Need for (regulatory) speed

Budget 2023 recognizes the transformational opportunities for Canada as governments, technology, and markets respond to climate change. The budget presents a “made-in-Canada” plan consisting of a smart mix of carbon pricing, tax credits, strategic finance, and targeted programming to mobilize private capital for the clean economy of the future. 

But that’s not enough to get shovels in the ground. 

In order to ensure these climate investments pay off, governments at all levels need to find ways to speed up impact assessment and permitting processes for clean growth projects while simultaneously respecting Indigenous rights and title, and broader sustainability objectives.

It’s time to build, and fast  

The world is quickly assembling the essential building blocks for a net zero economy that can compete with incumbent systems.

Since 2020, solar has offered some of the lowest-cost ways to generate electricity, and continues to get cheaper. Electric vehicles are now less expensive than their gas-powered equivalents on a lifecycle basis. And hydrogen produced from clean electricity is likely to be cost competitive with its fossil gas-derived alternative within the next decade. 

However, the scale of the challenge is enormous. To create the net zero economy of the future, we need everything from transmission lines to critical mineral mines. Looking just at critical minerals, demand is expected to increase by as much as six times by 2040 compared to today as they are essential inputs for solar panels, batteries, wind turbines, and many more clean technologies. 

Within this global context, Canada doesn’t have the luxury of time. First, there’s a narrow pathway for Canada to meet its 2030 climate goals. Rapidly building out clean growth infrastructure is essential for success. Second, there are significant competitive pressures adding to the sense of urgency. Canada is competing against the rest of the world to attract capital and talent to its shores in the race to build the global clean economy.

For critical minerals, there’s a more precise deadline for Canada to meet. The U.S. Inflation Reduction Act introduces a tax credit for electric vehicles that source materials from U.S. trading partner countries (i.e., including Canada), but that provision sunsets in 2032. To take advantage of this opportunity to supply the American auto market, Canada needs to scale-up production faster.

Unfortunately, there’s a problem: it’s hard to build things in Canada. 

What’s standing in the way

Impact assessments and permitting are major bottlenecks for project development in Canada. 

Government estimates show that it takes about 12-15 years on average to build a new mine in Canada. Building a facility to process ores and produce battery active materials could take 7 years

The causes of these lengthy timelines are numerous. The need to complete multiple, and often repetitive, impact assessment and permitting processes across multiple orders of government is often a hindrance. As is the limited capacity of regulators and assessment agencies to process the volume of applications they receive—a problem that will only get worse as the number of prospective clean growth projects increases.

Furthermore, the potential for political intervention in regulatory assessment processes drives uncertainty which deters investors and harms the bankability of clean growth projects. Uncertainty also arises from the ongoing legal challenge to Canada’s legislation governing project assessments (the Impact Assessment Act, formerly known as Bill C-69) and the persistent opposition to the Act from many industries, provinces, and political parties.

Smart regulation, not deregulation

Collectively, these project assessment frictions could hold Canada back from playing a leading global role in providing the materials and technology needed to power the energy transition. 

Yet, the imperative to fix the glacial pace of project assessments and permitting cannot become cover for cutting regulations across the board. Canadian governments have socioeconomic responsibilities to people and communities across Canada as well as legal and moral responsibility to Indigenous Peoples and the environment. Moreover, rigorous regulatory standards and ESG records are increasingly becoming necessary to attract economic investment. Securing a social license to operate is now a vital prerequisite for project success. 

The needle that needs threading is this: regulatory bottlenecks must be resolved, but without generating significant adverse environmental and socioeconomic impacts nor infringing on the sovereignty and rights of Indigenous Peoples. Clean growth projects should only be going ahead with the consent and partnership of Indigenous Peoples and should be providing net benefits to the local environment and communities. 

Also—not every new project being proposed should get built. In some cases, a project may create too many adverse impacts, offsetting the benefit it could provide. A project may also lack the support of the sovereign Indigenous communities on whose lands the project would operate. In such a situation, a project cannot proceed. 

The Impact Assessment Act works hard to advance meaningful consultation and partnership with Indigenous Peoples while creating more safeguards to protect our natural environment. But that’s not to say that the Act’s implementation can’t be improved to better thread this needle. Doing so is essential to building clean growth projects at the pace necessary for Canada to become a leader in the global clean economy.

“Getting Major Projects Done”

These complex tradeoffs are clearly on the minds of governments and policy makers and are an area of research that the Institute’s clean growth team is starting to dig into.

Beyond the various tax incentives and policies to catalyze investment in the clean economy, Budget 2023 also promises to provide a “concrete plan to improve the efficiency of the impact assessment and permitting processes for major projects,” due later this year.

Reducing regulatory frictions is the next key challenge for Canadian governments. 

Clean growth projects need to get built faster; that much is clear. But doing so means streamlining project assessment and permitting processes across multiple orders of government, including Indigenous governments, while ensuring transparency and predictability. Ultimately, the goal is to efficiently render a decision on if and how a project can proceed that balances costs and benefits. It’s a tall order, but Canada’s energy transition is counting on getting this right.

Building better investment infrastructure

Money is being promised to sustainability faster than it can be spent. Across major markets, US$35 trillion or 36 per cent of assets under management are being invested with sustainability in mind, but investors are stuck competing over a limited amount of bankable projects. Sustainable finance infrastructure, detailing the “rules of the game” for how sustainable finance is meant to flow, is struggling to keep up with all the new sustainability spending. In response, governments are upgrading finance infrastructure and a key approach has been to standardize information and diversify instruments. As Canada ramps up its sustainability spending, it should learn from these innovative infrastructure investments.

Sustainable finance only flows as fast as the information identifying projects as sustainable. Without consistent and universal information, it is costly and time-intensive for investors to identify good sustainable investments and to avoid those with exaggerated sustainability claims. As it stands, a study of six financial rating agencies found they collectively used 709 different metrics across 64 categories to rate sustainability performance. Financial centres around the world have consistently pegged the lack of standardized quality information as the top sustainable finance concern, and, after greenwashing, it is the main concern for Canadian sustainability investors. 

