Unlocking the Energy Transition’s Economic Benefit

Speaker 1 [00:00:01] Hi, it's John here. Today we're trying something completely different. I'm co-hosting and co-producing this episode with another pod, the ARC Energy Ideas podcast with my energy friends, Peter Tertzakian and Jackie Forrest. If you don't know Peter and Jackie's Show, it's really worth listening to. They know a ton about energy. They get into great debates and host some of the countries and the world's top energy thinkers. They recently invited me to join them to talk about our big new climate report, Double or Trouble. And I thought, hey, why don't we double our impact and have them on our show too? So today you'll hear some of my conversation with the ARC Energy Gang, and if you tune in to their pod, you'll capture some of the same conversation and some elements we won't get to in this episode. I wanted to get their take on clean tech and where we're headed this year. Whether it's hydrogen or EVs or heat pumps. It's a much bumpier year for innovators, what with higher interest rates and consumer resistance. What should we make of Apple's decision to pull back from the EV sector? Why aren't we seeing bigger industrial projects in Canada? And what will elections mean in the U.S. and Canada and Europe to clean tech subsidies? Peter and Jackie have different views on those questions and a lot of other things, as do I. But we agreed this will be a critical year, maybe even a make-or-break year in the climate journey. And a lot of it will come down to technology and whether it can transform our economy fast enough. This is Disruptors, an RBC podcast. I'm John Stackhouse.

[00:01:45] I'm speaking today with Peter Tertzakian and Jackie Forrest of the Arc Energy Research Institute in Calgary. Peter and Jackie, welcome to disruptors.

Speaker 2 [00:01:54] Thanks for that, John.

Speaker 3 [00:01:55] Yeah, thanks.

Speaker 1 [00:01:56] I know we're going to talk about our report, Double or Trouble, but I want to start first with your views of where we're heading in 2024 in cleantech. Certainly it's a lot harder in this higher rate environment. We've seen a big decline in clean tech stocks and a lot of concerns about the viability of some big, ambitious projects. Maybe broadly, Jackie, I can start with you. Are you feeling bullish or bearish right now about clean tech?

Speaker 2 [00:02:21] I think on certain sectors I'm feeling quite bullish, right. If you look globally, something like 90% of all the spending is really in a couple of categories. Wind, solar to these scale type investments. And EVs are really taking off this year. EVs actually total spending in EVs was higher than wind and solar renewable energy. So that's an area where yeah, people are disappointed this year because maybe it grew less than they expected. But but they all grew substantially still this year. And of course, when you're starting at a small base, it's easy to have big growth rates as you get bigger and bigger. I think it makes sense that the growth rate slows at bit. So I'm still really excited. I mean, those are technologies that are ready. They're economic, they're scaling up, and I think you're going to do quite well in them. And hey, the stock markets have fallen quite a bit from 2021. But I think a lot of that was they were too frothy. I think we're getting into a point where maybe these businesses are valued a little closer to what they should be. Things like hydrogen, carbon capture, storage, even biofuels actually shrunk last year. So there are certainly segments that are much, much smaller. And just to give you a sense of something like 1.8 trillion spent on clean energy last year, how much do you think hydrogen was globally?

Speaker 1 [00:03:30] I don't think I want to guess.

Speaker 2 [00:03:31] It was 10 billion. So I mean, these are just really small areas and it's going to take a while to scale up and get experience. I'm excited by them, but I think there's probably a little bit of hype in them too.

Speaker 3 [00:03:41] I think selectively bullish and selectively bearish is how I would come at it. Like if you look at wind and solar, they garner about almost half of global spending. And wind and solar farms make money. And then if you look at EVs, LED light bulbs, heat pumps those are at the consuming end. Like right at the end of the supply chain of the jewels wind and solar, right up front, it's the midsection of the energy complex that is very difficult to finance right now. And that's why hydrogen, I think, is garnering less, CCS all these industrial processes, because their cost curves are not coming down as compellingly as the front end of the energy supply chain and the back end of the supply chain. And by the way, retrofitting infrastructure is very, very expensive. And so the investor basically says, okay, that's a risk. So I'm going to put my money somewhere else. So I call this a barbell transition. The front and the back end are doing well. It's the middle that's really problematic.

