Enabling Low-Carbon Development
in Poor Countries
Jan Christoph Steckel, Gregor Schwerhoff and Ottmar Edenhofer
Abstract The challenges associated with achieving sustainable development goals
and stabilizing the world’s climate cannot be solved without significant efforts by
developing and newly-emerging countries. With respect to climate change miti-
gation, the main challenge for developing countries lies in avoiding future emis-
sions and lock-ins into emission-intensive technologies, rather than reducing
today’s emissions. While first best policy instruments like carbon prices could
prevent increasing carbonization, those policies are often rejected by developing
countries out of a concern for negative repercussions on development and long-term
growth. In addition, policy environments in developing countries impose particular
challenges for regulatory policy aiming to incentivize climate change mitigation
and sustainable development. This chapter first discusses how climate policy could
potentially interact with sustainable development and economic growth. It focuses,
in particular, on the role of industrial sector development. The chapter then con-
tinues by discussing how effective policy could be designed, specifically taking
developing country circumstances into account.
Keywords Developing countries Climate policy Sustainable development
J.C. Steckel (&)G. Schwerhoff O. Edenhofer
Mercator Research Institute on Global Commons and Climate Change (MCC), Berlin,
Germany
e-mail: [email protected]
J.C. Steckel O. Edenhofer
Technische Universität Berlin, Berlin, Germany
J.C. Steckel O. Edenhofer
Potsdam Institute for Climate Impact Research, Potsdam, Germany
©The Author(s) 2017
R. Stark et al. (eds.), Sustainable Manufacturing, Sustainable Production,
Life Cycle Engineering and Management, DOI 10.1007/978-3-319-48514-0_3
33
1 Introduction
Economic development and poverty eradication (as aimed at in the Sustainable
Development Goals, SDGs) have in the past gone hand in hand with the large-scale
carbonization of countries’energy systems. That is, countries that have been suc-
cessful in lifting people out of poverty have also dramatically increased their
per-capita emissions, hence contributing significantly to climate change. This trend
has recently accelerated by a global renaissance of emission-intensive coal. This
renewed embrace of coal is mainly driven by countries that currently have low
income, but whose economies are growing rapidly. They are investing in cheap and
widely available coal to fuel their increasing energy demand and ongoing indus-
trialization (Steckel et al. 2015). Coal-fired power plants that are currently under
construction or planned would—if realized—consume one third (240 Gt of CO
2
)of
the carbon budget still available to achieve a 2 °C goal (roughly 800 Gt CO
2
)
(Edenhofer et al. 2016). Six developing or newly industrializing countries (China,
India, Vietnam, South Africa, Turkey and Indonesia) are responsible for 85 % of
ongoing and planned coal investments. In those countries, the relative prices of coal
are usually low despite recent cost reductions of low carbon alternatives, including
natural gas and renewable energy (Edenhofer et al. 2016).
Against this background, it comes as no surprise that in order to achieve
ambitious climate change mitigation targets, more than half of global mitigation
(compared to “business as usual”scenarios based on historic correlations between
GDP and carbon emissions) will need to take place in today’s low and
middle-income countries (Jakob and Steckel 2014). In other words, for the Paris
Agreement to be successful, these countries cannot replicate the emission- and
energy-intense development pathways of the past, but will need to decouple
growing GDP and greenhouse gas emissions. Providing energy by means of low
carbon technologies, like renewable energy, biomass, nuclear or fossil fuels in
combination with carbon-capture and storage (CCS) is thus one important element
in the process of detaching emissions from economic growth (IPCC 2014).
Another way of reducing emissions entails reducing energy use, particularly in
the manufacturing sectors. Today, technological differences across economic sec-
tors (i.e. value added per energy input in specific sectors, e.g. the automobile sector)
the world over can be multiple orders of magnitude, with poor countries usually
employing outdated, inefficient technologies (Kim and Kim 2012). Figure 1shows
that sectoral energy intensity levels in rich countries (listed in Annex I to the
UNFCCC) are usually much lower than in developing and newly industrializing
countries (non-Annex I countries), with some manufacturing sectors showing dif-
ferences by multiple orders of magnitude.
