Angeli Mehta reports on how Europe is treading a thin line as it tries to boost incentives for low-carbon technologies without distorting its internal market

Inflation Reduction Act. The phrase barely trips off the tongue, but the U.S. climate bill was on everyone’s lips at the World Economic Forum last month. 

Whilst there was praise for the U.S. effort to close the yawning gap on the Paris Agreement there’s no doubt the bill has thrown down a gauntlet to Europe. EU leaders have shuttled back and forth for discussions with President Biden, and a joint taskforce is surveying the opportunities to finesse a bill that incentivises U.S.-based clean tech. But it’s clear that Europe has to find an answer to the challenge, which is already drawing investment decisions away from the continent.

Speaking in Davos, Andrew Forrest, whose Australian mining group Fortescue is diversifying into green energy, said that before the passage of the Inflation Reduction Act (IRA) his company had no projects in the United States – now it has four. But the elephant in the room, he said, is climate change.

“We need not to bicker about what America has done. But to have Europe get up and do the same thing, to have the large Asian economies do the same thing. If we don't have these great macro shifts of policy, your world has cooked.”

The question now is 'what does it take for Europe to have a competitive industrial infrastructure and policies?' 

Ilham Kadri, chief executive of one of Europe’s oldest chemical groups, Solvay, told another panel in Davos that the IRA as “the best thing to happen to Europe”. Bemoaning bureaucracy and delays in permitting for renewables, she said the question now was “what does it take for Europe to have a competitive industrial infrastructure and policies?” 

Earlier this month, the European Commission president, Ursula von der Leyen, set out more details of a Green Deal industrial plan to sharpen Europe’s competitiveness. The proposals aim to create a simpler regulatory framework, speed up access to finance, develop the skills needed for a green transition and promote global cooperation, and were being discussed  by heads of government this month.

While the U.S. bill offers generous subsidies for consumers to buy electric vehicles and for manufacturers to make green hydrogen, for example, Europe has been struggling to work out how to provide incentives without distorting its internal market and entering a subsidy race it cannot win.  
Disparities already exist in the EU: Germany devotes a greater share of GDP to renewable energy subsidies than any other member state.

The IRA could be the trigger for new growth in the EU’s renewable sector. (Credit: Regis Duvignau/Reuters) 

Nonetheless, the commission is proposing to further flex state aid rules. A so-called Temporary Crisis and Transition Framework would grant aid for less mature technologies (such as green hydrogen) without a competitive bidding process.

It also wants to allow member states to support the production of key technologies such as batteries, solar panels and heat pumps, as well as the critical raw materials that underpin their manufacture. In more disadvantaged regions of the EU, countries would be allowed to offer more support to match what’s on offer in the United States, for example. 

A Critical Raw Materials Act will aim to support extraction, processing and recycling of key raw materials, while proposals for a rethink of the design of the electricity market will be published in March. 

It's all about structurally reducing demand rather than supporting consumption

EU states have been split on whether more money should be raised for the green transition – with more than a third of the bloc (including Germany and the Netherlands) rejecting any increased borrowing while money already available for post-pandemic recovery is unspent.  As a bridging option, Von der Leyen is proposing that 250 billion euros funding from REPowerEU, targeted at ridding the continent of its dependency on fossil fuels from Russia, could now be redirected at net zero industries in the form of tax breaks. 

And there’s another 5.4 billion euros from a Brexit Adjustment Reserve that can now be repurposed to greening industry and providing support to energy intensive industry struggling with high energy bills. 

Experts at climate change think-tank E3G say the plans don’t amount to a “clean economy” strategy, with not enough focus on energy efficiency, insulation or the decarbonisation of energy-intensive industries. Nor does it set out how private finance can be mobilised.

A worker assembles a heat pump at a plant in Holzminden, Germany. (Credit: Benjamin Westhoff/Reuters) 

With energy costs still high, Andreas Goldthau, a public policy expert at the University of Erfurt in Germany, wants to see investment focused on making housing and heating systems low carbon. Some of this is happening, especially in Germany, but “this is precisely where government subsidies should go right now, because it's all about structurally reducing demand rather than supporting consumption”.

How to respond to the IRA is also a pressing question for the UK, which now finds itself between two massive trading blocs and no free trade deal with either. 

And where once the UK was ahead of the curve on climate action, it’s found itself falling behind. The Confederation of British Industry estimates businesses within the net-zero economy contribute 71 billion pounds to the UK, but that the country will lose out on 4.5 billion pounds by 2030 if it doesn't remedy a drop in its market share of key technologies such as hydrogen electrolysers. A review of how the UK could better meet its net-zero commitments, by former Conservative energy minister Chris Skidmore, pulled no punches.   

The UK doesn't have the huge subsidies, but it probably has a greater ability to drive investment towards net zero than the U.S

Net zero is “the economic opportunity of the century”, Skidmore said, but the UK will have to act decisively and quickly to prevent industry and high-skilled jobs from moving elsewhere. There’s an urgent need for policy continuity and long-term funding certainty – going beyond the five-year cycle of government – in areas such as hydrogen and carbon capture and storage. Its absence, says Skidmore “appears to be creating unnecessary uncertainty and risk”.

A quick win could come on smart regulation and creating the infrastructure controls for a smart net-zero grid, alongside energy-efficient housing. It could also examine the potential of the net-zero agenda to deliver so-called “levelling up”, suggests Ronan Palmer, head of E3G’s clean economy programme.

And whilst the UK doesn’t have the financial clout of the U.S., “it can concentrate its resources. It doesn't have the huge subsidies, but it probably has a greater coherence, and ability to drive investment towards net zero than the U.S.”

Palmer stressed that the strategy would need a political push. “The prime minister and the chancellor would really have to believe it. If they go for an austerity package (in next month’s budget), then the UK will have more problems.”

Main picture credit: Yves Herman/Reuters  

This article is part of the February 2023 issue of Sustainable Business Review. See also:

Society Watch: Drive to make ecocide an international crime gathers momentum

Brand Watch: Europe turns up the heat under chemicals industry to clean up its act

ESG Watch: How the 'global stocktake' will force investors to pull up their socks on climate

Inflation Reduction Act  U.S. climate bill  EU Green Deal  REPowerEU 

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