Countries are putting infrastructure in place so that all investors have the same information and can make the same conclusions. At least 25 jurisdictions have adopted or are looking into adopting sustainable finance taxonomies, which provide a rubric for what a project must do to be considered a sustainable investment. 

Chief among these is the European Union’s taxonomy, which has set best practices for defining “green finance” as a form of sustainable finance where investment flows towards an E.U. environmental objective. The E.U. taxonomy also defines a related form of sustainable finance known as “transition finance”, which it characterizes as finance for projects that do not currently have viable low-carbon alternatives but still support a pathway to 1.5° C. However, the E.U. has found it difficult to reach agreement on a robust definition of transition finance. This endangers financing for sectors with projects that are presently high-emitting but have large potential for lower emissions, like heavy industry facilities with long lifespans. 

In Canada, the federal government’s Sustainable Finance Action Council (SFAC) recently released a roadmap report showing what a Canadian sustainable finance taxonomy might look like. This includes an approach for defining transition finance, which would be a key development for Canada given that heavy-emitting sectors account for large parts of the economy and workforce.

Countries are also standardizing information by setting up common infrastructure for sharing information. The main way information has been shared with investors is by requiring companies to disclose their sustainability information. The E.U. is again leading the way with its Corporate Sustainability Reporting Directive requiring almost all companies to disclose their internal sustainability risks and external sustainability impacts, starting in 2025 (for the 2024 financial year). The E.U. also requires large companies to disclose alignment with its taxonomy—non-financial companies starting in 2023 and financial companies starting in 2024. This extra year gives financial companies time to familiarize themselves with their clients’ information. 

Currently, the European Central Bank’s initial climate risk modelling has found that banks are struggling to assemble robust models, incorporate physical and reputational risk, and access Scope 3 and energy performance data. Canada has recently taken a big stride forward with OSFI’s (Office of the Superintendent of Financial Institutions) guideline for climate risk management, although this would only require disclosure from financial companies. In contrast, E.U. disclosure regulation applies more widely across the economy, with the number of companies required to disclose jumping from 11,700 to 49,000 under the new rules.  Canada could standardize tools for risk assessments and require disclosures from across the economy, by keeping the Canadian Sustainability Standards Board at pace with OSFI disclosure requirements and by introducing stronger regulation of energy performance disclosure.

Assured by standardized information, infrastructure can be built for new financial instruments that are able to move sustainable finance to new places. Globally, the energy sector has been the most popular recipient of sustainable finance, with green bonds being a primary financial instrument. This is a natural result of clean energy generation being a clear investment in sustainability and green bonds having established frameworks. However, it leaves investors competing to finance the same upstream clean energy generation projects through oversubscribed green bonds, resulting in underutilized capital. It also leaves a dearth of investment in more downstream projects that use clean energy. Research has warned that the growth in clean energy generation is failing to displace fossil fuels, and is only expanding energy use rather than transforming it. These same financing patterns are visible in Canada, where the majority of sustainable finance has so far been for clean energy generation projects and mainly through green bonds. However, governments are installing infrastructure for a diverse array of new instruments, which can make use of standardized information to reach new projects while still achieving sustainability.

Countries are under pressure to design infrastructure for instruments that can better spread sustainable finance across the economy. Traditionally, the rule has been that sustainable finance gets labelled as such because it’s invested into projects targeting an environmental objective. No explicit connection between the level of financing and environmental outcomes was thought to be necessary, because it could be assumed that a properly implemented project would lead to positive environmental outcomes. This assumption worked when investment only flowed to projects that could unambiguously improve sustainability like solar photovoltaic generation. However, for projects where causal sustainability is not guaranteed even if today’s best practices are followed—for example, emerging tech like carbon capture or efficiency improvements that could induce greater pollution, also traditionally green projects that end up consistently underperforming—instruments like green bonds are not equipped to handle uncertain outcomes.

Consequently, a new instrument called “sustainability-linked finance” (SLF) has been gaining acceptance, rising quickly from almost no issuance in 2016, to US$35 billion in 2018, to almost US$500 billion in 2021. Unlike green bonds, SLF follows a new rule where levels of investment can change based on measured sustainability outcomes, like lower emissions. It has tended to be used more in higher-emitting sectors, which raises new potential for impact but also has greater potential for misuse. So far there has been little guidance for SLF from governments. Singapore launched the first grant scheme to cover the initial costs of SLF in 2020, and Chile and Uruguay became the only governments to create frameworks for and issue sustainability-linked bonds in 2022. Canada has an opportunity to governcraft procedures and frameworks for this new form of finance, similar to how the European Investment Bank and the World Bank provided the original infrastructure for green bonds.

Meanwhile, countries are moving forward with infrastructure for instruments that can invest more deeply in projects. Whereas a single project might not offer big or safe enough financial returns to get the attention of big investors, when multiple small projects are aggregated together, the resulting project can present a more attractive investment opportunity. Canada could create infrastructure for aggregation by considering financing for sustainable projects on a more industrial and collective scale. For example, the E.U. taxonomy relaxed its proposed energy efficient building criteria from only the very best qualifying to the top 15 per cent, recognizing enough buildings for the aggregated green bond market to continue. Canadian financing agencies could also allow their financial assets to be packaged into tradable financial instruments. The U.S. government has issued almost US$100 billion mortgage-backed securities as aggregated green bonds, and both Finland’s local government funding agencies and U.S. home financing programs have issued green loans as aggregated green bonds.

Upgrading sustainable finance infrastructure is not the only way to coax more finance. It must be preceded by greater spending, ideally tailored toward correcting the market, and succeeded by innovation in project management. Just like real-world infrastructure, sustainable finance infrastructure plays a crucial role in enabling climate spending to flow productively. Also like real-world infrastructure, it would be prudent to invest in it before it starts to crack.

Big problems require big solutions

This opinion piece originally appeared in the Toronto Star.

There’s no denying it: the Earth is in a rough spot right now. The impacts of climate change are unignorable, and every year, it seems like they’re getting worse. Producing sustained, global efforts to reduce emissions has proved a tough nut to crack.