Ward et al. (2016) show that equalizing existing differences at least to some
extent using technology available today, carries potential for global greenhouse gas
(GHG) reductions in the energy sector of 10 Gt CO
2
or more. This result is obtained
considering higher order effects—that is, considering the effect of changes in
technology on the entire supply chain (first order effects, in contrast, only take
34 J.C. Steckel et al.
direct suppliers into account while multiple layers of the supply chain are ignored).
Equalizing existing differences and significantly enhancing energy efficiency levels
furthermore likewise play an important role in global mitigation scenarios (IPCC
2014; Luderer et al. 2012).
From an economic point of view, an important question lies in how techno-
logical improvements focusing on both the demand side and the investment in low
carbon energy systems on the supply side can be incentivized. In this paper we will
argue that it is of particular importance to come up with such reward systems that
can work in developing country frameworks. Broad agreement among economists
holds that a carbon price is the most efficient (“first best”) policy instrument. In
developing countries, however, carbon prices are hardly ever instituted due to
distributive concerns—that is, concerns that the effect of the prices will be dis-
tributed unequally amongst the population. A major distributive concern is that
carbon prices have a regressive effect, wherein the poor pay proportionally more
than the wealthy. Second, there is a concern that carbon prices interfere with
economic growth, structural change, involving a shift in importance among dif-
ferent sectors in the economy and industrial development (Jakob and Steckel 2014).
While this argument is frequently made by policymakers from developing counties,
Fig. 1 Distribution of energy intensity of industrial sectors across the World Input-Output
Database’s (WIOD) regions. Boxes represent 25th–75th percentile, red line refers to median.
Whiskers in each direction correspond to 1.5 times the interquartile range. Black boxplots represent
non-Annex I regions of the UNFCCC, blue boxplots corresponds to Annex I regions. Crosses
represent outliers. Source Ward et al. (2016)
Enabling Low-Carbon Development in Poor Countries 35
hardly any evidence exists on how exactly structural change and carbon pricing
would actually interact.
In this chapter, we will therefore investigate the role of structural change and
industrial development on economic growth. Against this background, we will then
examine various policy options in developing countries. We will first look into
different conceptual possibilities for carbon pricing, including taxes, subsidy
removal policies and emissions trading. Second, we will discuss potential barriers
specific for developing country environments. We conclude with options for
enabling low carbon development in developing countries.
2 Industrialization, Economic Development and Climate
Policy
In order to properly assess future developments and evaluate the impacts of
envisaged climate policies for affected countries, it is crucial to have a clear picture
of the role of specific economic sectors in the process of economic growth. It is
particularly important to appreciate the role of energy industry sectors for devel-
opment. Yet, whereas mitigation scenarios as reviewed in the IPCC (2014) display
a high level of technological detail in the energy sector, they usually abstract from
modelling economic sectors at a fine resolution. For this reason, some key stylized
facts on energy use are not well captured by current climate scenarios. For instance,
there is a clear correlation of GDP and energy use up to a certain threshold (Steckel
et al. 2013; Steinberger and Roberts 2010). Compared to levels that are observed
today, additional energy is undoubtedly needed for covering subsistence needs (Rao
et al. 2014) as well as provision of basic infrastructure services (Steckel et al. 2013,
2015). Furthermore, the share of the industry sector in countries’energy demand
increases dramatically in development processes before it eventually declines again
(Schäfer 2005).
Today, most integrated assessment models (IAMs) that are assessed for the
IPCC (2014) and thus constitute the backbone of analyses regarding climate change
mitigation, rely on economic models which abstract from differences between
sectors. These models however do not take any particular income levels or different
economic structures explicitly into account. Instead, they assume that the produc-
tion factors of labour, capital and (in a subset of models) also energy can be
substituted with one another at a given cost. Yet this assumption partly contradicts
the empirical observations mentioned above. More realistic modelling of economic
growth and associated energy use patterns during industrialization could however
indeed substantially affect mitigation costs in developing countries.
Early theories of economic growth focused heavily on the role of specific eco-
nomic sectors and structural changes. Since the works of Hirschman (1958), the
structure of an economy—the composition of economic sectors in the overall
economy and how they are interlinked—is commonly conceived of as an important
36 J.C. Steckel et al.
driver for economic growth. Yet as a result of the analytical intractability of such
models, one-sector growth models àla Ramsey (1928) and Solow (1956) have
become the workhorse models of both economic theory and several IAMs.
