An energy-sector transition to net zero that’s fair to all

This article was previously published in the Edmonton Journal.

This week, conversations at Climate Week in New York and the World Petroleum Congress in Calgary are framing very different answers to that question — without much overlap. 

Maybe that’s because there’s more than one way to measure “best.” In fact, the most practical way to spur the oil and gas sector toward reducing emissions is to design policy that delivers on multiple objectives, using multiple approaches. Done right, a policy package can be greater than the sum of its individual parts.

Let’s start with the objectives of climate policy.

Yes, emissions in the sector are a problem. While most sectors of Canada’s economy have seen climate pollution peak and begin to decline since 2005, emissions from the oil and gas sector remain stubbornly high. Increasingly, emissions in the oil and gas sector are making it harder for Canada to achieve its emissions goals.

Costs matter too. Oil and gas still occupies an important segment of Canada’s economy, generating around five per cent of GDP, and the sector has boosted incomes for workers in oil and gas-producing provinces. It also generates significant revenue — from both income tax and resource royalties — for provincial governments. That’s why policy that aggressively phases-down oil and gas production in Canada isn’t a viable option: it would no doubt reduce Canada’s emissions, but at a high cost.

At the same time, sound climate policy should consider how regions can attract and maintain investment through a global shift toward net zero — and the decline in demand for fossil fuels that will come with it. Even in the Canada Energy Regulator’s scenario where the rest of the world moves more slowly toward net zero, Canadian oil production falls by 22 per cent and its gas production by 37 per cent by 2050 (from 2022 levels). But over time, and with the right policy signals, the oil and gas sector might well transform itself to serve new markets for goods and services, even those beyond fuels, that are consistent with a net zero global economy.

Finally, and perhaps controversially, sound policy should share both costs and emissions reductions fairly across regions within Canada. That challenge cuts both ways: Provinces such as Alberta and Saskatchewan see the prospect of policy targeting the oil and gas sector — such as a cap on oil and gas emissions — as unfair. But absent targeted policy, oil and gas emissions are projected to keep growing, given the high cost of reducing emissions in the sector. As a result, achieving targets requires other sectors and other regions to reduce emissions even more deeply and do more of the heavy lifting, essentially getting a smaller share of Canada’s allowable emissions.

How, then, can we reconcile these differences? In a new discussion paper, we propose that four specific policies can set the oil and gas sector on a path to a competitive future consistent with a net zero Canada and a net zero world.

Increasingly stringent regulations on methane emissions can drive low-cost emissions reductions and can deliver around one third of the emissions reductions required to align the sector with 2030 targets. They can also make sure that future sources of growth, such as hydrogen production, truly are consistent with net zero.

A cap on oil and gas emissions is a major part of ensuring Canada can achieve its 2030 and 2050 climate targets. It ensures that other policies, such as government support for emissions reductions in the sector, don’t undermine achieving emissions goals by locking in emissions-intensive projects. And it ensures that the sector and the regions in which it operates are contributing to Canada’s net zero progress.

Smart public financial support for technologies like carbon capture can help the sector meet its obligations under the oil and gas cap, addressing fairness concerns from facing a higher carbon price. It can also offer value for public dollars even in the face of declining international demand for oil and gas by supporting carbon capture infrastructure that other sectors can use (while leveraging private oil and gas investment dollars).

And a government-backed Climate Investment Taxonomy can help the oil and gas sector raise transition-aligned capital from the private sector to help pay for new investments under both the emissions cap and methane regulations, supporting low-carbon competitiveness but also cost-effective transitions to net zero.

Together, these four policies complement each other, helping to ensure that the oil and gas sector contributes to Canada’s clean energy transition, while supporting economic growth and long-term competitiveness. This package of policies would be fair for fossil fuel-producing provinces, the federal government, the industry, and the rest of Canada.

And that just might be a ticket to credible, durable climate policy for Canada’s oil and gas sector.

How to avoid creating incentives for provinces and territories to weaken rather than strengthen output-based pricing system

The first two blogs in this series have shown how carbon contracts for difference (CCfD) can be used to reduce uncertainty in carbon credit prices, and why a CCfD system that relies on direct federal government purchases of credits is the best design option.

This final blog in the series takes on a specific design challenge for credit price CCfDs relating to federalism. Done poorly, credit price CCfDs could exacerbate tensions between federal and provincial / territorial governments around carbon pricing.

The challenge: Moral hazard for provincial and territorial governments

Federal CCfDs on credit prices run by provincial governments risk creating incentives for those provinces to weaken their carbon pricing systems, rather than strengthen them. Weaker provincial / territorial systems would appeal to provincial and territorial governments. It would lower carbon costs for emissions-intensive firms (diluting their incentive to reduce emissions). But it would also increase the flow of federal dollars into the provinces through credit price CCfDs to support low-carbon projects.

That equilibrium is a recipe for entrenching federal and provincial disagreements on climate policy. Yes, if provinces weaken their systems in a way that violates federal equivalency standards, the federal government has the authority to replace any provincial system with the federal version. But the federal government is likely to want to use that measure only as a last resort.  

Two additional tweaks in policy design can help. We note important tradeoffs for each.

A discounted strike price

Contracts for sales of credits can be structured in a way that creates local constituencies that will strongly support robust carbon credit markets for output-based pricing. In particular, setting a strike price (the carbon price defined in the contracts at which governments are committing to purchase credits) that is lower than the benchmark carbon price (i.e., $170 per tonne in 2030) can help.

If the strike price for CCfDs for credit sales were (for example) $150 per tonne in 2030, holders of credits would prefer that CCfDs not be exercised. They would rather sell those credits for just under $170 per tonne (the scheduled headline price). The wider the gap between the benchmark price and the strike price, the stronger incentive market participants have to exceed the strike price—and to lobby provincial governments (or even a future federal government) to continue to strengthen the pricing system. But such a policy will need to be counterbalanced against the fact that lower strike prices provide less economic certainty and could mean some projects don’t move forward.

Incentives for joint federal-provincial CCfDs

Federal CCfDs for provincial/territorial systems creates a fundamental disconnect. The federal government takes on risk that is strongly affected by provincial / territorial policy decisions. Discounted strike prices could help solve this problem. But the federal government may want to go further, and introduce joint federal-provincial CCfDs to address this problem. If provinces and territories were also to take on the risk of fiscal costs in the event of oversupplied credit markets, they would not have incentive to weaken their carbon pricing systems. 

Federal policy design could create incentives for provincial / territorial participation. Federal CCfDs would establish an eligibility precondition such that CCfDs would only be offered in jurisdictions that have agreed to contribute to any payouts triggered by the contract. For example, the federal government might require provinces and territories to shoulder 10 per cent of the cost of pay-out events.

