Rising Cost, Rising Solutions. How Greenflation Shaping Energy Transition
Fervently pursuing a sustainable future, the global community embarks on an ambitious journey towards renewable energy and eco-conscious practices. Yet, amidst the optimism and determination, a formidable obstacle looms on the horizon so-called greenflation. This phenomenon, characterized by the inflationary pressure accompanying the transition to greener technologies and policies, threatens to disrupt the trajectory of our environmental aspiration.
The issue of greenflation (or green inflation), has suddenly gained prominence in Indonesia following the fourth presidential & vice-presidential debate. This occurred when Gibran Rakabumuing Raka (the vice-presidential candidate of pair number two) posed a question Prof. Mahfud MD (the vice-presidential candidate of pair number three) during the question-and-answer session.
Interestingly, there is a widespread perception that this term remains unfamiliar. Surprisingly, even among individuals actively engaged in environment, economic, and energy issue, it is considered unfamiliar. The term signifies the increase in prices of environmentally friendly goods due to the high demand for their raw materials, a demand that outstrips supply.
In the business realm, greenflation is defined as the outcome of environmental policies impacting the expenses associated with supplying goods and services, which subsequently affect consumer prices through supply chain. Essentially, greenflation denotes the upsurge in price of raw materials and energy stemming from the shift away from fossil fuels towards renewable energy sources.
The increasing funding allocated to low-carbon technology development results in higher prices for critical materials necessary for such infrastructure. Concurrently, heightened environmental regulations, which curtail investments in heavily polluting fossil fuel projects, further constrain the supply of raw materials, consequently driving up prices and ultimately contributing to inflation across various economic sectors.
This term first gained prominence in an article in the Financial Times authored by Ruchir Sarma (August, 2021) titled Greenflation’ threatens to derail climate change action. Sharma elucidated that greenflation pertains to the rising prices of rare metals and minerals, such as copper, aluminum, and lithium, which are crucial in industries like solar power, wind energy, electric vehicles, and other renewable and low-carbon technologies.
Let’s take lithium material as an example. The price of lithium, crucial for electric vehicles battery production, surged by 400% in 2021 alone. This trend is expected to persist as lithium demand is projected to increase by 40% for the next 16 years. Similarly, the price of aluminum, used in solar and wind energy production, doubled between 2021 & 2022, reaching an all-time high.
It’s important to note that investments in energy transition average around 2% of global GDP per year until 2050. While these investments are substantial in the short term, they can elevate production costs and potentially pose negative shocks to the economy. Conversely, valuations in the renewable energy sector remains high as many businesses within it are still in developmental stages.
Hence, it is understandable that concerns arise regarding whether the energy transition will drive inflation, given that companies are investing less than fossil fuel energy as renewable energy costs remain high.
Energy Transition Disruption
Currently, the reliance on fossil fuel is not just an environmental hazard. It is also emerging as a threat to national security and the core principle of freedom and democracy. Fast-tracking the shift towards renewable energy is imperative. With each solar panel deployed, every hydroelectric plant constructed, and every wind turbine integrated into the grid, we advance toward energy self-sufficiency and a greener economy.
Undoubtedly, forging a sustainable economic landscape as the cornerstone of our energy transition is not a task that can be accomplished overnight. It demands considerable time and substantial investment, all while navigating through a web of interconnected disruptions that are projected to exert prolonged pressure on inflationary dynamics. Among these disruptions, three stand out: climateflation, fossilflation, and, of course, greenflation.
Climateflation is defined by the repercussions of climate change. With the rise in natural disasters and adverse weather patterns due to global climate change, its impact on economic activities and prices has intensified. For instance, unprecedented droughts worldwide have sharply driven up food prices recently, placing a heavy burden on communities struggling to meet their basic needs.
Fossilflation, identified as a leading cause behind the recent surge in inflation across European nations, has come to the forefront of economic discussions. By February 2022, energy costs contributed to over 50% of the overall inflation rate in Europe, primarily fueled by sharp spikes in oil and gas prices.
This phenomenon underscores the detrimental impact of continued reliance on fossil fuel sources, a reliance that has persisted largely unchanged for decades. Notably, as of 2019, petroleum products and natural gas still accounted for a substantial 85% of total energy consumption in the European region. Simultaneously, the ongoing fight against climate change has further driven up prices of fossil fuels.
And then there is greenflation, less conspicuous but equally impactful. Many companies are adapting their production processes to reduce carbon emissions. However, most environmentally friendly technologies require substantial amounts of metals and minerals, such as copper, lithium, nickel, and cobalt, especially during the transition period.
The imbalance between increasing demand and limited supply has led to significant price hikes in many crucial commodities. This development highlights a crucial paradox in the fight against climate change: the faster and more urgent the transition to a greener economy, the more costly the short-term expenses become.
While it is true that the energy transition contributes to greenflation, it would be misleading to suggest that greening the economy as part of this transition is solely responsible for energy price increases. Thus far, the inflationary effects of greening on final consumer prices have been significantly smaller compared to those stemming from fossil fuels.
Analysis from the Rocky Mountain Institute (RMI) also dismisses the notion that the energy transition driving environmentally friendly technologies causes inflation due to their expense and rising prices. Taking the decreasing cost of electricity usage in the United States of America as an example, attributed to the increasing production from renewable energy sources. They conclude that the faster the world adopts renewable energy, the more money can be saved on energy costs.
For the past four centuries, inflation has been synonymous with price hikes. However, the context of the energy transition, a more precise term is inflation resulting from escalating energy expenses. As we move towards a climate-friendly future, inflationary pressures are expected to mount in the years ahead.
Nevertheless, greenflation represents only one facet of rising prices, exerting a smaller impact compared to fossil and climate-induced inflation. It stems from various factors, including exogenous shocks triggered by geopolitical tensions and supply chain disruptions, notably in semiconductors, most of which indirectly influence inflation rates.
It is clear that the challenges posed by greenflation are matched by the potential for innovative solutions. As we confront the realities of escalating costs amidst our journey towards a sustainable energy future, it is imperative to recognize the pivotal role of greenflation in shaping our strategy.
By embracing this challenge as an opportunities for transformative change, we can harness the power of innovation and collective action to navigate the complexities of the energy transition. Together, let us rise to the occasion, leveraging the momentum of rising costs to propel us towards a greener and more resilient future.