Structural change has only recently re-emerged as a central topic (Hansen and
Prescott 2002), and has been recognized as one of the main factors of future
economic growth, in particular in African countries (McMillan et al. 2014).
This recent work shows that during the development process, the forces which
drive structural changes are the changing patterns of demand due to increasing
incomes and differences in sectoral (labour) productivities. Early in the develop-
ment process, economies typically have large agricultural sectors and then develop
first the industrial and then the service sector (Herrendorf et al. 2014). Convergence
of productivities across countries only takes place in manufacturing sectors, or, in
countries that have gone through basic structural changes (Rodrik 2013). Countries
going through structural changes first diversify their economies (i.e. building up
more complex industrial sectors) and then undertake specializing further once they
have reached a certain level of affluence (Imbs and Wacziarg 2003).
Recent economic research has probed more deeply into the processes going on
within the three major sectors. These authors regard the economy as a network of
interconnected products or sectors. In the process of compiling this information into
an aggregate index of economic complexity, it turns out that economic complexity
(usually measured in the structure of exports) is predictive of economic growth
(Hidalgo et al. 2007; Hidalgo and Hausmann 2009) and can even explain economic
growth better than aggregated neo-classical growth models (Hausmann 2007;
Hausmann and Hidalgo 2011). Some authors (e.g. Hidalgo and Hausmann 2009)
moreover presume increasingly complex export structures to be explainable by
means of underlying societal capabilities. Increasing complexity is hence related to
the increasingly diverse interplay of ingredients that are of general importance for
socio-economic development and growth. Radebach et al. (2016)find a clear
community structure of economic sectors by using value-added data. Some sectors
occupy a central position in the emerging network, mainly light industry sectors,
such as textiles and wood products. These sectors can be deemed to be of particular
relevance to economic development, as they allow a transition from an agricultural
to an industrialized economy. In line with other results from the literature, this result
suggests some sectors of being more important for economic growth than others
(Fig. 2).
This observation seems to be especially significant considering that underlying
capabilities (such as institutions and human capital) relevant for economic growth
and development (e.g. Acemoğlu et al. 2005; Acemoğlu and Robinson 2000)
depend on increasing complexity. If building up specific (energy- and carbon
intensive) sectors enhances spillovers for general economic development and
growth, then this indeed yields decisive consequences for climate policy. It follows
then, that failing to go through the process of the industrial stage proves detrimental
to an economy aiming at economic growth and sustainable development. Yet more
central in the pursuit of sustainable development are the factors of innovation and
technological development, or, sustainable manufacturing.
Enabling Low-Carbon Development in Poor Countries 37
This observation thereby yields important insights for the design of policy
instruments in developing countries. Climate policy that discourages investments in
manufacturing sectors and decelerates structural change might therefore indeed
prove harmful to development—an argument often brought forward by developing
countries themselves. For example, from the very onset of the UNFCCC
Conference of the Parties in Paris, India’s Prime Minister Modi proceeded to
highlight, while acknowledging the challenges of climate change for India, that his
country will further invest in coal to fuel its energy needs and ensure its right to
development.
On that token, the following section will explore the policy options for
enhancing low-carbon development in developing countries in more detail.
Fig. 2 Stylized representation of the role of manufacturing sectors for structural change and
economic development. To the right (green dots), mainly agricultural sectors can be seen, while
high-tech (dark blue) and service sectors (yellow) sectors are mainly found on the left hand side.
Certain sectors bridge those communities (light manufacturing sectors, light blue), which has given
rise to the hypothesis that those sectors are important for building up societal capabilities,
including institutions, education, and infrastructure. Adapted from Radebach et al. (2016)