Speaker 2 [00:04:47] You know, the stuff in the middle. I would just comment. The costs are high now. The hope is that they come down just like wind, solar and batteries did. But it took ten years for that to happen for those technologies. So it may not happen overnight.

Speaker 1 [00:05:00] You talked about the risks of the barbell which include supply chain disruptions. Yeah. Do you think the market's going to sort that out. Because there would be a greater incentive on one level to flow capital into that middle tier as the demand at the two ends of the barbell row. Is the market going to take care of that?

Speaker 3 [00:05:16] I'm not sure it is because capital markets migrate to where they can best make money. And so right now the money is going to other segments of the economy, which is very exciting, bullish with near-term returns. And also I believe the market is smart. Investors are sophisticated. They say something like hydrogen. That's a 2030 story, right by the time the technology gets there. So okay, you know, I'll wait till 2030. Well that becomes kind of a self referring lack of finance for the midsection.

Speaker 2 [00:05:46] Right. And another issue with the midsection is it's like things like transmission and infrastructure for our electrical systems. There's a lot of processes, regulatory processes. It is not really a free market. So I wonder if it can respond as fast as it needs to as demand starts pulling harder and harder. I mean, we're we're all talking about that, but I think that's another constraint.

Speaker 1 [00:06:13] We should talk a little bit about EVs, because even for people who don't own an EV, they'd probably have an opinion. It's really interesting what's going on out there. There is China's excess production. We've seen Apple pull out and seeing interesting supply chain disruptions. What's your feeling in the early months of 2024 as to where the EV journey is at?

Speaker 2 [00:06:35] There's been a lot of noise if you actually look at the growth rate. Last year, it was pretty strong. I think it was about 18% and it wasn't all BYD. So I think yes, there are certain manufacturers that are struggling, but I think overall the segment still growing at a very high rate. And I think we'll see a lot of growth this year as well. We had the early adopters who are willing to put up with everything. You know, they're willing to, take twice as long to get somewhere because they love the technology. Right. And I think we're getting into the phase now where we have to make a product that works for people that aren't willing to put up with everything, like Peter there.

Speaker 3 [00:07:09] Yeah. So with that in mind, I think what we're seeing and what you're going to see more of is a shift to plug in hybrids. I think for the next few years, plug in hybrids are going to start to really be dominating the EV conversation. But as battery technologies continue to get better with higher energy densities, faster charging times, etc., then pure EVs will come back. But I would say for the next few years, you're going to see plug in hybrids is becoming the the focus of automakers and consumers.

Speaker 2 [00:07:44] Okay. So maybe the outlook is that we're going to see growth. I certainly don't think we're going to get up to Canada's goals of what is it by 2030, something like 60% of new vehicles are going to be EV. I don't think that's going to happen.

Speaker 3 [00:07:56] Depends how you define EV. If it's a hybrid EV, I think even 60% is just pretty lofty.

Speaker 2 [00:08:03] Yeah, but it will grow. But maybe not as fast as some of those adoption rates. We have some growing pains, but I still believe over the long haul EVs are the way to go.

Speaker 1 [00:08:12] But that touches on the time horizon of all of this. Because even if you have 50% of new vehicles coming on to the road in 2030, they're all going to be on the road in 2050 or certainly 2045. And if those are, hybrid, we're therefore going to need, some form of oil. So it does challenge the mind in terms of thinking how we're going to transition in the 2040s. Way, way off. But the seeds for that transition are planted every time a new vehicle goes on the road.

Speaker 2 [00:08:45] Yeah. But I would just say, to your point, if 50% of the new vehicles are electric or hybrid, 50% aren't and will still be around in 2045. So we've done a lot of detailed modeling of the vehicle fleet globally, and I just see no way for oil demand to come down as some of these projections are just practically there's just a lot of combustion engine machines out there, and it takes a long time to substitute them out. So I do think we're going to have a lot more oil and gas being used in 2050 than some of those net-zero projections.