But despite the planetary doom and gloom, I’m actually feeling pretty hopeful. Why?

Big nutcrackers.

One of the things that gives me enormous hope  is that rather than being defeated by the scale of the problems at hand, the global community has often – not always – but often, seriously cranked up the scale of the solutions.

In response to the worsening loss of biodiversity, 190 nations recently agreed to protect 30% of the Earth’s surface by 2030. This is a stunning escalation of ambition, and a usefully giant nutcracker. It wasn’t that long ago, after all, that 12 percent was considered adequate. This “30 by 30” international commitment is now being enshrined in national and sub-national strategies the world over.

In the face of a growing climate crisis, the global commitment to Net Zero greenhouse gas emissions by 2050 is another example of an audacious concept that has accelerated quickly. The UK became the first country to legally commit to Net Zero in 2019 (its previous target was an 80% reduction by 2050) and the concept has snowballed from there. As of today, more than 70 countries covering 76% of global emissions and 90% of global GDP have formally committed to Net Zero by 2050. And the concept is suffusing levels of government and society everywhere.

Net Zero by 2050 has lots of different components, many of which are impressive in their own right. As one example, an increasing number of countries, including Canada, are making commitments to ensure a Net Zero energy system. Accelerating the energy transition through low-emissions electricity is how a lot of countries, including Canada, is cracking this particular nut. Here at home, decarbonizing our electricity is driving down emissions, and recent numbers from the federal government prove it.

Other recent environmental announcements with previously unthinkable levels of ambition include last month’s largest-ever investment in the clean-up of the Great Lakes and, of course, the most consequential US effort to limit global warming to date —the  massive Inflation Reduction Act. US $391 billion in spending on energy and climate change? Pretty big nutcracker.

There are, of course, many setbacks along the way – such as Europe chickening out of overhauling its signature toxic chemical legislation – and many big problems that still lack a corresponding solution. One example of a nut in search of a cracker is the escalating danger of plastic pollution, which recent scientific evidence is now pointing to as a source of danger for human health. In a couple of months, the nations of the world will gather in Paris for the second round of negotiations for a new global treaty to solve the plastic pollution crisis. Much is at stake, and nothing is yet determined.

There’s a big difference, of course, between talking the talk and walking the walk. Whether it’s “30 by 30” or “Net Zero by 2050” there remains enormous hard work ahead to turn commitments into policy, and then see results. But the first step in solving any big problem is to have the audacity to match it with an even bigger solution.

The world is doing just that. And this should be the cause of some Earth Day hope and optimism for the road ahead.

PBO’s latest carbon pricing report has big flaws

The Parliamentary Budget Office (PBO)’s latest effort to quantify the economic effects of carbon pricing has significant flaws that lead to mistaken conclusions.

But before we dive into the flaws, let’s start with what it gets right: The PBO confirms that 80 per cent of Canadian households will get more money back than they pay in most provinces. Climate Action Incentive rebates are lowering costs. They ensure carbon pricing is fair for lower-income Canadians. And they maintain incentives for Canadians to save even more by reducing emissions and avoiding the carbon price. These “fiscal costs” are (still) a legitimate part of the story. Moreover, this finding is consistent with previous assessments.

But the PBO assesses the broader “economic costs” in a misleading way. It fails to consider economic benefits of carbon pricing and the costs of climate inaction, both in terms of stabilizing the climate and competing in a global economy racing to net zero. Those broader factors are a huge part of the actual cost-benefit analysis around carbon pricing.

Here’s another fact: Canadians already pay roughly $720 a year for climate-related damages. Those costs will keep rising (to around $2,000 a year by 2050) as climate impacts get more extreme. Canada needs to do its part to curb emissions. That’s why we have carbon pricing in the first place. Those costs also bear out for the economy as a whole: they add up to $25 billion dollars in lost GDP in 2025, equal to half a year of growth. 

Yet the PBO ignores Canada’s climate objectives. It could have considered the benefits of reducing emissions in avoided climate impacts. Or it could have assessed costs of carbon pricing relative to other policy options—after all, the greatest advantage of carbon pricing is that it reduces emissions at the lowest cost. Instead, the PBO compares costs relative to a world in which Canada simply ignores its emissions—and faces no consequences. Obviously, that world does not exist.

A third fact: 92 per cent of global GDP is produced by countries working to reach net zero. The U.S. is channeling nearly US$370 billion into clean growth through the Inflation Reduction Act, and the European Union is following suit, building on its Green Deal plan. Combined with the clean growth measures in the latest federal budget, Canada’s carbon price is a comparative advantage and will help attract low-carbon investment.  

Yet PBO’s modelling fails to fully account for these benefits too. Its model is grounded in the economy of yesterday, and doesn’t account for how global markets are shifting—no matter what Canada does—toward low-carbon growth. If Canada fails to cut emissions, it won’t be competitive. Exports might even be penalized directly through “border carbon adjustments.” 

Here’s one last fact: the PBO can and should do better. It shouldn’t pick and choose which costs and benefits it considers. It shouldn’t ignore the broader economic imperatives for climate policy. That’s especially true when some voices are all too keen to downplay the facts about carbon pricing and amplify fictions. 

Budget 2023 balances policy and programs with payments to support clean growth

The 2023 federal budget included a variety of measures to channel public dollars in clean growth projects to encourage private capital to follow. In total, the budget outlined $70 billion to  support major investments in clean electricity and clean growth. 

While reading through the list of measures may make it hard to see how they work together, one diagram in Budget 2023 sums up the “made-in-Canada” strategy nicely (see Figure 1). 

Figure 1: Budget 2023’s policy pyramid for mobilizing private capital for clean growth

This pyramid shows the strategy and main tools of the budget 2023. At the bottom are the investment tax credits, middle is the strategic finance and top is target programming.
Source: p. 74

Let’s look at what this policy pyramid means for Canada’s clean economy—and why we think it is so important. 

