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Regulating and financing shipping decarbonisation

 

Shipping decarbonisation won’t happen unless rules are made, incentives created and investment is available. An ICS panel debate explored this, with a former EC DG of transport, the chairman of V.Group, and head of HSBC’s Centre of Sustainable Finance

Shipping decarbonisation is not free. To get there we need carrots – incentives and investors who want to put money behind it – and sticks – penalties for not doing it.
Both are around the corner, at least in Europe, where the European Union’s Emission Trading Scheme (ETS) is expected to be applied to shipping, and where there are investors with funds looking for a home with some sustainability score.
The International Chamber of Shipping (ICS) put together an online panel debate on the subject on Jan 13 (link to webinar online is below). Speakers included a former director general of both transport and competition with the European Commission, the chairman of ship management company V.Group, and the head of the Centre of Sustainable Finance with HSBC Bank.
Esben Poulsson, Chairman of the International Chamber of Shipping (ICS), said he thought there is currently a lot of misunderstanding between the shipping industry and regulators. But the misunderstanding goes in both directions. The industry is both not understood and misunderstands what policymakers are trying to do.

 

European Union

Discussions are continuing in the European Commission about how to disincentivise emissions from the maritime sector. The main method of doing this in Europe is putting a price on carbon, via the “Emissions Trading Scheme” (ETS), where companies are required to buy the rights to emit carbon, at a price set by a market.

“The pricing of carbon certainly helps but is maybe not sufficient on its own to achieve transformation,” said Sir Philip Lowe, partner, Oxera Consulting in Brussels. He is both a former Director-General Energy, and Director-General Competition, at the European Commission.

The European Union sees the introduction of ETS to shipping as following its introduction to aviation, where it currently applies only to flights within the EU, he said.

Similarly, ETS for shipping may be applied only to voyages which are entirely within the EU’s boundaries, rather than deep sea routes, he said.

The current ETS price (Eur 34 per ton CO2 at the time of writing) is high enough to give an incentive to emitting less carbon.

A weakness of ETS, as applied to land industries, he said, is that many industry sectors have demanded exemptions, saying there is a risk of “carbon leakage”. This means the carbon price pushes an industry outside the EU, so the manufacturer doesn’t have to pay the carbon price. Europeans still buy its products, but no longer have the industry.

Sir Philip emphasised that the proceeds from selling ETS credits go to the budgets of member states, not the EU budget, and would not be used to directly support the European Union’s recovery plan.

“The aim is not itself to generate money for the European Union. The original aim is to incentivise operators to use technologies which are low in carbon.”

In response to the shipping industry’s arguments that it is better to regulate emissions internationally through IMO, he said that the EU wants to move faster on this than many other countries in the world.

While IMO should set the overall strategy and roadmap for shipping, individual countries

should have freedom to set their own speed of decarbonisation. “A global strategy doesn’t imply everyone has the same speed for getting there.”

“Just simply saying we’re going to reduce emissions by 50 per cent by 2050 doesn’t seem to be enough to convince anyone in the [European] political world that we’re going in the right direction.”

And, there are “people under pressure to do things under a local and regional level.”

 

Regulation

The European Union may also introduce regulations to decarbonise. “As a former director of competition, I am not immediately in favour of regulating. Ideally one should look for a market based mechanism. But a market based mechanism doesn’t make sense if there are no alternatives [a market can choose from]. Regulation of certain structures and conducts is probably inevitable.”

“The Commission is thinking about whether there should be some additional legislation to limit the carbon content of maritime fuels on a transitional basis.”

The Commission is also looking at the availability of clean fuels and how they can be increased.

“Maybe we need slower ships and bigger ships, but that’s precisely the opposite of the direction we’ve been going in.”

 

Coalitions

Sir Philip suggested that the maritime industry could form coalitions with other organisations to achieve its climate goals.

A similar approach has been successful in cities. “The biggest successes in terms of sustainability in West Europe and elsewhere have been coalitions run by city institutions together with industry, local communities, regulators to reach a result,” he said.

“A lot of the better regulation has come through those successful city initiatives.”

The shipping industry should be “taking examples from other sectors in transport, mobility and urban planning.”

“A port cannot have an objective of being a clean port unless it has a strong coalition with shippers who use the port.”