Speaker 3 [00:09:14] Yeah.

Speaker 2 [00:09:15] The biggest issue with electric cars is the batteries, the range, how fast they charge. I think that's all going to improve a lot. It's going to continue to improve and look better in five years, way better in ten years. And it's going to make it get rid of those hybrids Peter. It's going to be all electric.

Speaker 3 [00:09:29] So no, I think the biggest issue is perceptions of all of what you just described. And right now if you look at headlines and articles, the perception is that electric is challenging. That's problematic because once people get something under their head, it takes a long time to get it out of their heads.

Speaker 1 [00:09:52] And I think one of the sadder parts of Apple pulling out is that it is such an extraordinary consumer products company and consumer experience company, and wow, would have been great to see what it could do to the vehicle experience and have that sort of competition. We need more of that in the market then gets people excited about these things.

Speaker 3 [00:10:12] I agree, but actually there is another important lesson in Apple pulling out, which is kind of obvious, is that electric vehicles are becoming a very low margin, cutthroat business, and the rest of Apple's empire is high margin. So I can imagine the decisions around the boardroom table like, okay, how much money does this thing make? Oh, not that much. And the Chinese are moving in and going to undercut the market. Okay. Well, I think that sort of seals that.

Speaker 1 [00:10:46] Whether you're bullish or bearish on clean tech right now, it's going to take a lot more capital to get us on a path to net zero. And that's the focus of our report. How do we get to $60 billion a year that's going to be needed to finance the transition. And we'll create, if we get it right, enormous opportunities. Peter and Jackie, let me hand the mic back to you. And we can get deeper into some of the issues.

Speaker 2 [00:11:09] Well, John, that's a good intro actually to some of the themes of for the rest of the discussion. RBC recently released Climate Action 2024, an annual report on Canada's net zero journey. It does say that we're not spending enough on clean energy, and I think a lot of people probably realize that according to your first key finding, we are spending about 22 billion annually on supply side spending. But we should be spending closer to 60 billion a year in order to achieve goals like our 2030 and 2050 goals. So what is supply side spending? And give us a bit of a context for what's being spent, where areas we're spending and where we're falling short to get to the 60 billion. We, as in Canada.

Speaker 1 [00:11:48] I think it's important to stress that we are making progress as a country. Capital flows have gone from 15 billion to 22.5 billion, by our calculations, in three years. That's a 50% increase. Most of that comes from government. And government investment, in our view, is going to be limited in the years ahead. So if we're going to get to 60 billion, which is a more than a doubling, most of that's going to have to come from private markets. So how do we develop the tools to mobilize the billions and trillions which are out there looking for these investment opportunities, if there's good returns, but we can't assume they're just going to flow into Canada or flow into the sectors where the capital's needed on its own. We're going to have to help manage that.

Speaker 3 [00:12:34] Yeah. So I mean, what you're trying to do is highlight where we're at and also highlight that the money isn't flowing enough to achieve decarbonization goals. What I want to ask you, then, is to what extent is the money not flowing because of the lack of profitability in some of these projects versus, say, the taxonomy, because we don't have a labeling system and we're paralyzed because we don't know what's green and what isn't green.

Speaker 1 [00:13:00] Yeah, I'm a free-market person and have been all my life. You cannot engineer an economy. I've lived and worked in countries that have tried to do that. And the results are to be polite, suboptimal. You do need guardrails. You need tools like a taxonomy, but ultimately you need a thriving market. Free market, private market, attracting, generating, regenerating capital. And we're not seeing that certainly at scale. That's our opportunity in the back half of the decade as a country is to shift, not suddenly but shift from this public sector led transition, which is important in in all sorts of economic transitions. It's almost always going to be led by public capital in the early days, de-risking situations for that private capital. But a lot of those risks have been, I don't say eliminated, but reduced to a level that's acceptable for private investors.

Speaker 3 [00:13:58] So let me challenge you on that a little bit, because look at the whole notion of even needing a taxonomy to inform investors how to invest, determine what's green and what isn't. And the notion of risk and investors understanding profitability or not. There's this assumption, especially by the climate community, that investors don't get it. And it's almost a little bit patronizing to the investment community to say, you don't get it. We've de-risked it. You need a labeling system. But I would argue, actually, knowing a lot of investors are pretty smart people.