Carbon pricing remains the strong foundation for Canada’s clean growth

At the bottom of the pyramid is economy-wide pollution pricing and smart, flexible regulatory frameworks—the foundation for all other policies to complement and build on. Budget 2023 confirms the government’s commitment to carbon contracts for difference. These contracts act as an insurance policy for investors, guaranteeing future carbon prices and insulating investors from potential future policy changes. This will bring the stability necessary for private-sector investment in the clean economy. The bottom layer of the pyramid also includes the flexible, market-based clean fuel regulations, which likewise create broad incentives. 

Taken together, Canada’s foundation is what sets it apart from the U.S. and its Inflation Reduction Act. Canada’s approach uses policy ‘sticks’ to do the heavy lifting, discouraging heavy polluters instead of relying solely on economy-wide subsidies, or ‘carrots’. This is not only less expensive than handing out subsidies broadly, but it also allows Canada to be more shrewd with how it uses its carrots. 

Investment Tax Credits incentivize clean technology manufacturing and adoption

On top of carbon pricing, Budget 2023 introduces substantial new investment tax credits and additional information on programs that were announced previously. Amidst all these new incentives, the breadth of eligible technologies and activities is what stands out. It covers clean electricity (including generation, storage, and transmission), clean hydrogen, clean technology adoption, clean technology manufacturing (including the extraction, processing and recycling of key critical minerals), and carbon capture, utilization, and storage. While this breadth may be interpreted as a lack of focus, it could also be seen as an attempt from the government to set a broad incentive structure and let market forces fill in the details—rather than “picking winners.” 

Two other aspects are noteworthy about the investment tax credits for clean growth. First, there is a strong focus on clean electricity—this is a crucial ingredient to Canada’s competitiveness in a low-carbon future. Affordable, abundant access to clean power is what makes Canada an attractive destination for global investors. Second, Budget 2023 does replicate the U.S. Inflation Reduction Act in a positive way, namely by linking the level of available tax credits to companies meeting certain labour conditions that include fair pay, benefits for workers, and employment of apprentices. 

Interactions between the investment tax credits and carbon pricing create risks worth considering carefully.  Emissions reductions achieved from the projects made possible by the investment tax credits could flood provincial credit markets under the output based pricing systems and cause prices to crash, undermining the effectiveness of carbon pricing. This is a serious concern that requires real attention in the carbon pricing review in 2027, by which time some of these projects may be in operation. One possible remedy may be to make emissions reductions achieved by projects that benefited from the Investment Tax Credits ineligible for generating carbon credits. We’ll take a closer look at these interactions in the future. 

Risk-sharing mechanisms will accelerate strategically important projects

On top of Investment Tax Credits, Budget 2023 pitches the Canada Infrastructure Bank and the Canada Growth Fund as vehicles for targeted public investment in strategically important clean growth projects. Both of these institutions have been established to work similar to ‘green banks’ that spur private investment by offering access to capital at more favourable terms than commercial banks. This approach focuses on sharing risks with private investors rather than handing out direct subsidies, making it more cost-effective and less risky for the Canadian public

Budget 2023 also delivered more detail on governance of the newly established Canada Growth Fund. The Public Sector Pension (PSP) Investment Board, a Crown corporation, will manage the Fund’s assets. This institutional set-up promises a healthy balance between political independence of investment decisions and financial expertise while maintaining strong accountability for the Fund’s performance in accordance with its mandate. But important details still need to be hammered out. For example, what are the relevant accountability mechanisms? And how will the Fund define its investment criteria? The mandate of the Growth Fund will be to deliver returns to society not just investors; that will be a change of perspective for the investors at PSP. 

In addition, the budget announced that the Canada Infrastructure Bank will provide loans to Indigenous communities to support them in purchasing equity stakes in infrastructure projects the Bank is investing in. Enabling Indigenous ownership in clean growth projects is a crucial element of economic reconciliation. 

Targeted programming tops off Canada’s policy pyramid 

At the top of the pyramid, Budget 2023 replenishes existing government programs that focus on targeted aspects of Canada’s low-carbon transition, including the Strategic Innovation Fund and the Smart Renewables & Electrification Pathways Program. These funds aim to catalyze growth in sectors where Canada has existing competitive advantages like renewable electricity and clean fuels.

A strong base makes a pyramid stable

To sum it up, the ‘policy pyramid’ for mobilizing private capital for clean growth strikes a productive balance between strengthening Canada’s economy-wide carbon price through carbon contracts for difference, while introducing new, more targeted policies that support strategically important sectors. The federal government had to strike multiple balances in this budget: between focusing support on the most promising technologies and activities and ‘picking winners’, and between spending enough public money to drive change and preventing subsidization of projects that would go ahead without or with less government support.

Looking ahead, Budget 2023 also identifies the next challenge for Canada’s clean growth future: getting shovels in the ground. This includes building the infrastructure and supply chains needed to facilitate the economy’s transformation. It will also mean speeding up regulatory approval processes and permitting without compromising progress on Indigenous rights and reconciliation and environmental sustainability. 

More work lies ahead to secure Canada’s competitiveness in a low-carbon world, but in this week’s Budget, the federal government has created a solid foundation.

Budget 2023 maps out a shrewd gameplan to keep Canada competitive

This article was previously published in National Newswatch.

The 2023 federal budget rolls out hefty new support to accelerate low-carbon growth and expand clean electricity supply across the country—underscoring the new reality that climate action and economic policy are one and the same.

This is the most consequential budget in recent history for accelerating clean growth in Canada, and a shrewd response to the U.S. Inflation Reduction Act.

The world’s major economies know that investing in clean energy is the catalyst for future competitiveness, and Budget 2023 takes decisive steps to ensure Canada won’t fall behind in the global race to net zero. 

The budget builds on Canada’s existing policy strengths, such as carbon pricing and clean fuel regulations, and provides targeted support to attract the private capital required to drive new sources of clean economic growth. In particular, new funding through Investment Tax Credits (estimated to cost $17 billion over the next five years) as well as new focus for the Canada Growth Fund and the Canada Infrastructure Bank, will help mobilize additional investment in clean growth projects across the country, such as clean electricity, hydrogen, clean technology manufacturing, electric vehicles, and batteries. 