The tradeoff here is that preconditions could slow down the roll-out of the program or even result in CCfDs not materializing in key provinces like Alberta, where 55 per cent of the country’s industrial emissions—and many important decarbonization projects—are located.

Transparency will be key

Credit price CCfDs have huge potential. And, yet, they’re also complex, requiring market participants and federal and provincial governments to make sophisticated choices while accounting for a wide range of dynamics (stringency rules, volume of contracts signed in a given jurisdiction, expected supply of credits and offsets, and more). All this complexity creates a need for transparency. In particular, the federal government, as the chief architect of the program, should insist that information about credit values is regularly published for each pricing program, and that the details of CCfDs are publicly accessible.

More certainty and lower risk — for emitters and for government

Any credit price CCfD design will come with challenges and risks. But, in this series of blogs, we’ve argued that good policy design can mitigate the most important risks. Furthermore, we believe CCfDs, even if imperfect, should be adopted. Without them, industrial carbon pricing systems will fail to incentivize the needed emissions reductions and low-carbon investments to accelerate Canada’s clean energy transition.

How carbon contracts for difference can bring certainty to credit prices — without breaking the bank

This blog is the second in a series on carbon contracts for difference (CCfD) for credit prices. The previous blog laid out the case for introducing not just a headline price CCfD, but also a credit price CCfD that would bring certainty to carbon prices in Canada’s output-based pricing system.

Here, we focus in on the design of a credit-price CCfD to propose a structure that we believe will have more emissions impact and may also come with cost advantages: the federal government should structure CCfDs such that the government conditionally purchases credits — rather than simply guaranteeing their value — in order to address the root imbalance between supply and demand in carbon credits, rather than simply guaranteeing the value of those credits to address the symptom of that imbalance. 

The optimal design for credit price CCfDs isn’t what you think

Here’s how a CCfD structured around a direct purchase of credits would work. Firms that sign a CCfD with the government would have the option to sell a carbon credit to the government at a fixed price. That guarantees the value of that credit. But it also increases the value of other credits in the market because the government can retire the credit it purchases, taking it out of circulation, thus addressing the root problem: an oversupply of credits. This approach is different from the alternative option being considered, in which government uses CCfDs to “top-up” the value of credits, guaranteeing their value. 

Structuring CCfDs around sale of credits is actually a logical extension of existing approaches used elsewhere in Canada and around the world. It’s similar to contracts-for-differences used in Alberta, the UK, and Germany which settle the price around a transfer of an asset — in this case a credit, rather than a unit of clean hydrogen or electricity. It’s also similar to how jurisdictions with cap-and-trade systems (such as the European Union or California) use market stability mechanisms to stabilize the price of emissions credits by ramping the sale of credits up or down. 

The key benefit: Greater impact on investment and emissions reductions  

The biggest advantage of direct purchases is that, all else equal, they will generate more emissions reductions than alternatives. That’s because direct purchases not only guarantee the value of credits for any firm that has signed a CCfD, but they also increase the value of credits for the entire market because any credits purchased by the federal government are removed from the market. In contrast, a top-up CCfD would help only firms that hold a CCfD; credit supply remains unchanged and thus the risk of low prices would persist (and, in fact, there’s an argument to be made that top-up CCfDs actually make low credit prices more likely by incentivizing additional credit supply).

The best way to address contingent liability 

Guaranteeing the price of all output-based pricing system credits in Canada through CCfDs comes with the risk of a significant fiscal cost. To be clear, this liability to the federal government is only a risk— it’s contingent on future policy decisions that the federal government controls, including changes to output-based pricing system thresholds in 2027 and beyond, offset criteria, and other policies that can interact with output-based pricing systems and affect credit markets. 

The federal government has tools at its disposal to ensure it never pays out a dollar. Nevertheless, the total fiscal cost for the federal government in a downside scenario of guaranteeing the value of all credits at the benchmark price of carbon (i.e., $170 per tonne in 2030) would be high and therefore merits consideration. In this section, we argue that if the federal government is looking to contain its downside risk, direct purchases are its best option. (It’s worth noting that any credit price CCfD design makes an oversupplied market much less likely — and only an oversupplied market would trigger a payout).

Other possible solutions have been floated to lower downside costs, but at the cost of either weaker incentives for investment or emissions reductions. CCfDs on credits could, for example, only guarantee the value of credits up to value of significantly less than $170 per tonne. Or they could apply only to a subset (e.g., 20%) of credits in the market.

Both of these options, however, fail to maximize policy certainty for carbon pricing, and thus fail to solve the problem they set out to solve. In the first approach, projects requiring (certain) higher carbon prices would not move forward. In the second, fewer projects would be de-risked, essentially, creating a stratification of expected carbon prices across the economy.

Direct purchases avoid both of these pitfalls. That’s because even if direct purchases are offered to a limited number of emitters, those purchases still benefit the entire market by reducing supply.

Direct purchase CCfDs have one additional advantage over a top-up: The federal government could still recover some of their costs by selling credits into the market in future years (potentially at a profit), if the market tightens and excess supply is no longer a problem.

Less risk, more emissions reductions

Here’s the upshot: more certainty on credit prices is looking increasingly critical for mobilizing investment, and firms need that certainty now, rather than in four years. CCfDs that “top-up” the value of credits will either cost more than government purchases of credits, be less effective in driving emissions reductions and investment, or both.

Next up: how can credit price CCfDs encourage collaborative efforts between provincial, territorial, and federal governments?

Why uncertainty regarding the value of future carbon credits is a policy problem that needs solving

Canadian climate policy wonks from industry to environmental organizations like the idea of Carbon Contracts for Difference (CCfD) as a means of de-risking climate investments — at least in principle. CCfDs can make carbon pricing work better. They can keep Canada competitive with the United States, even in the face of the Inflation Reduction Act. And, relative to a U.S.-style incentive approach, they can save governments money. Yet opinions regarding how, exactly, to implement CCfDs remain diverse.

Canada’s federal government is currently considering how CCfDs could be used to bring certainty regarding the credit prices for output-based carbon pricing systems. We’ll refer to this solution as credit price CCfDs. Credit price CCfDs are a more complicated issue than CCfDs on the benchmark carbon price, or what we will call headline price CCfD. (Note: all three authors still support headline price CCfDs in addition to credit price CCfDs and hope the federal government will proceed with both. Credit price CCfDs are a complement to, not a substitute for, headline price CCfDs).

The upsides of credit price CCfDs are large, given how important “bankable” credit prices are for mobilizing capital. But these CCfDs also come with some significant risks. This blog series explores these risks — and proposes some concrete solutions for the federal government.  

  • This first blog outlines the broad case for credit price CCfDs. 
  • The second blog argues for a specific design for credit price CCfDs that we call direct purchase
  • The third blog tackles a key challenge related to credit price CCfDs: how to ensure that CCfDs give provinces incentives to tighten, rather than weaken, their industrial carbon pricing systems in the future. 