Speaker 1 [00:14:37] You need a labeling system. I think everyone agrees on whether you're selling groceries or selling financial products. A consistent, transparent labeling system is a good thing to have in any free market. It allows, buyers and sellers to work by the same definitions. But that on its own ain't going to get you anywhere. What's going to drive that capital and excite that capital is the opportunity for those kinds of returns, and the kind of innovation out there that I think is important to understand. The, you know, capital providers and business people are not out only for profit. Most entrepreneurs I know are trying to create something. They're trying to build something. And they have to do it profitably. But it's not just to make a buck.

Speaker 3 [00:15:23] Fair enough. To what extent is the issue, given the choice between artificial intelligence financing and the Nvidia effect, I'll call it, versus investing in a fuel cell, option B. Well, you know, I'm going to hitch my horse to the AI wagon and other things that are just going through the roof. So therefore it's very nice to hear about the labeling and everything else, but I've got a better option over there.

Speaker 1 [00:15:50] I'm so glad you raised that, Peter, because I think that may be one of the biggest challenges to the energy transition, and we should not underestimate what's going on in global capital markets. I was lucky enough to spend a couple of days recently in California with a group of technology leaders, and it was awesome, but really eye opening to see what's going on in that space and the ambition there to raise trillions of dollars. There's a finite amount of capital in the world, and right now, those involved in the energy transition or in climate more broadly, I think need to be very thoughtful about how the competitive landscape has shifted and right under our eyes, right. Like this is real time. And then I'd add to that there's another force out there which also may be underestimated, which is not to get too geeky here, but is around banking regulation in the United States and what's known as the Basel end game, which is, if it goes through, going to require banks to set aside more capital to protect the banking system. So it's an understandable concern. But what it may lead to is less bank capital being available for things like renewables.

Speaker 2 [00:17:11] So what can we do to in light of how scarce capital is, attract more? I mean, I see some big barriers in Canada. I think competition with U.S., their policies around clean energy investing are better in many areas and therefore our projects can't compete. I think institutional capital is an issue, too. I mean, my experience has been while many want to invest in green, organizationally, they're not really kind of set up to have pools of capital as big as you would think in some of these areas. So what do you see in terms of the barriers, right, in Canada to get that scarce capital and get it invested in the ground here?

Speaker 1 [00:17:44] You've touched on a couple of them. Certainly, our ability to make things more complicated than they should be is a profound challenge to the transition. We come up with rules upon rules and almost tilt to a European mindset versus an American mindset. And in a lot of us, we're competing more with the United States then with Europe. So how do we simplify? That includes things like a different approach to regulations, which I know federal government is thinking through in terms of how to have one process, instead of asking people to go through the provincial process and then a federal process. So simple example how to not duplicate processes in what companies are trying to set up, how not to intentionally or unintentionally restrict the amount of reward potential in any particular project which you don't see in the United States. Last point is, as a country, we need a few clear wins, especially in the private sector, in the energy transition space. So ensuring that those model projects, if you will, are able to move at speed and get to a scale and show the world, but frankly also show the country that we can do this, and then we'll do it again and again, and we just need to create that cadence of success.

Speaker 3 [00:19:07] Yeah. So I mean, policy density and complexity is something that we've talked about on this podcast. And I certainly believe it's a huge detriment to making decisions around a boardroom table. But speaking of boardroom tables, your report found that 96% of CEOs surveyed are confident they can hit their 2030 targets. In some ways, there's sort of a disconnect here. Like the survey says, there's a confidence amongst these high level decision makers, yet the money's not flowing. There's all sorts of other uncertainties that are talked about. Can you break down these 96% of CEOs and the seeming disconnect that I'm sensing in the report?