Specifically, Investment Tax Credits will help drive investment to new sources of economic growth and competitiveness. For example, a 30 per cent refundable credit will support investment in new machinery or equipment used to manufacture or process clean technologies and extract, process, or recycle key critical minerals. Similarly, tax credits of 15-40 per cent will support production of clean hydrogen and conversion to ammonia for transport. 

By tasking the Public Sector Pension Investment Board (PSP Investments) to manage the Canada Growth Fund’s assets, the budget ensures that the Growth Fund can move quickly to mobilize private capital. Critically, the budget notes the importance of transparency and accountability in ensuring these investments are consistent with the Fund’s mandate.  

Furthermore, the budget clarifies the role of the Canada Infrastructure Bank to make it “the government’s primary financing tool for supporting clean electricity generation, transmission, and storage projects.” Drawing on existing resources, it commits at least $10 billion of support for clean power and an additional $10 billion for clean growth infrastructure. Notably, the budget also indicates the Canada Infrastructure Bank will provide loans to support Indigenous communities in purchasing equity stakes of projects in which the Infrastructure Bank is investing, an approach consistent with our recommendations.

Another key policy tool moved from the wonky margins to the mainstream in this budget are contracts for difference which leverage Canada’s biggest advantage—carbon pricing—to help attract investment for clean growth projects at a lower cost than with straight-up subsidies. We strongly support this approach. Directing the Canada Growth Fund to provide tailored contracts for difference for large projects—whether tied to prices of carbon or commodities such as hydrogen—can get some projects moving quickly in the short-term. And by consulting on broader carbon contracts for difference it can reinforce certainty around future carbon prices, making the carbon pricing work better.  

Clean electricity is a linchpin of Canada’s net zero pathways and its future competitiveness—a fact that comes through very strongly in this budget.

Clean electricity is Canada’s greatest competitive advantage in attracting investment, and we need more of it.

This budget takes significant strides toward building bigger, cleaner, and smarter electricity systems across the country, by leveraging existing resources via the Canada Growth Fund and Canada Infrastructure Bank, and offering new Investment Tax Credits for the electricity sector worth $6.3 billion over the next five years and $25.7 billion over the next decade. By making these tax credits (some of which are available to crown corporations and public utilities) conditional on provincial commitments to affordable net zero electricity, the budget will also create incentives for essential provincial and territorial action on clean electricity. These shifts will underpin Canada’s net zero transition and make energy more affordable and reliable for Canadians in the long run.  

Finally, the budget provides some support for building resilience to climate-related disasters. It dedicates $15 million to Public Safety Canada to create a public portal providing Canadians information about their vulnerability to floods, $48 million to Public Safety to identify high-risk flood areas and implement a modernized Disaster Financial Assistance Arrangements Program, and $31.7 million to stand up a flood insurance program for Canadians without access to insurance.

With these commitments, Budget 2023 invests in the right priorities to tackle climate change and build a stronger, cleaner, and more competitive economy.

What are contracts for difference?

Here in climate policy wonk-world—and especially in the lead up to the 2023 federal budget — there’s lots of talk of “carbon contracts for difference” or CCfDs. And rightfully so: CCfDs can drive investment in clean growth projects but can also do so at lower costs for governments than straight-up subsidies. 

But here’s the thing: there are multiple versions of contracts for differences being considered and discussed. Let me walk through three that each have different strengths and weaknesses. Indeed, they each solve a different problem. 

Version 1: Contracts for Difference on the benchmark federal carbon price   

This is the simplest version of a CCfD, and it was the focus of the proposal that Blake Shaffer and I first made way back in 2021. It’s designed to tackle “stroke of the pen” risk—namely, that the scheduled price for carbon pricing won’t increase to $170 per tonne by 2030 as planned because future governments will change course on carbon pricing.  

Expectations of future carbon prices play a big role in determining the economic viability of various low-carbon projects—whether carbon capture and storage, green hydrogen, or clean electricity. But the risk of future governments moving away from that carbon pricing pathway dilutes policy certainty—and thus the incentive to invest in clean growth projects. 

So back to CCfDs. The basic idea here is this: an arms-length government body enters into contracts with emissions-reducing projects (we originally proposed the Canada Infrastructure Bank; the 2022 fall economic statement proposes the Canada Growth Fund). If the carbon price in 2030 does not rise to the $170 per tonne benchmark as planned, the government pays out to the proponent. 

Essentially, the CCfD provides insurance against policy shifts: it lets projects move forward as if the future price of carbon is guaranteed. And the federal government is particularly well-suited to taking on this risk because it controls the factors that determine risk, namely the decision to adjust that price trajectory or not.  

Notably, CCfDs need not only be for large projects. Financial institutions or investors could easily bundle multiple, smaller projects—say heat pumps for buildings, electric cars for fleets of vehicles—and aggregate those low-carbon investments together to be collectively eligible for a CCfD. That’s important, because the policy risk on the carbon price for small emitters is likely greater than for the output-based pricing that applies to large emitters. 

For this kind of CCfD, more is better. Making it broadly accessible to projects and writing as many contracts as possible makes carbon pricing work better. It could also very well end up costing the federal government nothing—if the price of carbon in 2030 is indeed $170 per tonne, they don’t pay out. The government could even come out ahead: firms might well be willing to pay for this insurance. It could set the “strike price” (i.e., the price at which governments would be on the hook) at something like $150 per tonne. If the actual carbon price is higher than the strike price, then contracts could be designed for the project proponent to pay out.  

Version 2: Contracts for Difference on the credit price in provincial and territorial carbon markets 

Carbon pricing helps large emissions-reducing projects get off the ground—again, for example a carbon capture project—in part because it allows them to generate emissions reductions credits which can be sold for cash. If carbon pricing doesn’t exist in the future, those credits are valueless. 

But those credits might well be worth less than $170 per tonne in 2030 for other reasons. “Output-based carbon pricing” systems for larger industrial emitters across the country have tended to be overly generous. Many carbon pricing systems have made it too easy for firms to generate additional credits. As a result, there’s a real risk of a glut in credit markets. And as a result, credits trade at prices much lower than $170. That’s a problem for firms, projects, and investors banking on the value of avoided emissions. 