Let’s start with a quick reminder: the basic idea behind CCfDs is that the government would de-risk low-carbon investments against uncertain future carbon prices. CCfDs could help across two different dimensions of risk, both of which are undermining investment in clean growth projects. 

First, headline price CCfDs transfer the risk of future policy change from industry (where such risk inhibits investments) to government (who controls such risks). If the benchmark price of carbon really is $170 per tonne in 2030 as planned, CCfDs cost the government nothing. But if not, the government compensates firms that made low-carbon investments based on the assumption of a high carbon price. That helps clean growth projects attract investment. 

CCfDs might also be well suited for tackling another, related risk. For large emitters covered by output-based carbon pricing, markets for tradable carbon credits are very likely oversupplied. That’s a problem for investment in clean growth projects too. For example, modelling of carbon capture and storage projects suggests that the revenue from credit sales should be enough for these projects to compete with incentives in the U.S. But this is only true if credits are scarce enough that prices are close to the benchmark price. Robust credit prices are likewise critical for the competitiveness of a range of other clean growth projects

Tightening output-based pricing systems — or requiring the provinces and territories to do so, by adjusting the minimum standard — could theoretically solve this second problem, but there are a number of practical challenges. First, it isn’t possible under the current rules for the federal government to require provinces and territories to tighten their systems until 2027. Current systems are locked in until then. In the meantime, uncertainty persists, undermining investment. Second, other policy changes such as availability of offsets, implementation of other policies (e.g., investment tax credits for carbon capture and storage) could further exacerbate the imbalance between supply and demand for credits. That imbalance undermines the expected value of credit prices in the future — and the efficacy of output-based carbon pricing. Third, firms and investors would still be subjecting themselves to the risk that the planned tightening never occurs, especially since project economics are based on longer-time horizons than the five-year timelines being used by government.

Credit price CCfDs could provide certainty on future credit prices by guaranteeing firms a minimum value for those credits. And as long as the federal government ensures credit markets aren’t oversupplied — through ongoing tightening of output-based pricing system thresholds, careful use of offsets, and being careful to account for policy interactions when implementing new policies — the cost to the federal government of providing this certainty will be nothing. 

Carbon contracts for difference are an excellent solution for addressing risks of big changes to future policy. But done right, they might also be a solution to risks that industrial carbon pricing systems aren’t working as well as they could. In both cases, CCfDs can de-risk the investments Canada needs to make to achieve its emissions goals and compete in an emerging low-carbon economy.

As always, however, there are some important devils in the details to maximize impact and mitigate important risks. The next two blogs discuss how to do just that. 

Clean power is the ace up Canada’s sleeve — as long as we don’t waste it

This post was previously published in the Globe and Mail.

The global transition away from fossil fuels is accelerating, and Canada’s newly announced Clean Electricity Regulations and Powering Canada Forward framework will help ensure the country successfully navigates that transition while protecting affordability and grid reliability.

Already, the U.S. and European Union are collectively investing trillions in cleaner industries to secure their place in this new trade order. Luckily, Canada has a clean industrial ace up its sleeve that many of our competitors do not: clean power. But as it stands, Canada is at risk of squandering its winning play – a risk that the federal government wants to mitigate.

The new Clean Electricity Regulations will be critical in helping Canada build a net zero electricity grid by 2035, a goal shared by the entire Group of Seven. But the implications are broader than just electricity generation alone. This past June, for the first time, Canada’s Energy Regulator provided detailed net zero scenarios for our economy, concluding that a bigger, cleaner and smarter electricity system will be the “backbone” of any net zero future. The analysis also found that – contrary to the views of some – achieving (and even exceeding) the government’s goal of net zero electricity by 2035 is possible.

The good news is that Canada is beginning with a significant head start. Our grid is already 84 per cent non-emitting, compared to only 40 per cent in the U.S. That means that the products we make here, from steel to batteries to aluminum, already have a lower carbon footprint. It’s one of the reasons General Motors and others opted to make their components for EV batteries in Canada. And it’s why the Canadian steel industry is vocal in its support of federal government measures to expand clean power.

What’s more, households will actually spend less on energy as they switch to clean electricity, thanks to efficient, bill-slashing technologies like electric vehicles and heat pumps, according to a number of studies. And powering your home and vehicle with clean electricity means avoiding the fossil fuel price volatility inflicted by Russia or Saudi Arabia.

But these new electricity regulations come at a time when Canada is at risk of losing its clean industrial advantage. The country is going to need a lot more electricity in the future (roughly double, in fact) as Canadians plug their cars, homes, and factories into the grid. Canada is at a critical juncture. Without a clean directive, our grid faces the prospect of becoming dirtier – in stark contrast to the direction our trade partners are heading.

Indeed, despite making some progress with a new energy plan, Ontario recently offered up six new contracts for natural gas-fired power to manage its expanding energy needs, especially in light of major nuclear plants going offline. A few provinces have opted to fight the federal government’s clean power ambitions, Alberta most vocally. Premier Danielle Smith even went so far as to reference her opposition to the regulations in the closing words of her election victory speech.

But the opportunity is national, and the provinces resisting these regulations are often those with the most to gain in new investment. Alberta has already bagged almost $4-billion of private sector investment in renewable power. Meanwhile, Atlantic Canada is attracting clean hydrogen proposals leftright and centre, mostly off the back of its abundant offshore wind prospects.

Clean power is cheap. Wind can now produce electricity at lower costs than natural gas-fired power in Alberta and Ontario. Solar power is already cheaper than electricity from gas in Alberta and is on track to be 16 per cent less expensive by the end of the decade. And contrary to popular belief, there are lots of ways to balance renewables’ variability.

While clean electricity is often the cheapest kind around, shifting our grids away from fossil fuels requires investment. To complement the new regulations, the federal government is offering help to provinces and utilities, including new investment tax credits that cover between 15 and 30 per cent of investment costs for clean electricity projects. They’re also offering up new financing sources like the Canada Infrastructure Bank and help with clean electricity generation, transmission, and storage projects – including the Atlantic Loop.

Now the provinces need to step up. They need to decide if they will row together toward a more competitive Canada, making the investments and modernizations required, or if they will row against the international tide and risk squandering our advantage.

Building a clean electricity infrastructure that will power our prosperity in the 21st century will take work. The question is not, can Canada afford to take these steps? But instead, can it afford not to?

Your heart may be breaking, but please take care of yourself

Originally published in The National Observer.

Experiencing the climate crisis? Actively pretending everything is fine despite recent climate and extreme weather events? Feeling isolated in your worries about climate change and the future? Feeling grief and trying to navigate climate change in your work? We hope you will read on.