Speaker 1 [00:19:48] Certainly the CEOs I got to talk to are still confident they can hit their goals. There's a concern that it may not be 2030 precisely, but they feel they're within range of hitting it in a reasonable period of time. So there's a number of variables at play. And it's still a ways off six years. But we're getting closer. And I think we're getting very close to an important moment in time where collectively as a society, we're going to have to say, can we get to 2030? And what are going to be the costs that we're willing to absorb as a society to do that, or are we going to make adjustments? That's going to be one of the great Democratic debates, I think, over the next couple of years.

Speaker 3 [00:20:40] Now let's talk about that desire to spend more or not. Your polling concluded that two thirds of Canadians want to do more to tackle climate change. But as I interpret the conclusions, few want to pay for it. In fact, the report says, quote, our research shows most Canadians are not willing to change their lifestyles for high impact climate action. Can you expand on that?

Speaker 1 [00:21:01] In one way, we shouldn't be surprised. I think that any retailer who's been around will tell you that when you ask consumers, they're usually not willing to pay for an additional cost. And especially in this inflationary environment, people aren't willing to pay more for whether it's an externality or just seen as an additional benefit to the raw value of that product. What we are seeing is that people do want climate friendly products and services, and that's the opportunity for companies to think about whatever it is they're making or providing. If it's a service, to do that efficiently in a way that doesn't drive up the price and then share the information with the market as to what the benefits are. Really good example underway is with heat pumps, which are accelerating really nicely as costs come down. But as consumers realize the extended value of a heat pump to their overall energy costs in their homes in different parts of the country, in New Brunswick, as an example. Sales are accelerating at a really impressive rate because the products are competitive, but there's a broader economic benefit to say people are going to do things, consumers are going to do things that is in their economic benefit, and we shouldn't be surprised by that. We should actually look for ways to ensure that there is an economic benefit in everything we do in the transition for consumers, and that's what's going to lead to that acceleration to scale.

Speaker 2 [00:22:31] Right? While making incremental improvements to show your product is better environmentally to me implies kind of a slower transition, though, right? Because you have to do it in a way that doesn't increase your costs so much. Your report mentioned the potential for political change could reduce climate ambition and change greenhouse gas policy. So that's for sure. In everyone's minds right now, with the conservatives pulling strongly in Canada and Trump looking like a real candidate here in the United States to be the president in the next election. Do you think that's already slowing investment on both sides of the border, in your view? The like wait and see what the new regime looks like.

Speaker 1 [00:23:10] And don't leave Europe out of that calculation as well. European Commission elections this year. That could change some of the political dynamic there as well. It's certainly causing a number of businesses to think about where the world or where their market may be 24 months from now, but I'm intrigued by the number who are staying the course because it's what's in their shareholders interests. There isn't any apparent let up across the board. There may be in certain pockets, certainly in those sectors where there is that economic opportunity and where there is that economic opportunity, and this can be in energy systems, it can also be in agriculture and housing. I don't think you're going to see a different government change things radically if it's good for the economy, if it's good for the regions of the country, particularly where they may draw support. I wouldn't be surprised if a conservative government came out with an ambitious climate strategy that's different from the Liberal strategy, but has the same goals and aligns with a number of conservative governments at the provincial level that are all taking different courses, maybe have different ambitions or timelines, but are working towards the same goal, just have a different approach as to how to get to that goal.

Speaker 3 [00:24:27] I've always liken to say no investment equals no transition because we have to pay for it. I think your report, you're basically saying not enough investment equals not enough transition. And so that leads to the conclusion. And I want to come back to these 2030 goals, that the ability to achieve a 40% reduction in emissions within five years seems now to be not that realistic. You've attended a number of UN climate meetings and attended all sorts of discussions. So do you think it's realistic for us or for the rest of the world, for that matter, to achieve these things? And if not, I mean, shouldn't we be thinking about some kind of plan B because there is a paralysis out there in terms of liberating capital to get things done?