CCfDs could also present a solution to this problem, though with different tradeoffs. Strike prices could be based on credit prices rather than the benchmark carbon price. Essentially that means they’d be insuring against risk in carbon credit markets, rather than policy uncertainty alone. 

For this version of CCfDs, the stakes—both upsides and downsides—are higher.  

Providing more certainty about credit values would be more powerful in mobilizing investment into low-carbon projects. Especially for leading low- or zero-carbon projects, the price of credits could matter more for clean growth project cash flows than the benchmark price of carbon, given the volume of credits likely to be bought and sold, especially as the energy transition accelerates. 

That also, of course, requires the government to take on more risk. Higher contingent liability (that is, potential payouts) for government or arms-length funding bodies isn’t necessarily a bad thing: it can create more stability for carbon pricing. 

But the likelihood of the federal government having to pay out depends on whether provinces and territories tighten their output-based pricing systems, increasing demand for credits and decreasing supply. The federal government has some influence on this outcome: it establishes the criteria for provincial and territorial systems being accepted (or not, in which case the federal system applies). 

Yet federal CCfDs on credit price might instead create incentives for provinces to weaken their carbon pricing systems, rather than strengthen them: the result would be lower carbon costs and more federal dollars flowing provincial projects. If these incentives make tightening of industrial carbon pricing less likely, CCfDs on credit prices become more like straight up subsidies than sharing risk. 

That makes this kind of CCfD a trickier proposition. Clean Prosperity and the Transition Accelerator have argued that the benefits are worth the risks. It’s also argued that CCfDs on credits might also come with “strings” attached, such as requirements on transparency for credit market prices. Still, the downsides mean that a broad program for this type of CCfD would require careful thought. 

Version 3: Contracts for difference on other commodity prices (not on carbon dioxide emissions)

Maybe it’s not just policy uncertainty holding a project back. Some projects might still be uneconomic at a carbon price of $170 per tonne, but might have other benefits for society that justify public investment: they might drive innovation or claim first-mover advantage in global markets.  

Contracts for differences can also a play a role in overcoming these investment hurdles — but they might not be carbon contracts for difference. Instead, contracts for difference with strike prices based on commodity prices can overcome risk regarding future demand for clean products, such as clean electricity, low-carbon steel, cement, or hydrogen.  

UK contracts for differences, for example, provide a minimum price for delivery of clean electricity, de-risking the possibility that future demand might be lower. Alberta took a similar approach. Both policies provided guarantees based around electricity prices, and used “reverse auctions” to let market forces discover the strike price needed to de-risk investment in electricity. 

For the federal government, the new Canada Growth Fund could provide these kinds of contracts for difference as well, though likely for sectors such as cement or steel, given provincial jurisdiction over electricity. But they are best considered narrowly on a project-by-project basis: details of deals that offer value both for projects and for society will vary project to project and require project-specific tailoring. Moreover, in some cases, this kind of contract for difference might well provide public support worth more than the equivalent of $170 per tonne of greenhouse gas emissions (i.e., Versions 1 and 2). First-of-their-kind projects that offer innovation and learning benefits are most likely to merit this additional support and de-risking. 

Multiple tools to solve multiple problems

Ultimately, the transition to net zero will require huge mobilization of private dollars to build clean growth projects. Contracts for difference are an extremely useful tool for governments looking to mobilize that capital. They share risk rather than socializing it, crowding private dollars in and lowering fiscal costs for governments.

But when we consider how the federal government moves contracts for differences forward in the 2023 Budget, we should consider different types of CCfDs separately. They can and should be wielded in different ways, according to their strengths and weaknesses.

Climate priorities to watch for in Budget 2023

As President Biden addresses Parliament this week, the ink will be drying on the next federal budget.

The timing of Biden’s visit is notable, since Canada’s answer to the U.S. Inflation Reduction Act is expected to feature prominently in Budget 2023.

But how Ottawa can create the conditions for a competitive, growing economy is not the only priority we’re watching in this budget—the government also needs to continue delivering on Canada’s climate-changing pollution-reduction goals, and has said it intends to roll out specific measures to help keep life affordable.

Smart policies can deliver on all three objectives at once. To demonstrate how, let’s look at the two biggest climate policy priorities that this budget is poised to tackle—clean investment and clean electricity.

Priority 1: Attracting investment and spurring clean competitiveness

The scale of U.S. investment in climate solutions is welcome. But it also risks drawing clean growth investment and projects south of the border at Canada’s expense. To compete, Canada needs its own, made-in-Canada response. For details on what that should include, we’ve outlined seven recommendations to leverage public investment to help Canada compete in the global energy transition.

In particular, we expect to see new details in Budget 2023 around how the Canada Growth Fund will give the private sector the incentives they need to invest in new, clean projects. Whether clean electricity, hydrogen, or carbon capture and storage, clean growth projects can drive new sources of economic growth. They can be sources of new advantage for Canada in global markets competing for a growing pool of green and transition capital.

But how the Budget drives new clean growth matters—especially for keeping life affordable. Simply replicating the Inflation Reduction Act in Canada would be an expensive proposition, costing taxpayers now and in the future, and risking driving up inflation. Fortunately, Canada has an advantage over the U.S. in building clean competitiveness: carbon pricing. Putting a price on pollution creates a powerful incentive for companies to invest, so Canada can and should be more targeted in how it provides public support for projects and firms. For example, leaning more on carbon contracts for differences and less on straight-up subsidies can crowd-in private investment for clean growth projects, by creating more policy certainty for investors—sharing risk rather than socializing it.

Priority 2: Building a bigger, cleaner, and smarter electricity system

Budget 2023 also presents an opportunity to invest in the linchpin of Canada’s pathway to a low-carbon, competitive, affordable future: a bigger, cleaner, and smarter electricity system

Done right, switching from fossil fuels to clean electricity can actually lower consumers’ energy costs  over time. Meanwhile, abundant clean, affordable electricity is also a must-have for attracting new private investment. But both depend on dramatically scaling up clean electricity—which just keeps getting cheaper—and electricity infrastructure. And that requires provincial, territorial, and federal governments all rowing in the same direction.

