Covid-19 and the environment: a ray of light?

Jeremy Lawson, Chief Economist,
Amanda Young, Global Head of Responsible Investment

The most acute impacts of the Covid-19 pandemic have been on people’s health and financial security. However, the outbreak has also highlighted the toll that regular human activities have on our environment, and in particular climate change and air pollution.

While the current recession is significantly reducing greenhouse gas emissions in the short term, there will inevitably be a spike when the pandemic subsides and economies begin to recover. Meanwhile, other environmental risks have re-emerged as the pandemic has spread.

However, there may be a long-term environmental silver lining to the Covid-19 cloud. By taking advantage of low interest rates and the ongoing rapid decline in the cost of renewable technologies, there is an opportunity to ‘green’ the recovery. Investors who focus on environmental, social and governance (ESG) issues have a critical role in allocating capital to ensure that the transition to a low-carbon and more sustainable economy accelerates.

Clear skies – but for how long?

With much of the global economy in lockdown, improving air quality has been one of the few positive manifestations of the Covid-19 crisis.

Daily carbon-dioxide emissions have fallen by around a third in the UK since lockdowns began. Nitrogen-dioxide emissions in Chinese cities have fallen by as much as 25%. And in New York, carbon-monoxide emissions have been reduced by nearly 50%. Goldman Sachs estimates that the world’s energy-related CO2 emissions are likely to fall by at least 5.4% (1.8 GtCO2) in 2020 in absolute terms. By an order of magnitude, this would be the largest decline on record.

Unfortunately, at least some of this reduction in emissions is likely to be temporary. As economies resume growth, emissions will naturally rise quickly for at least a couple of years. The key question is whether this spike will mark a return to ‘business as usual’ or will give way to more concerted efforts to break the link between growth and emissions.

An opportunity for a climate-friendly recovery

The good news is that the recession represents an enormous opportunity to accelerate policy change.

The good news is that the recession represents an enormous opportunity to accelerate policy change. A growing body of evidence suggests that fiscal stimulus directed towards clean-energy projects will have higher economic and job multipliers than other spending actions. Critically, there are already signs that governments in European and some Asian countries are seizing the initiative by strengthening their climate goals and policies.

Official actions are also likely to be reinforced by persistent behavioural changes. Businesses may forgo some international travel as video calls become more viable ways to communicate. And more agile working patterns could also reduce transportation emissions by lowering commuting travel.

But no room for complacency

However, continued progress cannot be taken for granted. In the US, for example, the federal government is currently taking steps to weaken auto-emission standards and is even stripping California of its ability to diverge from national standards.

In addition, fossil-fuel-centric energy firms have benefited more than renewable energy firms from crisis-related loan support. Even in Europe, the largest airline association is asking the authorities to waive or at least delay new legislation that would constrain future emissions. And with oil prices having fallen to their lowest levels for nearly two decades, a resurgence in driving, and the purchase of high-emitting vehicles is a very real danger.

International efforts at risk

More generally there is a risk that some governments will postpone scaling up their targets and policies as they prioritise short-term growth over long-term sustainability.

To that end, the COP-26 climate summit originally scheduled to take place in Glasgow later this year has already been pushed back until 2021. This was to be the most important UN climate conference since the Paris Agreement was signed in 2015 at COP21, because of the expectation that most countries would strengthen their commitments to reduce carbon dioxide emissions.

The postponement is not necessarily a bad sign as officials seek to travel less, focus more on the immediate crisis and take time to carefully consider their climate objectives. But given the importance of building on the original Paris goals, next year’s summit will be a critical litmus test of governments’ ambitions, including that of a just transition that protects vulnerable communities, particularly in developing countries.

Re-emergence of other environmental risks

After positive progress over the past two years, pollution related to the use of plastics has increased during the crisis. This is a result of the need to reintroduce single-use disposable plastics. Examples range from takeaway cups to protective equipment like face masks, with increased demand reinforced by government actions like the waiving of charges on supermarket carrier bags. Meanwhile, with shops closed, retail firms are experiencing significant increases in online deliveries, requiring vast quantities of plastic packaging.

This increase in plastics use could last for some time and has two major negative implications. First and most obviously, it will create more plastics pollution. But second, it could delay the broader movement towards the circular economy.

This crisis has also highlighted the dearth of systems facilitating the transition to zero-waste lifestyles. The investor imperative is to use the crisis to expose the structural impediments to reducing plastics use and promote more innovative solutions. Investors should use their voice with their companies, particularly in exposed sectors such as the retail sector, to encourage newer models of operating that address these structural challenges.

Some positive impacts on the environment

Overall, the increased prevalence of remote working and client communication models should reduce greenhouse gas emissions. However, some by-products of more agile working will negatively affect the environment.

Take the way it will further increase internet usage, which in turn will require greater support from data centres. Estimates suggest that internet traffic has already increased by 70% this year, with streaming up by 12%. And while data centres account for just 2% of global electricity consumption at present that could rise to 8% by 2030.