Speaker 1 [00:25:18] Let me come at that from maybe a different perspective, Peter, but I want to speak to your first point about no investment, no transition, which is absolutely right. And one of my concerns for Canada is that we're not attracting and generating enough business investment across the economy. It's down over the course of a decade. That's a fundamental challenge to the country that we are not attracting and generating enough true private sector, productive capital. And if we're not doing it for the whole economy, how are we going to do it for the climate transition? So that's point 1. Point 2 on what you call the kind of paralysis, I wouldn't call a paralysis. I think at Dubai, we saw a real excitement around climate from a broad range of countries that are doubling down, tripling down on renewables. The Saudis and the Emiratis are determined to dominate green hydrogen, to dominate solar, to dominate carbon capture not just for their own region, but they see this as an export opportunity for the world. We should too. You know, we can go toe to toe with them. Maybe not at the same scale, but we're really good at all those things. So that kind of excitement and private sector capital led transition, I think, is you call it a plan B? I mean, we're getting into semantics here. Maybe it's plan A plus or, asterisk. But I think the next plan, if you will, has to be around some of what we saw. Dubai, which is this animated capital conversation around energy transition opportunities around the world. But they're here in Canada. So if we have a plan A, B or C, whatever it is, I hope it's animated by that capital opportunity.

Speaker 3 [00:27:09] Well, I don't want to sound too cynical here, but the Middle Eastern countries don't have a taxonomy, to my knowledge, and they don't have layers and convoluted policy.

Speaker 2 [00:27:22] Well, there's a lot national companies too.

Speaker 3 [00:27:24] And they're not nationalized. Yeah.

Speaker 1 [00:27:27] They don't have democratic capitalism.

Speaker 3 [00:27:29] So, it's not a fair comparison because we're a democracy and there's pros and cons. I'd like to speak largely pro, but it's hard to compete against the authoritarian directives of capital from state owned companies. So I don't know if that's a fair comparison.

Speaker 1 [00:27:46] The US is the we're talking about the I earlier I mean, the U.S. is competing in in AI and attracting and generating that kind of capital.

Speaker 3 [00:27:53] The policies in the U.S. are much simpler, although some would argue at the state level they're not that they are very convoluted with regulation and all sorts of things that are inhibiting transition and things like electrical power and so on and so forth.

Speaker 1 [00:28:07] But thank you for saying that word simpler.

Speaker 3 [00:28:09] Yeah, no I agree.

Speaker 1 [00:28:11] Lets keep it simple. Keep it simple.

Speaker 2 [00:28:13] Yeah. No I think that's a great take away. You've really hit on a lot of the issues and I will finish on that point for all those policymakers listening. Keep it simple. It will help drive more capital investment in Canada. So thank you for joining the podcast.

Speaker 1 [00:28:28] Peter and Jackie, thank you so much for having me on your show and for you being on my show in this kind of novel approach to podcasting.

Speaker 2 [00:28:36] Yeah, thanks.

Speaker 3 [00:28:36] Our pleasure.

Speaker 1 [00:28:37] Among my takeaways is that as much as we want to keep this simple, it is complicated, but we don't have a lot of time. And if we don't come to grips with this faster, yeah, there's a risk that people are going to give up on it to. To your point, Peter, maybe the search for a plan B or whatever it is. You've also reminded me of the power of many of our sectors, including the oil and gas sector, which continue to power, pardon the expression, a lot of the Canadian economy, but a lot of Canadian innovation as well. And I've always enjoyed listening to your podcast. I hear from many of the great innovators, not just in Alberta but across Canada. When it comes to energy, we're going to need that kind of ingenuity and hope the listeners get excited by the opportunities that are out there. Challenges, yes, but with those come some really cool opportunities that are going to help Canada thrive in the decades ahead. This is disruptors, an RBC podcast. I'm John Stackhouse. Talk to you soon.

Speaker 2 [00:29:38] Disruptors and RBC podcast is created by the RBC Thought Leadership Group and does not constitute a recommendation for any organization, product or service. For more disruptors content, visit our Bbc.com disruptors and leave us a five star rating if you like our show.

This article is intended as general information only and is not to be relied upon as constituting legal, financial or other professional advice. A professional advisor should be consulted regarding your specific situation. Information presented is believed to be factual and up-to-date but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the authors as of the date of publication and are subject to change. No endorsement of any third parties or their advice, opinions, information, products or services is expressly given or implied by Royal Bank of Canada or any of its affiliates.