What if the world applied “green sanctions” to Australia?

Via FTAlphaville comes the next phase in the fight against climate change:

Edoardo Saravalle previously worked on sanctions and economic statecraft matters at the Senate Committee on Banking, Housing, and Urban Affairs at the Center for a New American Security, a Washington-based think-tank. In this guest post, he proposes a different approach to tackling climate change.

Policymakers have responded to climate change on the international stage through multilateral deals like the Paris agreement. Creating rules this way is onerous and time-consuming — and in some cases it may be unnecessary.

Washington, London, and Brussels have used sanctions to unilaterally rewrite the rules of global finance. They could also use sanctions to fight climate change.

The US sanctions experience since withdrawing from the Iran Deal offers lessons for policymakers concerned about climate change. Washington has almost completely cut off Iran from the global economy. This happened despite the Trump administration’s diplomatic isolation and despite European, Russian, and Chinese attempts to protect their ties with Tehran.

The reason US sanctions have succeeded is simple: the US dollar greases global commerce, and New York is the pre-eminent financial centre for the entire world. US policymakers have forced foreign companies and countries to stop dealing with Tehran by threatening to cut them off from the global financial system — a price none is willing to bear.

If a program as internationally unpopular as the Iran sanctions can reshape international economic flows, imagine the impact that sanctions for climate change could have. Implementing “green sanctions” is something even the European Union could do, since the euro is the second major international currency, and Europe also boasts major financial centres.

Green sanctions would act like a blunt carbon tax: by raising the cost of high-emissions projects and adding an unknowable level of risk into each individual transaction, they would force market participants to reconsider their individual decisions.

They could be modelled on the US and EU sanctions that responded to Russia’s conduct in Ukraine. In contrast to the Iran measures, which blacklisted particular people and entities in their entirety, including systemically important ones like the Iranian Central Bank, Russian sanctions were more nuanced. These so-called “sectoral sanctions” only prohibited specified activities with the sanctioned entities, leaving Westerners to do other business unaffected.

Russian state oil giant Rosneft is a good example. Rosneft is so globally interconnected that isolating it completely would have unpredictable effects around the world. With sectoral sanctions anyone can still buy oil from Rosneft or work in its legacy oilfields. Instead, US and European companies are prohibited from providing Rosneft with certain classes of debt and helping it develop certain oil projects (through, for example, bans on technology transfer).

Green sectoral sanctions might work like this: the US president issues an executive order banning some activity, say the financing and provision of goods and services to coal plants. To show its intentions and give teeth to the green sanctions, the US government would single out a company engaging in the banned activity and bar US persons or entities from providing the targeted company with the financing, goods or services needed for a coal plant.

Previous sanctions experience suggests what might happen next. In 2014, when a Russian LNG project found itself cut off from traditional financial markets, it had to rely on support from the Russian National Wealth Fund. Although the LNG project eventually obtained the long-term financing it needed from China, one executive called the process “quite difficult.”

Sanctions stretched out the negotiations over the financing for the LNG project for so long that the market outlook for LNG shifted. They also piled on otherwise unnecessary legal compliance costs.

Because the LNG project was strategically significant for Russia, it was worth the trouble. Individual coal projects likely would not be. Costs added by sanctions could turn a coal plant with good returns under normal conditions into a poor investment compared to a more environmentally sustainable alternative. Moreover, investors might think twice about risking exposure to US or European prosecution and penalties.

Green sanctions would reach beyond their immediate targets. Risk-averse financial institutions would pause before getting involved in any new coal projects — sanctioned or not. In the Russian context, constant rumblings about new US sanctions have added friction to the Russian-led Nord Stream 2 pipeline project, even without any measures targeting it.

Once they impose sanctions, policymakers tend to expand rather than limit their scope — and investors know it. This means green sanctions could reach beyond coal projects altogether. In 2014, the United States banned services to certain energy projects inside Russia. Looking to strike at Moscow after its 2016 election interference, Congress took the existing limitation and expanded it to energy projects outside Russia. Similarly, climate catastrophe could spur policymakers to broaden the measures in place. Investors might begin pre-empting government action to limit their exposure to potential follow-on targets.

As the Iran experience has shown, solely relying on sanctions can alienate others and encourage them to develop evasion mechanisms. For this reason, Washington or Brussels could bundle sanctions with loans, grants, and technology transfers. This would sweeten the renewable option, thwart accusations that the United States and Europe are holding newly industrialising countries back, and emphasise that the goal is a sustainable energy transition, not stagnation.

International finance will be a fulcrum of the response to the climate crisis. Experts are already proposing structural responses to climate change. In Foreign Policy, Adam Tooze explained how central banks can confront climate change and its threat to financial stability. For the Roosevelt Institute, Todd Tucker outlined a way to restructure global economic governance to move toward a better energy system.

Though puny compared to these huge policy proposals, green sanctions can quickly reshape the way global finance looks at climate change. Sanctions can support larger efforts — forts—and Europe and the United States can act unilaterally.

My, oh, my, that would be fun Downunder.

David Llewellyn-Smith

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