Climate Policy Shouldn’t Ignore Asset Stranding

By Angelika von Dulong, Alexander Gard-Murray, Achim Hagen, Niko Jaakkola, and Suphi Sen

Ambitious climate policy measures threaten assets across the entire fossil fuel value chain. The majority of fossil fuel reserves must remain unextracted to meet our climate goals, and many fossil fuel-using assets like power plants will need to be retired before their natural end-of-life. Such assets will lose value and become “stranded”, prompting resistance from their owners and obstructing the implementation of stringent climate policies. The value of these threatened assets is also so large that stranding may threaten macro-financial stability. Therefore, asset stranding will have implications for the success of climate action. As political feasibility is a key element for realistic policy recommendations, climate policy advice should take the distributional consequences of asset stranding into consideration.

In a new paper, BCCP Fellow Achim Hagen and co-authors Angelika von Dulong, Alexander Gard-Murray, Niko Jaakkola, and Suphi Sen surveyed recent literature in environmental economics, systematically assessing all papers in four leading journals from 2017 to 2020. They specifically looked for whether research covered climate policy and issues around asset stranding, distributional impacts, or political economy.

They find that much research on climate economics ignores asset stranding, despite its potential impact on the implementation of effective climate policies. Among the work that does exist, the major focus has been on interactions between climate policies and stranded capital. Some researchers have looked at moratoriums on extraction, compensation for unextractable fossil fuel reserves, effects on assets that generate or use significant amounts of energy, and whether financial markets reflect carbon risk. Research on labor rather than capital is more sparse, and the evidence that does exist is mixed.

Major research gaps remain. One big issue is “policy endogeneity”: how future policies, such as carbon taxes in the 2030’s, are affected by economic decisions taken today. These in turn depend on people’s expectations. If firms and households expect policy to be weak, they have an incentive to invest in more fossil-based assets, making it harder to tighten policy later. Yet literature on the interaction between climate policies and people’s expectations remains limited. There is also too little work on the distributional impacts of asset stranding and proposed compensation schemes: who is likely to win and lose? How will income and wealth inequality be affected? Finally, we need more work that combines economics and political science, to see how current policies change the prospects for future climate politics.

Important policy implications from the review are that carbon prices are not optimal if policymakers do not commit to them. Without clear price signals, it is rational for actors to keep investing in carbon-intensive capital, thereby amplifying the problem of asset stranding. Policies should aim at stopping further investments into polluting durable capital stocks as the long lifetime of such assets creates an incentive to water down future climate action, and thus a commitment to future carbon emissions. Banning fossil investments and subsidizing investments into energy-efficient capital and renewable energy could reduce stranded assets in the future and pave the way for credible carbon pricing. Finally, policymakers could tip expectation-driven equilibria by triggering socioeconomic tipping points, for instance by decisively encouraging low carbon assets. This could facilitate rapid changes required for a net-zero carbon economy.   

The full paper "Stranded Assets: Research Gaps and Implications for Climate Policy" is published in the Review of Environmental Economics and Policy and can be read for free. 

This text is jointly published by BCCP News and BSE Insights.