‘Energy should act as a policy model in the greening of other sectors’

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STRENGTHENING climate policy signals beyond the energy sector and reducing regulatory uncertainty can help to open up and drive investments into new markets for green goods and services.

These are the findings of new research by the Grantham Research Institute on Climate Change and the Environment at the London School of Economics and Political Science.

The research finds that energy sector firms with higher revenues derived from green goods and services are associated with better economic performance and with higher market valuations.

However, the research also finds that firms producing green goods and services tend to have lower asset turnover than other firms, perhaps reflecting both more recent capital investments and higher investment costs.

Report co-author Misato Sato, an Assistant Professorial Research Fellow at the Grantham Research Institute and Deputy Director of the Centre for Climate Change, Economics and Policy, commented: “The lower operating efficiency of assets explains why higher profit margins do not translate into higher profitability.

“A notable exception is the energy sector, where firms with higher green revenues on average have higher profitability, and better stock market performance.”

Only in the energy sector, where there is strong public policy support, does the research find evidence that firms can convert higher profit margins into higher returns on investments through shifting to greener production, as reflected in stock market performance.

The authors highlight how comprehensive policy frameworks in the energy sector have helped to decarbonise key emissions-intensive sectors, and have triggered shifts in technology and investment towards carbon neutrality.

The research, which also looks at how ‘going green’ affects firms’ performance in consumer and financial markets, finds that finan\cial markets responded positively to the success of the Paris Agreement as it reduced the uncertainty surrounding climate change regulations.

Co-author Tobias Kruse, former doctoral researcher at the Grantham Research Institute, quipped: “We found robust evidence that financial markets do indeed respond to reduced regulatory risk, as evidenced by rising confidence in green markets.”

According to the findings, firms in the United States that are engaged in the commercialisation of green goods and services on average experienced a significant stock price increase of 10 per cent in the week following the unexpected success of the Paris Agreement.

This increase is equivalent to an increase in market capitalisation of around US $200 million per firm, and an aggregate increase in the market capitalisation of the 63 ‘greenest’ US firms of US$12.6 billion.

Co-author Josh Burke, Policy Fellow at the Grantham Research Institute, commented: “To mobilise the large-scale investments in green products, production technologies and services necessary to meet mid-century net-zero carbon goals, policies that help create clearly distinguished markets for green goods and government support for financing the costs for green investments are required.”

The research suggests that policy support can correct market failure and harness the ability of markets to allow the private sector to pursue a low-carbon transition and deliver public goods.

It also finds evidence to suggest that greater policy intervention across a broader spectrum of the global economy may be required to align incentives to develop new, cleaner products and services that not only improve firms’ environmental performance but also their economic and financial market performance.

Co-author Myra Mohnen, Assistant Professor at Economics Department of the University of Essex, added: “The potential trade-off between the environmental performance and the economic performance of firms has been used to oppose stringent environmental policies.

“Our findings support the growing evidence that no such trade-off needs to exist with the right policy framework in place.”