38 J.C. Steckel et al.
3 Incentivizing Change—Carbon Pricing in a Developing
Country Context
From an economic theory point of view, carbon pricing is the sine qua non of
climate policy, a precept broadly agreed upon by economists (see e.g. Acemoglu
et al. 2012; Stiglitz 2016; Weitzman 2014). A global price on carbon is generally
believed to be a key solution for settling the climate problem, which was recently
prominently reiterated by MacKay et al. (2015). Carbon prices ensure that negative
implications and damages of emissions—including changes in the climate—are
readily transparent and therefore taken into account by market participants, and
hence incorporated into investment decisions. Applied to the entire economy, they
also ensure that loopholes can be avoided and transaction costs can be kept to a
minimum. Other policy instruments, like research subsidies and technology stan-
dards, furthermore, have proven quite successful in reducing the energy and carbon
intensity of the targeted sectors or products, but at the same time do not prevent
increasing emissions in other areas of the economy. This is an effect described as
the “rebound effect”(Arvesen et al. 2011; Gillingham et al. 2016)
In this context, it is important to keep in mind that carbon prices can be
implemented in a wide variety of ways. While the straightforward method is
obviously imposing a tax on carbon (which again can be levied at various points of
regulation, up- or downstream), a carbon price can also be applied in the form of a
quantity-based instrument, i.e. an emissions trading scheme. Following the logic
applied in the Kyoto Protocol, it has long been discussed as a viable means of
implementing an international carbon market. In such a trading scheme, the amount
of total emissions is capped, while emission allowances are allocated to countries.
The allocation is often inspired by an ethical principle and results from specific
negotiations between countries, e.g. equal emission rights per capita. An interna-
tional carbon price would then be established on the grounds of supply and demand
for emission certificates. Allocation schemes could be designed in such a way that
they favour developing countries insofar as they ensure that they are compensated
for the potential incremental costs attached to low-carbon technologies.
While countries are increasingly implementing carbon pricing schemes (in
particular OECD countries, World Bank 2015), high fossil fuel subsidies have led
to a de facto subsidy for carbon (i.e. a negative carbon price) at the global level
(Coady et al. 2015). Foregoing fossil fuel subsidies is hence an important first step
in incentivizing climate change mitigation, particularly in developing countries.
While affecting the relative price with carbon prices is appealing conceptually,
this process runs up against copious obstacles in developing countries, some of
which do not exist in this form in developed countries. First, financing costs are
usually higher in developing countries. Typically, interest rates are higher and
access to capital is more difficult than in developed countries, as are the political
and regulatory risks incurred by investors. Both factors lead to weighted average
costs of capital in developing countries being significantly higher than in OECD
countries (Schmidt 2014). In this market environment, raising (or implementing) a
Enabling Low-Carbon Development in Poor Countries 39
price on carbon would increase energy prices, but not necessarily lead to investment
in low-carbon and energy efficient technologies. As those are usually more capital
intensive than dirty technologies (Schmidt 2014) a price on carbon can be inef-
fective in terms of triggering low-carbon investments and hence remains ineffective
(Hirth and Steckel, under review). Additional policy instruments designed to alle-
viate investor risk and buy down technology costs thus might be needed in addition
to carbon pricing in order to incentivize low-carbon development.
Second, a range of economic analyses on carbon pricing implicitly presume a
liberalized energy market that allows for price signals to be passed through.
However, this stands in stark contrast to the (generally) non-liberalized nature of
energy markets in many developing countries (Goldblatt 2010; Wisuttisak 2012).
Non-liberalized energy markets however indeed grossly impact the effectiveness of
carbon pricing. When the government (or one of its agencies) is directly responsible
for energy investments, it therefore has to take on payment of the carbon price
itself. Unless government agencies, and in particular the energy utility, are made
fully responsible for their individual financial performance, the carbon price is
unlikely to have any strong incentive effect. This is in particularly true when the
government aims to keep energy prices as low as possible, e.g. to prevent negative
income effects on poor households or out of the interest in competiveness. In
developing countries, where energy utilities are responsible for a large part of total
emissions, this situation can mean that total emissions are hardly affected by the
carbon price.
Hence, a third obstacle is rooted in distributive concerns. If carbon prices have
the desired incentivizing effect, they inevitably cause higher energy prices. Low
energy prices, however, are ostensibly considered to be an essential channel for
supporting the poor in many countries and are often subsidized for that very reason.
What’s more, energy prices are considered to be a critical element in the pursuit of
the competitiveness of the country’s overall economy in the global marketplace.
Indeed rising energy prices frequently lead to public protests and societal unrest.
Yet balancing distributive issues of rising energy prices is far from impossible.
