October 2023 / INVESTMENT INSIGHTS
Keeping Pace With the Energy Transition
Energy transition has broad economic, political, and investment implications
EXECUTIVE SUMMARY
A rebound in oil prices in 2022 helped spur an environmental, social, and governance (ESG) backlash in the United States, while, at the same time, the energy crisis forced some European markets to take a step back on their transition to clean energy. Despite these challenges, the energy crisis, coupled with growing geopolitical tensions, may have ultimately sown the seeds for a faster energy transition. This energy transition is a monumental undertaking that will take many decades—it is deeply complex, and its success or failure cannot be measured in yearly increments. There will be many ups and downs as the multitude of factors driving energy supply and demand play out.
In 2020 and 2021, market commentators were eager to herald the impending death of the fossil fuel industry. Oil and gas prices were depressed due to the pandemic’s impact on energy demand, and investors had trimmed energy holdings—leaving the sector with very low valuations. When the world started to reopen after the pandemic, demand picked up, boosting oil and gas prices. This was followed by Russia’s invasion of Ukraine, which caused a major supply disruption from one of the world’s largest oil and gas exporters. The media and other commentators then pivoted to herald the demise of ESG.
The reality is that both accounts were too short-sighted and alarmist. Energy transition is a monumental undertaking that will take many decades—it is deeply complex, and its success or failure cannot be measured in yearly increments. A common way to demonstrate the energy transition is the energy mix required to reach net zero1 by 2050 and stay within a 1.5°C pathway.2 Given that this is a forward-looking scenario, it is typically illustrated as a straight-line transition, which can create an overly simplistic perception of the journey. In reality, there will be many ups and downs as the multitude of factors driving energy supply and demand play out. The simplified straight-line transition forecast will ultimately be made up of many twists and turns.
Following the post-pandemic economic rebound and energy crisis, the tone and rhetoric on energy transition turned decidedly negative in 2022; however, we believe there are many positive‑leaning factors that should be considered when evaluating the pace of change. First, a look at historical technological revolutions indicates that the social tensions we are currently experiencing are very normal for this type of change—in the past, they have indicated a turning point ushering a period of economic prosperity. Second, some progress is being made on energy transition, and global figures may not be the most informative indicators. Third, the idiosyncrasies of energy transition (in comparison with other technological revolutions) will make regulation a critical driver of success or failure.
Past Technological Revolutions—Growth Followed Social Upheaval
Historical technological revolutions have displayed a pattern of new technologies displacing established industries and destroying jobs on a huge scale, followed by a prolonged period of prosperity. Because financial capital drives the mobilization of production capital into new technologies, it is not uncommon to experience asset bubbles and crashes, which in turn reveal the inequalities that have resulted from the new technology. In their study titled “Technological Revolutions: Which Ones, How Many and Why It Matters: A Neo‑Schumpeterian View,” Carlota Perez and Tamsin Murray Leach highlighted that each technological revolution had a “turning point,” which heralded a golden age characterized by a great surge of development. While technological revolutions tend to create volatility and may destroy many jobs in the short term, in the long run, more jobs tend to be created, although often in new industries or geographies.
Notably, new jobs can emerge in areas that were previously unimagined. These new opportunities may not be suitable to the existing skill set of the unemployed, however, particularly if created outside the new high-tech sectors or in a different geography. For example, the age of oil, autos, and mass production led to a rise in suburban living in the US., generating demand for housing and new consumption patterns.
Given the level of social displacement and recession that inevitably followed asset bubbles and crashes, it was not uncommon to see a rise in populism and heightened political division. Historically, a new golden era of economic growth followed the recessionary turning point, when the new technology moved from a niche application to a broader one.
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September 2023 / INVESTMENT INSIGHTS
Maria Elena Drew is a director of research for Responsible Investing at T. Rowe Price. In her current role she leads the Responsible Investing team, which serves as specialists for incorporating environmental and social considerations into the firm’s research process. Maria is on the Investment Advisory Committees of the Emerging Europe Equity, Emerging Markets Discovery Equity, Global Growth Equity, Global Value Equity, International Value Equity, Latin American Equity, and Asia ex-Japan Equity Strategies. In addition, she is a vice president of T. Rowe Price Group, Inc., T. Rowe Price International Ltd, and T. Rowe Price Global Funds.