The ultimately effect on the environment naturally depends on the source of the energy needed to power these centres. Today, most comes from fossil fuels. In China, for example, 73% of data-centre power comes from coal. Meanwhile, only 4% of Google’s data centres are powered by renewable energy, despite the company’s pledge to move to 100% clean energy.

At a corporate level, some of the biggest facilitators of the shift to greater online work and consumption are not helping the situation. Amazon, Facebook and Microsoft have all been criticised for expanding their data centres without securing additional supply of clean energy. Investors in these technology companies will therefore need to encourage a faster move to cleaner energy sources, in order to avoid adverse environmental impacts.

How is the private sector responding to the crisis?

Many industries have been hit hard by the government restrictions imposed to fight the Covid-19 pandemic and the demand destruction that has resulted from those restrictions. The aviation, retail, hospitality, oil and gas sectors have been particularly badly affected.

The aviation sector is in many ways the epicentre of the crisis. In the near term, travel volumes have collapsed, it will be one of the last sectors to benefit from an easing in restrictions, and even then some social-distancing measures will apply and weigh on demand.

The oil & gas industry is also coming under intense pressure thanks to the way collapsing demand has combined with oversupply to crush prices. Companies are slashing their capital-expenditure plans to ease the pressure on margins, but there will still be an increase in defaults over the coming months, particularly among the highly leveraged players.

Understandably, companies are asking for government support and a relaxation of regulations to tide them through the difficult times. Easyjet has already received a £600 million loan. The European Airline Association has asked to be exempted from new emissions standards. And the Canadian Association of Petroleum Producers is reported to have requested the suspension of more than 30 environmental regulations.

In our view, such approaches are extremely short-sighted. They seek to ease near-term pain while fuelling a longer-term climate catastrophe. While some financial support may be necessary, the terms and conditions must include strict emission reduction goals.

The pressure is (still) on

On a wider view, the Covid-19 crisis provides a glimpse of what can happen when a long-standing risk materialises but nations have failed to prepare. We cannot allow the same thing to happen with climate change.

It is already the case that government and corporate targets fall short of what is necessary to limit global warning to less than 2˚C above pre-industrial levels. But fortunately, there is still time to take more aggressive action.

Overall, we therefore expect companies’ long-term emission-reduction targets to remain in place and indeed to become more ambitious. Shell is an example of a company taking steps in the right direction. It has scaled up its ambitions recently, despite the crisis, and is seeking to reorient its business towards low-carbon energy sources.

The questions we are asking

For ESG-focused investors, the challenge is to engage with companies and policymakers to ensure that the recovery strengthens rather than weakens the effort towards climate-related objectives.

As institutional investors with a strong focus on ESG issues, we have a crucial role to play in influencing governments, businesses and the public to take the proper path: maintaining a longer-term focus and ensuring that climate-change goals are not sacrificed when planning for growth in the future.

Some of the questions we have been asking companies are outlined below:

  • Are any areas of your business identifying an increased environmental risk as a consequence of Covid-19?
  • How does Covid-19 affect a company’s commitment to its medium/long-term environmental targets?
  • How do you look to achieve emissions targets for 2020 and sustain the reductions achieved because of Covid-19?
  • For internet and technology companies: what is the strategy for powering data centres by renewables? How is increased internet streaming affecting emissions? Are there cost implications for your business?
  • How do you seek to integrate the ‘circular economy’ into your strategy, products and service? Has your approached changed given the challenges the world currently faces?

Engagement insight: Air Liquide

This company specialises in industrial gases. We spoke to its management to gain a better understanding of the company’s approach to ESG and how it is managing the key ESG risks and opportunities. Given the carbon-intensive nature of its business, the company sees climate change as its biggest risk. It is working actively to reduce the intensity of its emissions and to develop low-carbon solutions. During the coronavirus crisis, the company has also been providing respiratory devices and oxygen to hospitals.

Engagement insight: RWE

This is a German electrical-power company. In our engagement with RWE, we have focused on its approach to sustainability: specifically, its energy-transition strategy and its reduction targets for carbon emissions. We have supported the company’s introduction of a net-zero emissions target for 2040, but we are also actively encouraging continuous improvement in its climate policy.
Among these are the inclusion of scope-2 and scope-3 emissions in the company’s targets, the introduction of near-term and medium-term targets, and the publication of a clear roadmap setting out how the 2040 target is to be reached. We have also encouraged continued reassessment of RWE’s coal production and the feasibility of accelerating the phasing out of coal against considerations of energy supply and labour impact.
In response to the coronavirus, RWE has retained its commitment to reducing its coal exposure and to investing in renewable power generation. In our engagement, the company’s representatives said that they believe that Europe’s long-term momentum on climate change remains intact.

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Risk warning

Risk Warning

The value of investments, and the income from them, can go down as well as up and you may get back less than the amount invested.