Foregoing fossil fuel subsidies in Indonesia or Iran, for example, have been com-
plemented by transfer schemes favouring poor households (Lindebjerg et al. 2015).
The quality of institutions is also relevant when considering carbon pricing
options in developing countries. One frequently proposed model for implementing
international carbon prices is an international carbon market, which considers
equity issues by means of allowance allocation schemes that favour developing
countries. Jakob et al. (2015) emphasize that related transfers could be in the form
of resource rents, for example, that yielded negative implications on long-term
growth in the past—often referred to as “resource curse”. Under such conditions,
developing countries might not be able to absorb the carbon rent in a productive
way. Low institutional quality and high rates of corruption might also have proven
to be pertinent in cases where a pricing instrument was in place related to
administrative efforts at monitoring market participants. Even in the EU ETS, some
have reported that information asymmetries between regulators and firms have led
to reported cases of fraud (Nield and Pereira 2011).
40 J.C. Steckel et al.
4 Conclusion: Climate Policy Solutions for Developing
Countries
Overall, a price on carbon is seen to have the effect of penalizing carbon emissions.
To avoid paying this price, firms could reduce emissions per unit of energy by
employing low-carbon technology and reducing energy use by improving energy
efficiency. However, specific market environments featuring rather low institutional
quality, coupled with rather high inequality, high capital costs and regulated energy
markets, to mention only a few factors, need all to be taken into careful consid-
eration when crafting the design of policy instruments. Most importantly, it needs to
be acknowledged that distributional concerns, both regarding the poorest parts of
countries’populations as well as decelerated economic growth (i.e. slower con-
vergence to developed countries’income levels), likewise figure into the equation
in a huge way for policy makers in developing countries.
Given this background, Jakob et al. (2016) propose using revenues from carbon
pricing to finance infrastructure investment. In many countries, the revenues which
a government can collect from taxing CO
2
, can then be utilized to finance SDGs,
e.g. access to water, sanitation or electricity. In the case of Nigeria, Dorband (2016)
shows that a carbon tax deployed in this way turns out to be largely progressive,
and hence can alleviate distributional concerns.
In addition, it will be necessary to institute de-risk measures for investments in
low-carbon technologies. While one possibility could be to implement subsidies in
addition to carbon prices, it may well be useful to offer additional securities to
companies that aim to invest in developing countries. Those securities today are
often granted to fossil fuels (Coady et al. 2015).
Moreover, carbon taxes can be levied downstream, for example, at the sale of the
final good to the consumer, or upstream, where a fossil fuel is extracted or
imported. Given issues with institutional quality, it seems that levying carbon taxes
upstream is the most useful mechanism for introducing a carbon tax in developing
countries. Even when markets remain regulated in this way, fossil fuel costs
increase. This would also be relevant for investment decisions taken by govern-
ments themselves.
An open question however remains with regards to carbon taxes possibly ush-
ering in a decelerating force on industrial development. As literature shows possible
positive spillovers from a more complex economy, it might therefore be necessary
to come up with industrial policy to complement climate policy in order to alleviate
negative effects on growth and development. Future research will be needed to
better appreciate the precise relationship between industrial development and cli-
mate policy.
Finally, the UNFCCC demands common but differentiated responsibility and
burden sharing, implying support from developed for developing countries both for
climate change adaptation and mitigation. Based on those fundamental principles,
international climate finance (e.g. by the Green Climate Fund) is supposed to
support the low-carbon transformation of developing countries. While international
Enabling Low-Carbon Development in Poor Countries 41
climate finance is slowly under way, it is still rather unclear how exactly it will be
disbursed. It will be an interesting question for future climate negotiations to tackle
how to redesign international climate finance to support structural transformations
towards low-carbon development and economic leapfrogging in pursuit of climate
change mitigation.
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credit to the original author(s) and the source, provide a link to the Creative Commons license and
indicate if changes were made.
The images or other third party material in this chapter are included in the book’s Creative
Commons license, unless indicated otherwise in a credit line to the material. If material is not
included in the book’s Creative Commons license and your intended use is not permitted by
statutory regulation or exceeds the permitted use, you will need to obtain permission directly from
the copyright holder.
44 J.C. Steckel et al.