Budget 2023 should catalyze this shift. Federal investment tax credits (which were referenced in the Fall Economic Statement) will be pivotal in mobilizing investment in electricity—especially if they’re broadly applied across types of clean power generation, and public utilities are able to benefit. Expanding existing programs, especially support for connecting provincial grids, would also help. These supports shift costs from ratepayers to taxpayers, keeping electricity rates affordable and fair.

The budget could also mark the beginning of a deeper electric federalism, where the federal government provides significant additional funds for provinces to invest in their electricity systems top-to-bottom. By making this support conditional on a few key actions from provinces (i.e., mandating their regulators and public utilities to deliver on climate goals, commissioning independent pathway assessments, and developing comprehensive energy plans) the federal government could galvanize the needed build-out of provincial electricity systems—while respecting provincial governments’ jurisdiction over electricity.

What we’ll be watching for in Budget 2023

Budget 2023 represents a real, tangible opportunity to deliver on important goals—both for the broader economy and the household budgets of Canadians—while moving the country closer to its 2030 and 2050 climate targets.

With that in mind, here’s what we’ll be watching for:

  1. Detailed guidance to get the Canada Growth Fund moving—fast—in mobilizing investment for clean growth projects.
  2. A public financing strategy that uses carbon contracts for difference to leverage Canadian carbon pricing to support clean growth projects. 
  3. Clear incentives in the form of electricity sector investment tax credits, and other supports, such as funding for inter-provincial grid connections.
  4. A commitment to pursuing, in partnership with the provinces, an electric federalism approach designed to kickstart the necessary upgrades to Canada’s electricity systems. 

If it gets the details right on these priorities, Budget 2023 will take major strides forward—for climate, for competitiveness, and for making life more affordable.

New analysis finds most Canadian households will save money in switch to electricity

This article was previously published in Corporate Knights.

Climate change and affordability are closely intertwined. The effects of the climate crisis already cost Canadians an average of $720 per year in repairs after flooding or wildfires—and that price tag is expected to double or triple by 2050.

Reducing greenhouse gas emissions can help mitigate these impacts and their costs. The Canadian Climate Institute has explored in detail Canada’s options for getting to “net zero” emissions. There’s little debate that the big switch from fossil fuels to clean electricity will be a cornerstone of Canada’s net zero future and a competitive necessity for the economy.

But our latest analysis turns up another important benefit: this switch will see Canadian households spending less on energy compared to today.  

Notably, our most recent calculations find that, on average, energy costs for Canadians will decline around 12 per cent by 2050 (Canada’s target year for reaching net zero)—even with the investments required for household equipment, such as heat pumps, and electricity grid expansion. And that’s before factoring in the policies already in place to make the transition more affordable for households (things like rebates for electric vehicle, home retrofit rebates or carbon pricing). While this finding may be a surprise for some, recent polling shows that 2 out of 3 Canadians already know it.

This graph shows how much households spend on energy (energy bills and equipment costs) in 2020 and 2050. If the total amount is more than $9,000 in 2020, the amount decreases to $8,000 in 2050.

Consider how much you spend each year refuelling your vehicle.  An average Canadian driving around 15,000 km will pay about $2000 a year for gas (ignoring recent price spikes seen in 2022) but could refuel an electric vehicle for $350 a year for the same mileage.  Electric motors are more than twice as efficient as combustion engines at converting energy to motion. Even if average electricity rates increase as we build out power grids to meet growing demand, the total cost of owning and operating an electric vehicle (EV) still offers net savings. Consumers are catching on — roughly 1 in 10 cars sold in Canada last year was electric. While EVs still come with a price premium up front, the costs of their batteries have fallen by over 90 per cent since 2010. As their market share increases, economies of scale and experience will further drive down their costs. Some expect them to reach price parity within five years without subsidies.  

Similarly, heat pumps (which can be used to heat and cool homes, and are typically three times more efficient than baseboard heating or gas furnaces) offer payback for consumers. But help with the equipment cost will remain important for access, even as costs fall. Financing, including low-interest loans, can help households afford the upfront cost and shorten the payback period (supports are already available but can be overly complex).

Affordability isn’t just about average costs; it’s also about stability. Fossil fuel prices are much more volatile. Russia’s invasion of Ukraine led to record-high spikes in gasoline and natural gas prices and these spikes pose challenges for household cash flows. Switching to electric vehicles and heating can buffer Canadians from having to make sudden and difficult budget choices because of global events.

The data backs this up: Multiple U.S. studies show prices for electricity are more stable and predictable relative to gasoline and natural gas for domestic consumption, even preceding the Ukraine crisis. And according to the International Energy Agency, a net zero pathway not only lowers energy bills, but also protects households from global energy price shocks, reducing energy costs by 40 per cent during such times relative to the status quo.

Of course, a widespread switch to electricity still presents challenges. Low-income households and renters may not be able to unlock the benefits of electrifying. While renters pay energy bills, landlords choose heating systems. Low-income households are likely to be some of the last to switch from fossil fuels, and the costs of maintaining fossil energy systems risk falling disproportionately on them. Careful policy-making can and should ensure that all Canadians are able to enjoy the benefits electrification can offer. For example, technology rebates can be higher for low-income households, and avoid their having to bear costs up-front. Regulations and incentives can ensure tenants get to benefit.

Done right, the energy transition won’t just be good for the climate or the economy, but also for our bank accounts.

Canadian oilsands don’t need more public support to compete with the U.S.

The U.S. Inflation Reduction Act has sparked concerns about the competitiveness of Canada’s upstream oil sector in the low-carbon energy transition. The claim by industry is that new U.S. incentives will drive capital in carbon capture, utilization, and storage (CCUS) technologies south of the border. 

New analysis, however, shows that when all the incentives from governments are tallied up, when it comes to CCUS in the upstream oil sector the Canadian carrots are already sweet enough.

