led sustainability writer Paul Gilding to pen a March 20 blog post with the counterintuitive title, Victory at Hand for the Climate Movement?, in which he speculated that “the fastest and most dramatic economic transformation in history” could be ushered in by several overlapping influences:

The resulting transformation “would include the removal of the oil, coal, and gas industries from the economy in just a few decades and their replacement with new industries and, for the most part, entirely new companies. It would be the greatest transfer of wealth and power between industries and countries the world has ever seen.”

The tone of Gilding’s post was more astonished than certain. But the prospect of unburnable carbon introduces an important and, at this point, unpredictable new element into the conversation about energy and climate. It isn’t a sure bet—not nearly—that fossil fuel companies’ balance sheets will go up in smoke. But if large numbers of investors begin to fret about those companies’ basic viability, their attention and financial resources could shift quite suddenly toward low-carbon alternatives.