Dear reader,

By now, you have undoubtedly borne witness to the symptoms of the climate crisis. The fires, droughts, flooding and other extreme weather events are all markers of drastic and devastating environmental change. Rightfully so, the news is everywhere. Articles and journalists are calling this the challenge of our generation: Putting our energy towards a better, more sustainable future than the one we’re currently facing.

But what happens when we can’t find that energy within ourselves?

Terms such as climate anxietyecological grief and solastalgia — the distress caused by the environmental devastation of places we’re deeply connected to — are increasingly popular. Three out of every four Canadians feel that climate change impacts their mental health with anxiety about our rapidly warming climate, while one-third of Canadians feel hopeless about our ability to arrest that warming.

One place the toll is felt is in our workplaces. Reported burnout across all sectors is at a record high. It is extremely difficult to continue as normal in our jobs when our world is quite literally on fire.

Worse, climate anxiety and grief follow you home. In the past few years, the climate crisis has intersected with a global pandemic, economic disruption and war. It is not surprising that many of us facing climate catastrophe are now sitting with feelings of grief and anxiety.

This summer’s wildfires have been particularly damaging to mental health. Research has shown that smells enhance autobiographical memories and trigger trauma-related flashbacks and that rates of PTSD, depression and generalized anxiety climb after wildfires and remain elevated for years after.

As two professionals working in climate research, we are too familiar with the mental, physical and emotional toll this crisis takes. For one of us, the irony of being diagnosed with melanoma while working in climate research is not lost. For the other, being diagnosed with a chronic stress-related illness at a very young age really drives home the importance of taking care of our well-being. The impacts of a worsening climate crisis — ranging from rising mental health costs, new viruses, spreading Lyme disease and increased asthma and cancer rates — will only further burden an already stressed health-care system.

The Canadian Climate Institute’s Health Costs of Climate Change report finds that climate change will cost Canada’s health-care system billions of dollars and reduce economic activity by tens of billions of dollars over the coming decades. We know mental illness in Canada is already a critical issue, with major social and economic implications. Productivity losses associated with depression cost about $34 billion a year in Canada; anxiety is estimated to cost $17 billion per year. An increase in the rates of mental illness caused by climate change could therefore carry major costs.

Our lives, memories, cultures and hopes are inextricably tied to the land and the places we love. For some in Canada, the connection is a newer one, while for others, this connection is foundational and has been in place for generations. But no matter how you connect to the land, watching it transform so quickly has many of us struggling and looking for support.

From climate grief to climate wellness: A way forward

Many of the online resources we’ve found for coping with big climate feelings are rooted in exercises designed to draw your attention to other things, rather than sitting with the crisis and being in your own body. These strategies can be incredibly helpful and have their place in being well and able to meet the challenges of today. However, if a fire alarm is ringing, strategies for distracting yourself from the upsetting sound are only so useful.

In other words, it becomes easy to neglect what your body is telling you and fail to take the actions necessary to protect yourself. We must instead sit with our feelings and slow down — to process, grieve and connect to the world we live in — so that we can respond as the situation demands.

Climate anxiety can feel extremely isolating, but far more people are experiencing it than we might realize. Validating and speaking openly about these feelings are particularly important for those of us working in climate-related fields — including touchpoints like industry, health care, and even teaching. Working in climate-related fields can create a sense of urgency in the workplace that often compounds the stress. We may feel that if we aren’t working on the problem at all hours of the day, we are wasting valuable time and energy that should be spent on putting out the metaphorical (and literal!) fires.

In reality, the depth of climate impacts on wellness and health can no longer be pushed aside or toughed out by working harder. Prioritizing wellness and well-being is, and needs to be, better recognized as a part of climate work, workplace policies and climate action.

Once we are able to process, accept and move through our climate emotions, we can arrive at a place where we are able to practise agency and have impact. In other words, we can decide when to engage and use our energies and when we need to rest and recover. The act of choosing to put ourselves in these spaces — as much as we are ready and able — creates both healthier work environments and healthier people within them, reducing rates of burnout and stress.

Discussing climate feelings and prioritizing wellness can create the space for more people to access needed resources and support while fostering a safer space for all to build connections. The way forward is together.

So take your time and sit with your feelings.

Stop and smell the roses — or as the Reddit and TikTok meme has it: Have a banana and sit outside for a while. The work will still be there when you’re done, and you might find you’ve got a little more spirit for it.

Two climate-hopeful folks,

Janna and Maria

Janna Wale is a member of Gitanmaax First Nation and is also Cree-Métis. As an Indigenous climate researcher, she has been acutely aware of the impacts of the climate crisis on her home, her family and her culture. She is actively prioritizing her well-being and is making efforts to be more vocal about the social impacts of the climate crisis, which are affecting our youth in particular. She is a policy adviser at the Canadian Climate Institute.

Maria Shallard is of mixed settler descent with ancestral ties to Penelakut First Nation through her grandfather. She is passionate about the well-being of the land and waters, having witnessed impacts on places she calls home and cares about providing a future that is grounded in holistic health for the next seven generations. She is a senior adviser, Indigenous partnerships and research, at the Canadian Climate Institute.

Five things to watch for in the Clean Electricity Regulations

Update: The draft Clean Electricity Regulations were released in August 2023. Read our assessment.

Clean electricity is beating everyone’s expectations these days. We’ve seen record expansions of renewable energy worldwide, outshining expert forecasts. Global investment in solar, for example, is set to eclipse total investment in oil production for the first time ever.

Here in Canada, renewables are surging in places like Alberta, where they have been enabled by both government policy and market forces, and have helped eliminate reliance on coal this year, spurring enormous investments in Gigawatt-sized projects along the way. Alberta’s pause on renewables is out of step with this remarkable progress. It’s a pause on billions of dollars in investment and jobs that come with that.

Despite this recent setback, one of the most important policies for clean electricity is expected in the near future: the federal Clean Electricity Regulations (CER), which are meant to push Canadian electricity emissions toward net zero. The goal is to lay the foundation for a net zero economy by mid-century through smart, efficient regulatory muscle that establishes an enforceable standard in the electricity sector that will drive emissions to net zero. The CER would complement other emissions-cutting supports and actions—clean electricity tax incentives, grants and other investment tools (see here for a detailed breakdown by province), and policies like mandates for zero-emissions vehicles and carbon pricing.

As we’ve said before, clean electricity is a critical must-have for future business investments and jobs in Canada, and is core to every conceivable pathway to meeting our national emissions targets. Recent polling also highlighted that Canadians right across the country see the CER as an important part of achieving a net zero electricity grid by 2035.

Done right, switching to clean electricity will save Canadians money. Our research shows that, on average, households will save 12 per cent on energy costs by 2050 as they switch off fossil fuels to power their homes, vehicles and businesses with clean electricity.

