- Macro Strategist
United Kingdom, Intermediary
Change
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While every global region will feel the effects of climate change, Asia’s developing countries face outsized challenges. Home to more than 80% of the world's population, emerging Asian countries are responsible for 50% of greenhouse gas emissions.1 Asia will grapple with increasing physical climate perils along with tremendous costs of the decarbonization needed to manage climate transition risks.
Many Asian governments, aware of the climate challenges they face, have pledged to implement risk-mitigation policies (Figure 1). China has committed to achieving carbon neutrality by 2060, for example. India aims to achieve net-zero emissions by 2070, and Vietnam by 2050. Reaching these targets will require countries to significantly reduce emissions while maintaining economic growth. Historically, these two objectives contradicted one another, heightening the overall challenge for emerging Asian countries.
Figure 1
Asia’s decarbonization process, while tricky, should not only decrease transition risks, but also create meaningful medium- to long-term investment opportunities across sectors. The low-carbon transition may enable countries to leapfrog traditional energy development by building renewables-based systems that are efficient, resilient, and significantly less expensive than those based on fossil fuels. Eventually, this leapfrogging could accelerate emerging Asia’s ability to decouple both emissions and energy use from economic growth, with potentially transformative outcomes.
Reducing energy intensity
While the goal of the energy transition is to reduce carbon emissions, in most countries, the decarbonization journey starts with reducing energy intensity (energy use as a share of GDP) — primarily through energy efficiency gains. Today, the efficiency improvements made in some developed, industrialized economies have led to reductions in energy intensity as well as absolute energy use. The US and Sweden, among others, have begun to decouple energy use from growth as a result (Figure 2).
Figure 2
In fast-growing emerging Asia, energy use remains high (Figure 3), as do production and carbon intensity. Given the pace of industrialization, urbanization, and population growth, emerging Asia’s GDP will likely remain energy intensive for quite some time. In fact, as Vietnam, Malaysia, and Thailand increasingly become “factories to the world” amid the shift in supply chains away from China, their energy use is growing faster than GDP. Because reducing absolute energy use at this stage of a country’s development is impractical (if not impossible), we expect to see increasing investment across emerging Asian countries to reduce their energy intensity by improving efficiency.
Investments needed to drive energy efficiency
- “Smart” buildings
- Meters and digital sensors
- Energy-efficient windows, light bulbs, and appliances
Figure 3
Reducing carbon intensity
While many developed markets are further along their transition journey, owing to both efficiency gains and the expansion of renewables in the energy mix, data suggests emerging markets’ transition could move faster. China’s recent progress, as well as societal and geopolitical pressures across emerging Asia suggest that these markets will be able to lower carbon’s economic intensity faster than the trajectory in developed markets. As the left side of Figure 4 shows, China’s development miracle of the past 20 years was accompanied by a steep rise in energy demand. It makes sense that as India catches up and other emerging Asia countries accelerate development, this growth will drive similar energy-consumption booms. Following years of efficiency gains and use of renewables, however, China has begun to decouple emissions from growth — despite continued increases in energy consumption (right side of Figure 4).
Figure 4
China’s shifting emissions trajectory makes us optimistic that if India and other Asian countries can start to decouple their energy production (which is still at relatively low levels) from GDP, they may also be able to separate emissions from growth before their energy use peaks. This will not be easy. Or cheap. But it could happen faster than expected, given the potential for developing countries to leapfrog over energy systems reliant on fossil fuels straight to renewables, at tremendous savings in the medium to long term.
Investments needed to drive decarbonization
- Electric vehicles (cars, trucks, and scooters)
- Electrifying the power grid
- Clean steel and cement production
- Minerals and mining
Assessing transition risks in emerging market sovereign debt issuance
Our sovereign ESG risk-assessment framework spans environmental, social, and governance factors. In the climate context, we evaluate physical and transition risks to determine potential exposure to financially material impacts and understand governments’ mitigation actions. Our goal is to understand potential impacts on sovereign yields, which can feed through to the value of portfolios we manage on our clients’ behalf.
We separate transition risk into supply- and demand-side indicators. Supply risk analysis accounts for fossil fuel exports and readiness for the low-carbon transition. Demand risk analysis captures the change in emissions per GDP over the past five years. We assess both current levels and progress, using quantitative data to inform our views: positive, neutral, or negative direction of travel. For example, emerging market countries that are phasing out coal through so-called bridge fuels like liquefied natural gas are generally “positive,” while countries with no transition plans or progress are “negative.” Finally, we have a separate framework to evaluate government capacity and willingness to address transition risks, and we engage with sovereign issuers on a regular basis.
The potentially transformative effect of leapfrogging
Over the past few decades, many developing countries have leapt directly to building mobile telecommunications and distributed financial services networks run on digital technology (entirely skipping the build-out of landline telephone networks or brick-and-mortar banks). The reason they were able to do this has to do with the electronics cost curve. As the computing power needed to run mobile devices became faster and more efficient, associated costs fell. The analogy holds true for renewable energy, relative to fossil fuels.
The current cost to generate energy from hydrocarbons (coal, gas, and oil) is about the same as it was 150 years ago, after adjusting for inflation. There have been massive technological advancements in drilling, mining, and power generation, but because fossil fuels are a finite resource, the more they are extracted, the scarcer they become. As a result, prices remain elevated. Renewable technologies have a dramatically different cost trajectory for two reasons. First, their power sources (sun and wind, for example) are infinite; second, they are modular and can benefit from economies of scope and scale. Over the past decade, the costs to produce solar and wind energy have dropped by 89% and 70%, respectively.2 As their associated technologies improve and market penetration accelerates, it is likely that cost declines will continue.
In the medium to long term, the economic benefits of the leapfrog path to decarbonization (particularly for countries that don’t use very much energy today) could be transformational. Economists refer to energy infrastructure as general-purpose technology, with vast applications. Transitioning the energy system, along with complementary advances in communications, data processing, and artificial intelligence could lead to a medium-term economic transformation that is hard to imagine today. Future industrialization could be powered by energy systems characterized by low-carbon sources whose costs decrease with scale.
Closing thoughts
The energy transition is just beginning in Asia’s emerging markets, and the trajectory remains uneven. Current investment opportunities are concentrated in sectors directly related to decarbonization, including renewables, utilities and the grid, electric vehicles, and adjacent activities such as mining and refining of critical raw materials. As the transition gains momentum, investable opportunities should extend to additional sectors, including construction, transportation, industrial production, agriculture, and others. Over time, we expect decarbonization to be a total-economy effort. As rapidly industrializing countries realize the tangible economic benefits of decarbonization (on top of fulfilling national net-zero pledges), the pace of the energy transition is almost certain to accelerate.
While investments in adaptation and resilience are needed to stem physical climate impacts, the structural solution to mitigating physical climate risks is for countries to emit far less heat-trapping greenhouse gasses over time and accelerate at scale carbon removal and storage solutions. And for countries across the developing world, including emerging Asia, the key is to lower the economic intensity of carbon without hampering economic growth and development.
1Now 8 billion and counting: Where the world’s population has grown most and why that matters,” UNCTAD, November 2022; “Who emits the most CO2?,” Our World in Data, 2017; ClimateWatch | 2Ritchie, H. et al. “Renewable Energy: The price decline of electricity from renewable energy sources,” Our World in Data. | Data as of 2019.
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