 

HSBC

Zoe Knight, managing director and group head, HSBC Centre of Sustainable Finance, said that the “financial system” is being asked to take responsible for the emissions it is financing. But we also see we have an economy still 95 per cent dependent on fossil fuels, and renewables responsible for only 10 per cent of power. And shipping is responsible for 95 per cent of trade flows, and only responsible for 3 per cent of emissions.

“So we need to get this right, in order to keep powering our economies the way that we are used to.”

The 2015 speech by Mark Carney, then Governor of the Bank of England, when he talked about the ‘Tragedy of the Horizons,’ is well known in financial circles today, she said. This ‘tragedy’ is that finance typically looks at the future on a 2-3 year horizon, too short a timeframe to consider the impact of climate change.

Mark Carney’s idea is that “climate decisions are integrated into every financial decision.”

This means that better information needs to be available. To encourage this, an international “Task Force on Climate-Related Financial Disclosures (TFCD)” has been established.
Its current membership manages $156 Tn of assets.
HSBC is looking at its exposure to emissions in “high impact sectors”, and reviewing what its “strategic position” should be on financing them, and how to be more transparent in how the information is disclosed. This would lead to adjustments in the “opportunity set” of which projects get financed.

Government central banks have started asking banks to “stress test” for climate risks. While shareholders have been asking about climate issues with their shareholdings for 15-20 years, the banking risk departments “have been less vocal on thinking about climate risk,” she said. So governments are forcing this to change.

Overall, it is not yet clear what the best path forward is, in terms of which investments to make, taking the climate into consideration, she said.

But there is increased expectation that emissions will be recorded, and financial companies will provide data on which sectors and industries they are financing.

“Transparency helps capital find its way to products in its mandate. It allows shareholders to determine whether climate plans are appropriate to get to net zero, or whether climate plans are just ticking the box.”
Another trend is the growth of green bonds, where money must be invested in something which has a certain level of greenness.

There have been a couple of green bonds providing finance to the shipping industry, at around $1 00m, “mainly by Japanese shipping companies”.
Green bonds are currently only about 5 per cent of the total bond market,“But that shift is starting to occur.”

The green bond movement also drives more transparency into how the money is spent and what emissions are caused as a result.

Another way to integrate sustainability into financial products is to make loans where the interest rate depends on a certain carbon emission reduction metric.

HSBC has recently started doing sustainability linked loans in aviation, with energy efficiency goals and fuel KPIs as the metrics.

If the shipping industry could give stronger signals about its decarbonisation roadmap, it could help the financial sector move more quickly, she said.

The Energy Transition Commission, a government and industry backed think tank, is “looking at breakeven pricing points to incentivise shipowners to make those investments,” she said.

50 countries have included hydrogen policy initiatives as part of their climate plans. “It showcases the seriousness of intent around fuel switching,” she said.

“The carbon pricing element, that is necessary to change behaviour, will increase in profile in the run up to COP 26,” she said. [COP 26 is the major United Nations carbon meeting to be held in Glasgow November 2021].

For a carbon pricing project to be successful, the politicians need to be transparent about where the money will go. This was one of the success factors for a carbon pricing scheme in British Columbia, Canada, she said.

There are concerns in financial circles about the use of carbon offsets on a wide scale, because it means that the CO2 is still being emitted. Although carbon offsetting can work on an individual project to deliver “net zero”.

One pathway forward for shipping is to ask its customers, such as large consumer goods companies, to set standards for the energy efficiency of ships that they charter.

Something similar is happening in the steel industry, where steel companies have worked together with car companies and construction companies to create a “responsible steel label.” The support from these customers has helped de-risk the investment in lower carbon steel production facilities, she said.

“Creating those coalitions, to have the responsible emphasis around supply chain management, I think, is probably the next way of thinking.”

“Is your biggest customer thinking about this, if so, talk to them and get them onboard to create a demand [for your decarbonised product]”

While financiers shouldn’t be telling industries what to do in their own decarbonisation roadmaps, they can help facilitate this relationship between supply and demand of products, she said.

 

Graham Westgarth, V.Group

Graham Westgarth, chairman of V.Group, said, “this whole subject is fascinating, a little scary, but also an exciting opportunity for shipping. We haven’t, in our lifetime, seen anything quite like this.”

“Decarbonisation is inevitable. We need to look at it like that, and determine what are the opportunities for us.”
Mr Westgarth has previously held senior roles at Gaslog, Teekay and Maersk UK, and is a past chairman of Intertanko.