In anticipation of the release of the final regulations, we’ve outlined five pieces to watch for that will affect their ability to cost-effectively reduce emissions in the electricity sector.

1. How will gas-powered facilities built after 2025 be treated under the regulation? Will they be subject to the performance standard in 2035 or sooner?

The draft proposal from last year says that the CER will establish an emissions performance standard (likely tonnes of CO2 equivalent per Gigawatt hour of electricity generated) that is near zero starting in 2035. A power plant would not be allowed to operate if its emissions performance exceeds this level for an as-yet-unspecified “prescribed” period of time. That same power plant would have to make a financial payment in line with the carbon price or purchase carbon offsets, for the residual emissions allowed under the policy.

For units that are commissioned in 2025 or afterwards, the federal government has signaled that these power plants will only be subject to the CER rules starting in 2035. The explicit hope is that this will deter high-emitting projects in the interim because they “will need to resolve the financial implications of having to comply with the CER obligations even in their initial project development,” according to the proposed standard.

The issue is that waiting for 2035 for the regulations to kick-in, instead of enforcing them earlier for these types of projects, in a phased manner or otherwise, risks increasing emissions in the run-up to 2035.

2. How long will existing gas facilities’ “prescribed” life extend? What does this mean for individual provinces’ continued use of gas post-2035?

The draft proposal notes that natural gas facilities built before 2025 would receive special treatment under the regulation that would allow them to operate for a short “prescribed” period after 2035. It does not specify how long this period will be.

It goes without saying that the exact timespan of individual facilities’ prescribed life matters greatly. These details will determine both the size of the residual emissions after 2035 and how long they will extend, and thereby the quantity of emissions that would need to be offset to be consistent with net zero. They will also determine how long (and how deep) individual provinces’ reliance on some amount of natural gas generation for baseload can extend post-2035.

3. What will the rules be for continued use of gas facilities (beyond their prescribed life) for balancing renewables?

The federal CER proposal acknowledges that “continued use of natural gas may be required especially for emergencies and in some circumstances to complement variable wind and solar, but this use should decline over time as technologies evolve.”

Facilities that are helping balance renewables will be subject to at least two limitations, both of which have not been specified yet. They will need to emit less than a currently unspecified emissions limit (“less than [TBD] kilotonnes per year”) and they must operate less than a currently unspecified amount of hours per year.

In these cases, the questions that follow are: What limits are placed on their permitted hours of operation and total annual emissions? And how will these emissions be dealt with—will operators have to make compliance payments against them?

Again, these provisions will determine the amount of residual emissions allowed post-2035. This matters for the next piece to watch for.

4. How will post-2035 emissions be treated under the regulation, and outside of it?

It is very likely that some amount of greenhouse gas emissions will still come from the electricity sector in Canada post-2035 under the CER. The question is exactly how much and how to deal with it.

Currently, both financial payments and carbon offsets are on the table for addressing emissions that may still be in the system post-2035. Allowing both means that some portion of regulated entities will choose financial compliance, creating residual emissions.

Will revenues from financial compliance penalties paid by utilities be dedicated for recycling to ratepayers, or will they be used by governments to procure offsetting negative emissions that deliver net zero? If they will not be used to deliver net zero, will the federal government use separate funding pools or other means to secure these offsets and deliver on its net zero commitment? And how would the government ensure the offsets are of high enough quality to deliver genuine net zero emissions?

5. What will be done outside of the scope of the regulation?

One of the most important questions outside the scope of the regulation is whether the federal government will complement the CER by doing away with the current approach of applying the industrial carbon pricing system in the electricity sector— known as output-based pricing—and instead apply the full carbon price to the sector.

There are good reasons to use output-based carbon pricing, but most of them don’t apply to electricity, so this policy change would make sense. It would help drive cost-effective reductions and complement the CER. The government could then take revenues generated from the full carbon price paid by utilities and return them to ratepayers to keep costs low.

Unlocking a future of clean, reliable, affordable electricity

The federal budget laid out tens of billions of dollars in new support that will dramatically accelerate these trends to build bigger, cleaner, smarter grids in provinces and territories across the country. And as our research has shown, the transition to clean electricity can help power Canadian households with clean, reliable and affordable electricity, all while paying less than they are today for energy.

The CER is an important part of how Canada unlocks that future. The policy will need to balance the need for power to be clean with the need to ensure it remains reliable and affordable. This will require trade-offs, so it will be critical to watch how much residual emissions the CER allows in the interest of flexibility, and by extension, how large the offset lift will need to be to make the sector genuinely net zero.

Circularity: The next wave of climate action

Efforts to reduce greenhouse gas emissions have historically been concentrated in the energy sector, whether that’s building more clean energy or electrifying transportation. Yet such a specific focus misses how emissions in one sector of the economy can have their roots elsewhere. New models need to be explored that consider the economy more holistically—the concept of a circular economy is one option that’s gaining traction as a way to loop material into the climate conversation, and reduce emissions outside of the energy sector.

Studies show that as much as 70 per cent of global emissions are induced by our material demand, for everything from raw minerals to complex electronics. Moreover, by most metrics, Canada is failing to lead on sustainable, low-carbon materials. Amongst the G7, it has the worst economic productivity from material consumption and the highest per capita emissions from material waste. Such performance reflects poorly on Canada’s ambitions to be a major supplier of critical minerals and other key clean economy materials. To make inroads, Canada should take a closer look at material management as an additional emissions reduction pathway and push harder to advance the concept of a circular economy.

What is a circular economy?

A circular economy is one that repurposes and manages material, including minerals, metals, plastics, and processed goods, for as long as possible and as productively as possible before they become waste.

Under the circular framework, the well-known “reduce, reuse, [and then] recycle” adage is applied across the flow of material. Reusing and recycling at the disposal stage loops material back into the economy, which reduces the need for and decouples economic value from new material extraction, and also reduces emissions. Thanks to more efficient and effective material consumption, studies project that a circular economy would reduce emissions by up to 45 per cent globally, although estimates vary by sector and modelling assumptions.

Countries are making headway on their circularity path

More and more countries are signalling that circularity will be a growing part of their climate strategies. Major economies like the E.U., the U.S., and China have all set explicit goals to better integrate circularity into emissions reductions and the clean economy, with China listing circularity as the sixth of ten key tasks for plateauing emissions growth.

Some are starting their implementation of a circular economy through knowledge and capacity building. The Netherlands’ DuboCalc and the CO2 Performance Ladder assesses the emissions emitted by both products and processes, for example, and the proposed European Dataspace for Smart Circular Applications would provide a common datasource to assess circularity.

Overall, 79 out of 193 countries specifically mention the circular economy in their United Nations Nationally Determined Contributions (NDCs), which are climate plans showing how each country is reducing their national emissions.

