Capitalism Can’t Solve Climate Change

Amidst the gathering gloom about climate change and continuing growth in global greenhouse-gas emissions, the one bright spot appears to be clean energy development. 2023 saw another, much-trumpeted record for renewables installations worldwide, with an estimated 507 GW of new generating capacity being nearly 50 percent higher than 2022’s figure.

The positivity is misplaced. Even on the transition from dirty to clean power, the world is still failing. The International Energy Agency (IEA) has estimated that both electricity generation from coal and gas, and total power-sector CO₂ emissions, continued to grow in 2023, to all-time highs of 17,252 TWh and 13,575 Mt CO₂, respectively. In other words, even as renewables are growing fast, they are not yet growing fast enough to displace dirty power generation, which remains the single largest source of greenhouse-gas emissions.

Worse still, the world is failing on the energy transition for reasons that strike at the heart of capitalist economies, and which will therefore be very difficult to surmount. The core issue here is easy to state. Most countries are relying predominantly on the private sector to drive faster renewables investment; private firms invest on the basis of expected profits; but profitability in renewables is rarely attractive.

Stick with an approach to climate change mitigation in which the private sector continues to be seen as the savior, and we are setting ourselves up to continue to fail.

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Veiled by discussion of headline global trends in new renewables capacity investment is the fact that almost all the incremental progress is currently being made in one country: China. Trumpeting 2023’s 50 percent growth in annual global capacity installations as a global achievement is wrongheaded, given that China by itself delivered nearly 80 percent of the increment.

And the IEA, for its part, expects China to continue to be the sole meaningful over-achiever. It recently revised upwards by 728 GW its forecast for total global renewables capacity additions in the period 2023–27. China’s share of this upward revision? Almost 90 percent.

While China surges ahead, the rest of the world remains stuck.

This raises a crucial question. What is different about the development of solar and wind resources in China from the rest of the world?

The main answer is that in China, such development is capitalist in only a very limited sense. Certainly, the entities centrally involved in building out new solar and wind farms in China are companies. But almost all are state-owned. Take wind. Nine of the country’s top 10 wind developers are owned by the government, and such state-owned players control in excess of 95 percent of the market.

Moreover, the state is far from being a passive shareholder in these companies. The companies are best seen as instruments wielded by the state in the service of achieving its industrial, geopolitical, and – increasingly – environmental objectives.

The best example of this concerns the gargantuan ‘clean energy bases’ first announced by President Xi Jinping in 2021. To be built mainly in the Gobi and other desert areas by 2030, these new bases will have a combined capacity of in excess of 550 GW – more than Europe’s total solar and wind capacity at the time of this writing.

Such development is as far from ‘capitalist’ as is imaginable. This is the state, in its most centralized and authoritative form mustering whatever resources it needs at its disposal to ensure that it delivers what it has said it will deliver.

Add to this the fact that the banks financing all the new renewables development in China are generally also state-owned and directed, and a stark reality comes into focus. This is essentially central planning in action.

Does the profit motive figure? To be sure, it does. But usually only marginally, and it is ridden roughshod over whenever Beijing deems fit.

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In the West, by contrast, the energy transition has effectively been outsourced to the private sector. Governments are by and large relying on private firms, driven by the profit motive, to substitute carbon-free for fossil-fuel-based power generation resources.

Of course, this does not mean that governments in the West play no role in the energy transition at all. They fashion and (indirectly) regulate the markets in which renewables developers and generators operate. They set targets for the scale and speed of decarbonization – although it is debatable how seriously such targets are, and should be, taken.

Most importantly of all, Western governments all provide support mechanisms of various kinds designed to incentivize new renewables investment, whether it is the United States’ tax credits or the feed-in tariffs and premiums more familiar in non-US markets.

But in two key senses, this is a very different government role than in China.

Firstly, Western governments do not direct renewables development. They merely ‘nudge’. The Chinese authorities nudge too, but always with a willingness to move into hands-on direction mode when necessary.

Secondly, Western governments typically do not own and operate renewables generating facilities. The lion’s share of such facilities – more than 95 percent of installed capacity – are owned and operated by the private sector: the exact mirror image of the renewables ownership picture in China.

The West’s reliance on the private sector to decarbonize power generation is proving a major problem, and for a strikingly simple reason, albeit one that is almost never acknowledged.

Under capitalism, profit expectations drive companies’ investment decisions. Developing and operating solar and wind farms and selling the electricity they generate, however, generally is not a very profitable business.

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How profitable are wind and solar power generation? What sort of returns do investors earn? Inevitably, there is no single, consistent answer: returns vary – often considerably – both historically and geographically. But most analyses of the issue conclude that an internal rate of return of around 5–8 percent would be what investors on average expect and achieve.

Little wonder, then, that companies accustomed to much higher returns than this serially thumb their noses at renewables. Most notable here are the big U.S. oil and gas companies, which typically do not proceed with new hydrocarbon projects unless returns of a minimum of 15 percent are anticipated. Asked at his company’s 2015 annual meeting why Exxon continued to snub solar and wind, CEO Rex Tillerson responded witheringly, ‘we choose not to lose money on purpose’.

Why are renewables returns so low? Numerous factors conspire to drive down profits, but one is particularly important: competition. Generating and selling electricity – an undifferentiated commodity – is an intensely competitive business in most Western countries, and the growth of renewables has made it even more so. Barriers to entry are low, and sources of market power more or less non-existent. There is no OPEC-like cartel in renewable electricity.

The alarming upshot – marginal profitability and hence stuttering investment in new capacity – obtains across the West even though the costs of key components declined significantly in the 2010s. Lacking market power, renewables generators were unable to capture the upside of these cost reductions.

And the upshot obtains even though robust government support for renewables remains a ubiquitous feature of the Western political-economic landscape. Even as such support helps render new investment viable, it seldom insulates generating firms from competitive pressures. Indeed, some support mechanisms, such as the reverse auctions used in many countries to award renewables contracts, structurally encourage and exacerbate price competition.

In short, Western governments’ renewables subsidies rarely occasion strong profits. More commonly, they allow just about sufficient profit to keep the sector afloat. Noting that his own firm, Berkshire Hathaway, received tax credits when building wind farms, Warren Buffett once conceded: ‘That’s the only reason to build them. They don’t make sense without the tax credit’.

The ongoing necessity of subsidy for renewables development is evidenced by what happens when subsidies are withdrawn or even just substantively reduced. As occurred for instance in the UK’s onshore wind sector in 2018 and Vietnam’s solar sector in 2021, investment collapses.

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The consequence of all this is that Western policymakers face a choice that will only get starker as emissions continue and global temperatures further rise.

That choice is between two unpalatables. One is to moderate the still-strong faith in the ability of markets and the profit motive to deliver an accelerated energy transition, with governments instead adopting a much more directive role.

The alternative? To face a growing risk of climate catastrophe.