“From a greenhouse gas perspective, we [shipping] move goods more efficiently than any other form of transport. But if we move beyond that and demonstrate a clear roadmap towards decarbonisation, we have a much better opportunity in terms of being more widely understood and accepted.”

“It was interesting to hear Zoe talk about [how] having that clear road to decarbonisation would assist you, in determining what financial instruments would be appropriate to support the industry,” he said, referring to the previous speaker. “Marrying that up is a real opportunity for us.”

“To develop that roadmap - we really need to be able to explore new technologies, learn from other industries, engage with regulators, technology providers, financial, government bodies and other stakeholders in a positive and proactive way. We need to masters of our own destiny.”

“It was interesting to hear [Philip Lowe] say you are not necessarily in favour of regulation. But regulation will be part of this. What we need to do is shape the legislation, so it is fit for purpose. That’s an essential component.”
“There are some challenges in our industry that may not apply to other industries.

“This is a hugely fragmented industry, not just from a ship owning perspective. There are hundreds of shipyards, suppliers of equipment, representative organisations. We have many vessel types, trading patterns. It is a very complex industry.”

“Comparing it to the car industry, the car industry controls the supply chain. They design cars, contract the equipment, sign contracts for delivery of the cars.”

“It becomes very difficult to find solutions which are optimum if you’re only looking at one particular element, not the whole supply chain.”

“That takes me to the role of IMO. It is clearly a legislative body on the plus side. Its approach up to now has been flag neutral. That has meant that we created this level playing field, which I personally feel is essential for the sustainability of shipping.”

“On the negative side, IMO can’t put legislation in place which extends beyond supporters of the shipping industry itself. It is a technical body that lacks commercial understanding and expertise.”
“It is incumbent on us to try to educate the regulators to understand how shipping actually works, how people make money, lose money.”
“I’m scared about local and regional legislation. It makes it very complicated, it adds costs, and I don’t believe it provides the optimum solution.”
“People on ships have to work under extreme duress trying to meet regulations. Failure to meet regulations has a potential legal impact on them.”

 

Technology

If I think about technology, there isn’t one solution. It could be ammonia, it could be hydrogen, it could be biomass, it could be fuel cells. My gut feeling is it will be a combination of all of those,” Mr Westgarth said.

“We need to find a way through exploring them - to find what will provide the best solution.”

“Building out the infrastructure will require billions of dollars, will take many many years. There will be a transition period.

“Most people see LNG as a transition fuel, just to get to the end game of this.”

Referring to a comment by Sir Philip saying maybe slower ships were best, Mr Westgarth said the term “optimum speed” might be better to use.

“The industry went down this path of slow ships before. You had ships getting in trouble because they didn’t have power to withstand the environment. I want to flag that potential danger.”

“There’s a danger of getting it wrong, we can’t afford to. We need to master technology with regulation, with any market based measurement and any financial instruments. It is very complicated, it requires the best brains.”

“It requires the shipping industry to be much more open and engaged in a way it has never done before.”

 

Espen Poulsson, ICS
“I am relieved to hear Philip is not necessarily supporting a plan of imposing regulation,” said Espen Poulsson, Chairman of the Board of the International Chamber of Shipping (ICS).

“But at the same time we all accept there has to be regulation.”

“Philip’s comments on ETS do not coincide with my understanding of it. I thought it was a money grab on the part of the EU, this is what I keep hearing.”

“The one thing I will stand up for - to Philip - is on this question of global rules. We have IMO, which Graham [Westgarth] quite correctly says is a technical body.”

“In truth it has become more of a political body, because a lot of the people there are not that technical. It means an association like ICS has a bigger job to do. Very often we are explaining to people how these things work.”

“We are not anti-regulation, we are anti regulation which is not well thought through. Ballast water regulation - 14 years in the making - is a perfect example. We are trying to avoid a repeat.”

“The train has left the station, make sure you are on it,” he concluded. “I think we all understand what we need to do. How we get there is a long and complicated path.

[Shipowners] don’t control our supply chains. Shipowners get all the stick, we’re [just] the front face of it.”

This article is based on the ICS Webinar, “Industry Transformation - What does it take to realise the 4th Propulsion Revolution” held on Jan 13. A video is online at
https://attendee.gotowebinar.com/ recording/4858278301531423499

 

 

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