Canada is still out of the loop

Canada’s NDC only mentions circularity in the context of British Columbia. Quebec—the only jurisdiction in Canada with a Circularity Gap Report case study—is only 3.5 per cent circular, in contrast with the global average of 8.6 per cent. Further, Canada does not comprehensively track material flows like the E.U. and has lower rates of recycling. Only 9 per cent of plastic in Canada is recycled compared to 33 per cent in Europe, and Canada does not have an equivalent to the E.U.’s target of reusing or recycling 55 per cent of municipal waste by 2025.

In short, Canada has some catching up to do, particularly as a circular economy is not something that can be implemented overnight. Although some existing policies could be considered circular, like procurement of recycled material and extended producer responsibility assigning management of waste, they haven’t been fully leveraged.

Where Canada does have an edge in circularity is in global demand for its raw material resources and a strong base of clean energy to sustainably meet that demand. Many circular improvements like chemical and industrial recycling are energy intensive, and clean energy has already helped Canadian steel achieve some of the lowest emissions intensities in the industry. Individual businesses in Canada are showing an eagerness for action in this space, with global chemical company BASF piloting a blockchain project to track recycled plastics and tech company HP Canada exploring products-as-a-service models to keep material in the economy for longer.

Additionally, there are emerging case studies on the cost effectiveness of circularity. For example, optimizing packaging has been promoted as a way to reduce food waste in Quebec and substituting for the best available construction materials is reportedly an accessible, affordable, and code-compliant way to halve embodied building emissions in the Greater Toronto area.

The circular upshot

Material management policies have not historically been part of the climate space, but energy sector policies alone can only do so much, especially in hard-to-abate industrial sectors. As shown in our recent paper, circularity can generate significant emissions reductions, with the right support. Upstream product design and downstream waste flows are in particular need of better incentives, integration, and standardization. Making Canada’s economy more circular can ultimately open up critical new opportunities to more fully align the economy with net zero by 2050.

Cash flow modelling shows that governments must walk a fine line on supporting carbon capture and storage at oilsands facilities

This is the third article in a series of three on Canada’s climate objectives and the oil and gas sector, originally published in Policy Options.

Companies responsible for 95 per cent of oilsands production in Canada have committed to achieving net-zero upstream emissions by mid-century.

Achieving this ambitious goal requires timely and unprecedented investments. It will also be essential to comply with the federal government’s forthcoming cap on oil and gas emissions and to stay competitive in the global low-carbon transition.

Looking across the options that oilsands producers have to reduce their emissions, carbon capture and storage (CCS) could have the biggest impact. Despite its potential, however, the economic case for CCS is still unclear. Publicly available information is limited and shows a wide range of costs to deploy the technology.

Meanwhile, the largest oilsands operators are requesting an additional $11 billion from governments to help pay for CCS projects.

To shed light on how existing regulations and proposed financial incentives affect the economics of oilsands CCS projects, we developed a cash-flow model (using publicly available information) to examine the viability of retrofitting two hypothetical oilsands facilities with CCS.

(For the purposes of our analysis, we leave aside questions about whether CCS technology can be deployed at scale and assume it can and should be scaled.)

The upshot? Our modelling shows that these projects are economically viable after factoring in Canada’s suite of climate regulations and incentives, including the rising carbon price. In fact, our modelling shows private investment in oilsands CCS projects could yield substantial returns for the companies.

These findings raise big questions about the role of government policy, particularly at a time when the oilsands industry is asking for billions of dollars in additional taxpayer funds.

For starters, our results show why further public subsidies, beyond what have been announced, are not necessary to make these projects economic.

They also highlight the need to design public incentives with mechanisms that prevent excessive profits from supporting projects that would ultimately make it harder and more expensive to reduce emissions.

In addition, the results show why it’s critical to finalize keystone policies to get oilsands CCS projects off the ground and to provide policy certainty. Not all CCS projects will get the same incentives, project costs vary and critical incentives from federal and provincial carbon pricing systems are not easy to bank on in the long term.

Proposed contracts for differences that would help underwrite the carbon-pricing risk, as well as proposed investment tax credits, have been slow to be developed and are not yet final.

As federal and provincial governments continue to weigh the economics and tradeoffs at play, we offer three major takeaways from our results (our in-depth technical supplement is forthcoming on the Pembina Institute website).

1. Deploying CCS on oilsands facilities can improve the industry’s carbon competitiveness but does not eliminate transition risk

Scaling up CCS could significantly cut emissions and improve an oilsands facility’s carbon competitiveness.

A new analysis by the Canada Energy Regulator (CER) shows that as the transition to a global low-carbon economy accelerates, oil demand is expected to decline significantly. In that shrinking market, oil producers with the lowest costs and carbon intensities will be more competitive and will have a lower risk of their facilities becoming stranded.

The chart below shows carbon intensity and production costs for existing Canadian oilsands facilities and how they compare with international crudes.

Some Canadian facilities perform only a little worse than global averages, while some are much worse. Over time, as oil demand declines, cost pressures and the requirements to reduce emissions could increase stranded-asset risk for facilities with higher break-even prices and higher carbon intensities.

This graph shows CCS retroits could reduce carbon intensity of select Canadian oilsands without significantly impacting breakeven price.

The figure above shows the impact of adding one megatonne per year of CCS to an oilsands in-situ and to an integrated mine facility.

At the in-situ facility, CCS could allow it to beat the global average crude oil emissions intensity, cutting emissions by 40 per cent. An oilsands mining facility, on the other hand, would need to invest in several CCS projects to achieve global average emissions intensity.

Importantly, both projects could generate net earnings from installing CCS, equivalent to about $2 per barrel, improving a project’s cost competitiveness.

These improvements would not, however, eliminate the transition risk facing oilsands facilities. Achieving the Paris Agreement goal requires a steep drop in the emissions generated from upstream oil production over time (about 90 per cent from 2023 levels, according to the CER analysis), so benchmarking against current averages will not be good enough.

Moreover, installing CCS might not be worth it at facilities with limited remaining reserves, or very high carbon and cost intensities, because it may not be feasible or justifiable to make them competitive in the medium to longer term.

Even for competitive projects, stranded asset risk is not static. Those with longer economic lifespans and lower risk today will eventually face a high longer-term risk of becoming stranded as global oil demand declines.

2. Governments should follow through with announced policy measures swiftly, so installing CCS on existing oilsands facilities is economically viable before 2030

A key indicator for whether any decarbonization project is economically viable is how its cost compares to Canada’s rising federally set carbon price, which applies to large industrial emitters. If the cost to reduce (or eliminate) emissions from a facility is cheaper than paying a carbon price on these same emissions, businesses have an incentive to build the decarbonization project.

Our modelling shows that both types of CCS projects are economically viable against this measure.