Is CCUS competing for capital with the U.S.?

Reaching Canada’s net zero goal requires emissions reductions in the short term from upstream oil production. Several different technologies will play a role in this transformation, but industry and governments have identified CCUS as having significant potential. 

Successfully scaling up CCUS in upstream oil production requires an injection of new investment. To help mobilize private capital and get projects off the ground, North American governments have stepped in to help. 

Canada already offers incentives to deploy CCUS, along with a set of newly announced incentives. Industry is calling for more, claiming that new measures under the Inflation Reduction Act will result in CCUS investments flowing south, making it harder and more expensive for Canada’s industry to meet their climate commitments. 

But our analysis shows those claims are unfounded.

No more carrots are needed for CCUS in Canadian oil sands

When all the regulations and incentives offered by Canadian governments for CCUS in upstream oil are added together (see the figure below), they amount to more than those offered in the U.S. 

Our analysis looks specifically at the biggest oil-producing jurisdictions in each country: Alberta and Texas. The incentives in Texas are primarily directed through the 45Q tax credit, which offers about C$115 for every tonne that U.S. projects can sequester. This incentive has been available since 2008—the Inflation Reduction Act expanded and extended it.

This graph shows the estimated value of financial supports for CCUS in upstream oil production in the U.S. and Alberta in 2030. The incentive in Texas are primarily directed through the 45Q tax credit, about $115 per sequestered tonne. In Alberta, credits from the Technology Innovation and Emissions Reduction (TIER) regulation system, combined with incentives from the announced federal Investment Tax Credit and Clean Fuel Regulations, will exceed the 45Q credit in 2030 with a value of at least C$135/tonne.

In Alberta, where the vast majority of announced CCUS projects in Canada are located, credits from the Technology Innovation and Emissions Reduction (TIER) regulation system, combined with incentives from the announced federal Investment Tax Credit and Clean Fuel Regulations, will exceed the 45Q credit in 2030 with a value of at least C$135/tonne, even using conservative assumptions. In a high-estimate scenario, the total value of support in Canada could reach as high as $275/tonne—more than double the support offered in the U.S. 

While there is still some uncertainty about the exact value of public support in Canada—which is not insignificant as companies gear up to make large investments—there are readily available tools governments can use to address this issue. To improve certainty around TIER credit prices and the revenue generated from capturing and sequestering carbon emissions, governments can tighten up the credit market to prevent an oversupply. To ensure carbon prices are predictable over time, governments can use contracts for differences that lock-in carbon prices.

Canadian oil sands don’t compete directly with U.S. producers for capital

The potential for cross-border competition for capital is also limited by the different resource and emissions profiles in each country. In the U.S., about 75 per cent of total emissions from onshore production are generated through venting, flaring, and fugitive methane emissions (compared to 12 per cent in Canada’s oil sands). Upstream oil production in the U.S. is also more distributed, with fewer large point sources of emissions. This means that the most cost-effective solutions for reducing upstream emissions in the U.S. will come through reducing methane emissions—not CCUS.

The story is different for upstream oil production in Canada, where the case for deploying CCUS is stronger. The oil sands represent about 65 per cent of Canadian oil production, and a significant portion of oil sands emissions come from concentrated point sources, such as natural gas combustion for in situ projects and hydrogen production for bitumen upgraders. 

The figure below shows planned CCUS projects in both countries (as of September 2022), illustrating how Canadian upstream oil producers are betting on CCUS far more than those in the U.S. Of the 110 capture projects announced in the U.S., none is associated with upstream onshore oil production. Conversely, of the two dozen CCUS projects announced in Alberta alone, 14 are at oil sands facilities.

Number of announced capture projects in the U.S. and in Alberta by sub-sector, october 2022. This graph shows the repartition between: biofuels, natural gas, stand-alone storage, gas processing, hydrogen, direct air capture, coal, chemicals, cement, oilsands, power generation, hydrogen production, other sectors and other.

Economic competitiveness goes far beyond CCUS subsidies

These findings are part of a bigger conversation about Canada “keeping up” with the Inflation Reduction Act. While cross-border competition is top-of-mind for Canadian industry, subsidies for CCUS come with an opportunity cost.

Spending a public dollar on CCUS in the upstream oil and gas sector could mean spending a dollar less on other important priorities, such as renewable electricity, batteries and storage, or clean fuels.

Governments must therefore balance a wide range of competing investment priorities.

In addition, federal and provincial governments should be careful not to over-subsidize CCUS for the oil and gas sector. Adding more subsidies for the fossil fuel sector, on top of what has already been announced, increases the risk of locking in more emissions and creating stranded assets. Incentives are helpful in mobilizing private capital to drive down the sector’s emissions, but so are regulatory tools, such as carbon pricing and capping the sector’s total emissions. 

The question before policy makers is therefore not how policy supports stack up in Canada versus the United States, but whether the right suite of policy supports for CCUS are in place given the specific context of Canada’s upstream oil sector.

Canadian CCUS support is competitive with the U.S.

Maintaining Canada’s competitive edge is critical as the U.S. (and other trading partners) ramp up policies to attract and mobilize private investment. Yet for Canada’s upstream oil sector, comparisons between incentives in the U.S. versus Canada have failed to consider important differences in policy and decarbonization pathways. 

Canadian climate policies are layered compared to the U.S., which relies almost entirely on subsidies to encourage CCUS. And while Canada’s investment tax credit for CCUS and contracts for difference policies have yet to be finalized, the new analysis suggests that the Canadian suite of supports—a mix of regulations and subsidies—for upstream oil and gas CCUS will exceed those provided in the U.S. Moving forward, governments should focus on optimizing these policies to reduce uncertainty around the revenues generated from capturing and sequestering emissions, particularly as design details are shored up in the federal budget later this month.

CCUS will not make financial or logistical sense at every facility (and this is an area the Canadian Climate Institute has identified for future research). But where it does make sense, our new analysis finds that—when it comes to CCUS—the oilsands industry doesn’t need any additional support from Canadian governments.