We estimate that installing CCS at an in-situ facility (capturing and sequestering emissions from natural gas-fired steam and power) and an oilsands mining facility (capturing and sequestering emissions from the upgrader hydrogen plant), will cost between $89 to $144 per tonne of emissions avoided. This cost is below the carbon price which is set to rise to $170 per tonne in 2030.

Our results also emphasize the importance of policy certainty from governments, especially the commitment to implement “carbon contracts for differences.”

For example, these contracts could allow project developers to bank on Alberta’s technology innovation and emissions reduction (TIER) system credits reaching a certain agreed price. Since large decarbonization projects depend on revenue from carbon credits, this increased certainty is important for investment decisions.

Our analysis also underscores the importance of the proposed federal carbon capture, utilization and storage (CCUS) investment tax credit to the viability of CCS projects, along with credit prices under the federal government’s clean fuel regulation credits.

3. No new public supports are required to get oilsands CCS off the ground

The results from our cash flow model show that government policies are critical to making oilsands CCS economically viable. Government funding in the form of a limited CCUS investment tax credit can help reduce the risk for these big, capital-intensive projects and kickstart decarbonization in the oilsands – as well as in other sectors such as cement.

But our analysis also provides important insights into the broader debate about fossil fuel subsidies on the path to net-zero.

The biggest incentives for oilsands CCS come from carbon pricing, especially TIER credits but also from clean fuel regulations credits. These incentives do not come from taxpayers; industrial polluters buy them to meet their emission reduction requirements.

By contrast, the federal government’s proposed tax credits for CCS projects are a more conventional type of public subsidy but play a smaller role in the economic viability of CCS.

At a minimum, our results suggest that by 2030 – assuming proposed federal policies are finalized soon – additional public support for oilsands CCS will not be required to make these projects economically viable. In fact, any additional public support beyond the proposed incentives risks providing excessive profits for oilsands CCS deployment.

Our analysis shows that oilsands CCS projects could generate returns that are highly competitive with other investments in the sector.

Using middle estimates for capture costs, transport costs, incentive levels and project lifespan, our analysis suggests that installing CCS could generate returns as high as 21 per cent at a mining facility and 12 per cent at an in-situ facility. Even in a scenario where a project becomes stranded in 10 years, these projects could generate average returns above eight per cent.

Many CCS projects need the proposed incentives, but the potential for high private returns suggests that existing and proposed policies and supports should be designed carefully to reduce excessive profits.

Under an oil and gas emissions cap, investments in CCS will become a cost of compliance – or a cost of doing business – so any private return above zero should raise questions about whether public supports are appropriate and necessary in the sector.

In practice, this could mean designing carbon contracts for differences and CCUS tax credits in ways that reduce potential liabilities on taxpayers and excessive profits for companies.

It could also mean focusing government policies on oilsands projects that can demonstrate lower production costs and lower carbon emissions, betting on projects that will have a greater chance of surviving declining global demand. In the energy regulator’s recent analysis, only the most efficient projects continue to produce in a world with dramatically lower oil demand.

Still, these findings point to a much bigger need for a comprehensive and transparent framework that governments can use for determining whether – and under what conditions – they should support the decarbonization of upstream oil and gas. We looked at this broader question in the second instalment in this series.

Walking a fine line on CCS policy for the oilsands

The global low-carbon transition is ushering in a new investment and policy environment for Canada’s oil sector. Widespread and rapid deployment of CCS will likely be an essential ingredient for oilsands to stay competitive and in business.

Our analysis suggests that investments in oilsands CCS could offer compelling private shareholder returns if governments can finalize proposed incentives and policies.

In fact, in the context of the federal government’s forthcoming cap on oil and gas emissions, investments in CCS could offer that sector above-market returns for what will arguably become a cost of doing business and a form of regulatory compliance.

Governments therefore must walk a fine line on oilsands CCS incentives moving forward. Finalizing keystone policies is critical. At the same time, it is incumbent on governments to design these policies in ways that guard against excessive private profits from public incentives and that minimize the risk of making bad bets.

Details of the methodology and assumptions used in this analysis are forthcoming and will be available on the Pembina Institute website.

Ottawa must think carefully about subsidies for oil and gas emission reductions

This is the second article in a series of three on Canada’s climate objectives and the oil and gas sector, initially published in Policy Options.

Federal commitments to phase out subsidies and other public financing for fossil fuels are on a collision course with its plans to cap oil and gas emissions, and to support sustainable jobs.

Despite progress in reducing some support for fossil fuel production, federal financing for emission reduction projects such as carbon capture, utilization and storage (CCUS) is growing. The federal tax credit for CCUS is expected to cost between $1 billion and $2 billion per year by 2027. The oil and gas sector could also secure public funds through the $15-billion Canada Growth Fund or other programs.

Disagreements around the precise definitions of “subsidy” and “inefficient” continue to paralyze the debate in Canada, particularly whether such support for emission reduction projects counts as a fossil fuel subsidy or does not. But the more important question is whether it makes sense for the federal government to allocate scarce financial resources to help oil and gas companies reduce emissions. As with most policy questions, the answer is: it depends.

Proponents argue that government investments are needed to help the sector meet the forthcoming cap on oil and gas emissions and provide “sustainable jobs” on the pathway to net-zero in 2050.

Yet a recent analysis from the Canada Energy Regulator highlights that Canada will not be in the driver’s seat for the transition. Global demand for oil and gas could drop dramatically depending on the pace of global climate action, the costs of emission reduction technologies, and export infrastructure.

Does it make sense to spend billions of taxpayer dollars to reduce emissions when Canadian production could be curtailed naturally by market forces?

The federal government needs a transparent and rigorous framework to evaluate public spending on emission reduction projects in the sector. While there are significant risks for both climate and the economy associated with providing any level of support to fossil fuel activities, there is a case for providing some – targeted and temporary – support.

Drawing on a 2022 paper from the Canadian Climate Institute, we propose a four-part analytical framework that federal departments, Crown corporations and arms-length institutions should use before committing financial support to help oil and gas projects reduce their emissions:

1. Consistency of the company and the project with domestic and international net-zero emission scenarios

When federal organizations consider investments in an emission reduction project at an oil and gas production facility, they should have a reasonable expectation that the asset will not be stranded because of policy or market change.

They should also consider the extent to which financial support could prolong the lifespan of oil and gas facilities, and therefore make it harder to achieve the country’s climate targets as well as impose added costs elsewhere in the economy.

Canada’s recently developed a climate investment taxonomy that is designed to help private investors identify which projects have low transition risk and to provide parameters that could be a basis for federal decision-making.

At a company level, this could limit public support to companies that follow international best practices in net-zero target-setting (including all lifecycle emissions), transition planning, and disclosure. At a project level, it could limit support to existing projects that will result in transformational emissions reductions while checking any possibility of expansion.

The proposed climate investment taxonomy provides a good starting point for federal public investment since it is both consistent with federal and international climate goals, and a sound investment strategy. Cementing this initiative quickly is also critical to mobilizing private dollars to reduce emissions in Canada’s oil and gas sector.

2. The expected economic value of the project relative to alternative funding options

Calls for public investment in oil and gas emission-reduction projects often invoke concerns about competitiveness, the value of the company or project to the economy, and the risk that investment or production will go elsewhere. These arguments warrant closer scrutiny.

The long-term value of the sector to Canada’s economy is uncertain and the importance of developing new sources of economic growth and export will increase over time.

The oil and gas sector currently occupies an important segment of Canada’s economy, generating around five per cent of GDP. However, with 80 per cent of oil and 48 per cent of natural gas exported to markets abroad, oil and gas production in Canada is vulnerable to the pace and scale of the inevitable decline in demand over the course of this century.

Evidence also suggests that federal climate policies are not an existential threat to the sector. Recent analysis shows that adding carbon capture and storage to an oil sands facility could have a minimal impact on facility costs with existing tax credits and long-term certainty on the carbon price.

If these projects can get built, there is little risk of facility closure from emission reduction costs, especially considering the anticipated flexibility in the oil and gas emissions cap and relatively buoyant oil price projections to 2030.

Low-emission production will be the cost of doing business in the coming decades, particularly as climate-focused trade measures, such as carbon border adjustments, expand. Private investors in new projects, including liquefied natural gas, should factor those costs into their assessment of project economics rather than rely on additional government financing, beyond existing tax credits, to achieve compliance.

Meanwhile, opportunities are growing in other markets such as renewable energy, hydrogen and critical minerals. The economic value of an investment in oil and gas should therefore be carefully weighed against the value of alternative investments, particularly given constrained public budgets.

There may, however, be a limited rationale for public investment in specific types of projects where global demand is expected to grow or where benefits might spill over across multiple sectors.

For example, supporting certain blue hydrogen projects – where hydrogen is produced from natural gas and a high percentage of emissions (e.g., above 90 per cent) are captured and stored underground – may be justified by the economic opportunities generated in certain regions. Supporting critical infrastructure for low-carbon projects, such as CO2 pipelines and sequestration facilities, could also benefit other industry sectors in addition to oil and gas.

Projects should undergo a cost-benefit analysis that evaluates the resilience of the facility to market forces over the coming decades. Lower-cost, lower-emission facilities are likely to be more competitive and more resilient.

3. How the project will affect worker and community vulnerability

Preserving jobs is another common rationale for putting public funds into reducing emissions in the sector. Communities in British Columbia, Alberta, Saskatchewan, and Newfoundland and Labrador benefit from substantial employment due to work at oil and gas facilities.

If those facilities face financial challenges due to declining prices linked to decreased global demand, governments will act to preserve employment and support the communities.

Government support can help companies weather a temporary economic shock, such as the drop in oil prices in 2020 at the beginning of the COVID-19 pandemic. The low-carbon transition, however, is not a temporary shock. It is a permanent structural change to the economy that will only grow greater over time.

In this context, short-term employment benefits should be weighed against the risk of delaying an inevitable economic transformation. Investment will bolster community resilience only if it transforms the facility to a state where it is transition-consistent.

Governments should also assess the extent to which communities are vulnerable to sectorial job loss. In a 2021 report by the Canadian Climate Institute, communities were determined to be highly dependent on a particular sector if it accounted for more than 10 per cent of direct employment in the area. Using this type of indicator can help determine where targeted and temporary supports could generate large regional or community employment benefits.

However, the best action may not be to support the existing facility or project if there are opportunities to attract new and sustainable sources of economic growth and job-creation.

4. The suitability of the policy tool to the level of risk associated with the project

Public investment in a project is akin to making a bet that the public benefits of the project – in terms of economic activity, employment, and emission reductions – will outweigh the costs. In the face of uncertainty, governments can limit the risk of making the wrong bet by combining lower-risk projects with lower-risk policy instruments.

The 2023 federal budget provided a helpful hierarchy for how government should think about different public investment tools.

The bottom of the hierarchy includes broad-based instruments that embody relatively lower risk exposure for taxpayers. This includes contracts for differences – alongside carbon pricing and regulations – where governments sign a contract with a company investing in an emission reduction project.

The contract commits governments to compensating companies which experience financial losses associated with a future deviation from the official carbon price trajectory. These contracts should carry a low risk of making the wrong bet in the sense that they reinforce carbon pricing. The challenge is to make them widely available so that all types of projects or companies have access.

On the top of the hierarchy are instruments that run the greatest risk, where governments could make the wrong bet. These bespoke instruments, such as the Strategic Innovation Fund or the Volkswagen investment, have the greatest government discretion, with flawed or incomplete information on the company, project and market. The risk is compounded when public investments are large.

Sandwiched between the pyramid’s two extremes are investment tax credits, such as the carbon capture and storage tax credit, and “strategic finance” such as the $15 billion Canada Growth Fund that is managed by the Public Service Pensions (PSP) Investment Board.

The transition risk associated with oil and gas projects – due to uncertain future global demand – magnifies the risk that governments will make the wrong bet. Figure 1 below provides an illustration of the interaction between instrument risk (making the wrong bet) and project risk (whether anticipated economic, employment and emission-reduction benefits are realized).

This graph shows governments should consider project risk and policy risk when placing bets on oil and gas emission reduction projects.

As the federal government develops its framework for fossil fuel subsidies and finance, it should aim to phase out and avoid any high-risk public spending. Medium-risk spending should also undergo substantial scrutiny.

The bottom line

The government’s approach to financial support for emission reduction projects in the oil and gas sector should place the burden of proof on the company and the specific project, with all supporting analysis made publicly available.

Oil and gas companies should be expected to provide evidence that the project will generate long-term public benefits through continued economic activity, emission reductions and employment, and that existing policy tools are inadequate.

The policy tools used to provide support should also be tailored to the level of transition risk facing the company and project. Governments should not be placing risky bets on projects that may fail to deliver the public benefits promised.

The federal government’s proposed framework can help decision-makers direct public support to the lowest-risk, highest reward projects. It can also help guide public spending on clean growth projects, such as those in renewable electricity, low-carbon hydrogen, or batteries and storage.

When 2050 comes and Canadians evaluate how governments supported the transition to net-zero, they will not focus on the technical definitions of what is, and what is not, a subsidy.

What will matter are the outcomes and whether the public is confident that successive governments made the soundest decisions possible. That requires a transparent analytical framework and rigorous evaluation of alternatives. This should be combined with the ongoing evaluation of large investments to determine if the public benefits which were promised were ultimately achieved.