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Thesis: The cost of inaction is currently driving many resources towards green energy projects. Green energy is starting to begin achieving economies of scale for some projects, which dramatically increases the supply for the amount of cost necessary to produce these projects. In addition, continued government subsidies help support these projects, decreasing costs further.

Welcome to the Insights, Innovation, and Economics blog. If you’re new here, feel free to read my general Introduction to the Blog to understand more about the blog. If you’re returning, thank you, and hope you have a great read!

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Green Energy

Green energy, renewable energy, and clean energy are generally used interchangeably, but there are some notable differences.

NationalGrid cites the following definition of green energy:

Green energy is energy that can be produced using a method, and from a source, that causes no harm to the natural environment.

The difference between green energy and renewable energy is subtle. Most green energy sources are also renewable, but not all renewable energy sources are considered entirely green.

Green energy represents the energy sources and technologies that provide the greatest environmental benefit (generally associated with energy sources that do not produce carbon emissions, etc.).

Within the United States, renewable electricity must go above and beyond what is required by law (voluntary surplus to regulation). In this case, this would generally mean solar, wind, geothermal, biogas, some biomass, and some low-impact hydroelectric sources.

For example, a renewable source of energy like burning organic material from sustainable forests is not going to be considered a source of green energy due to the CO2 produced by the burning process.

Here’s a good guide to understand the differences:

Green Energy = no harm to the environment

Clean Energy = clean air

Renewable Energy = sources that replenish naturally (sun, wind, water, etc.)

Why is Green Energy Important?

As the world continues to transition away from fossil fuels, we need to pursue energy sources that aren’t just renewable but are energy sources that don’t put more CO2 in the environment.

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The Problem with “Green”

There are many new developments (and rumors of new developments) concerning “green energy”, “green policies”, or really “green anything” happening every day. The term “green” is almost everywhere these days.

Yet, the terminology “green” doesn’t always mean a good thing (it’s becoming more of a buzzword), although this article is here to mainly highlight the great things happening in green energy and how it works. But first, let’s educate the people on what green isn’t:

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Greenwashing

As consumers continue to push for green agendas, companies have responded. Yet, not all responses have been genuine.

Greenwashing is the term used when a company conveys a false impression or misleading information about how their products or services are environmentally sound. In other words, greenwashing involves making a largely exaggerated claim to deceive consumers into believing that a company’s products have a greater positive environmental impact than they actually do.

Here’s a classic example:

Years ago, the hotel industry devised an “environmentally friendly” policy where they placed notices in hotel rooms asking guests to reuse their towels to save the environment. But was that really for environmental reasons? …not really as it was mostly to save the hotels some money on laundry.

If that doesn’t do it, here’s another example:

An area rug is labeled with a sign that says “50% more recycled content than before.” Yay, you’re more green than before! But, what if, in fact, the manufacturer simply increased the recycled content from 2% to 3%?

And if you really want another one here you go:

The trash bags I buy are labeled as “100% recyclable”. Except they’re going to be used for trash. Which can’t be recycled. So the bags don’t get recycled.

See what I mean by deceptive greenwashing practices?

Where it gets complicated is where the term greenwashing gets used to describe when a company attempts to emphasize sustainable aspects of a product to overshadow the company’s involvement in environmentally damaging practices.

Want an ironic example?

ExxonMobil is one of the largest oil and gas companies in the world and is directly involved in exploring, producing, refining, and selling petroleum products like gasoline, diesel, jet fuel, and engine oils.

Yet, their sustainability page starts with the headline:

Credit ExxonMobil

…Does that sound like a company that’s clearly explaining any environmentally damaging practices and is definitely not trying to greenwash us into believing they aren’t one of the largest historical contributors to carbon emissions?

That’s for you to decide.

The problem with greenwashing is that a lot of the time it works. Consider the hotel example cited above. That policy has worked so well that hotels continue to employ that policy today.

The question is, is it worth lying to your customers (saying your company is “greener” than it truly is–or inflating the truth) at the potential risk of taking a huge reputational hit?

Well, the demand for “green products” is high. Statista cites that 64% of Gen X and 59% of Millennials would spend more on a product if it comes from a sustainable brand.

In addition, one reason companies are often able to get away with greenwashing is because there is a large information asymmetry. To explain further, they have more information about products or their operations than the average consumer does.

The current consequences for greenwashing are the following:

Damage to brand reputation: When consumers find out that a company is greenwashing, many lose trust in the company and the products/services.

Regulatory action: Sometimes greenwashing leads to regulatory action against the companies (by the FTC usually).

Financial losses: Greenwashing can lead to financial losses for companies in the form of fines or settlements for engaging in greenwashing.

So, does the increased demand for a company’s products offset the potential risk to reputation? It depends on how much risk there is.

Historically greenwashing punishments have only amounted to tens of millions - a tiny portion compared to the billions companies generate through green claims.

So, how much risk is there? Unfortunately very little.

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As I’ve highlighted, greenwashing is a large concern. So how can you prevent yourself from being greenwashed?

Not all companies are involved in greenwashing. Some products are genuinely green and should be consumed and promoted.

A good sign of a truly green product is the manufacturer isn’t afraid of getting into all of the fine details to explain just how good their product is.

I get it if you don’t trust me completely, so here are the United States Federal Trade Commission (FTC) guidelines on how to differentiate real green products from the “greenwashed”:

The main note here is to be an educated consumer.

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Economics of Green Energy

The transition and development of green energy sources is only possible if the economics behind the green energy sources works. It’s actually not as easy as saying we want to transition away from fossil fuels and simply assuming any other solution that doesn’t produce carbon emissions will work.

Essentially, all green energy sources aren’t created equal. Some are better than others, so even within green energy, we should be pursuing some over others. That should intuitively make sense, and throughout the following economic principles, I’ll hopefully make that very clear.

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Cost Curves and Economies of Scale

Let’s talk about the concept of cost curves. In economics, a cost curve is a graph of the costs of production as a function of the total quantity produced. Here’s a simpler definition.

A cost curve graphs costs on the Y axis (in this case the cost to produce an amount of energy) and graphs the quantity on the X axis (in this case the amount of energy produced or installed).

Here’s an example of a solar cost curve:

Credit Our World In Data

As you can see, the cost in relation to the amount of installed capacity decreased significantly as the installed capacity increased by factors of 10. Coincidentally (not really a coincidence let’s be clear), this cost decrease also is correlated with more and more years having the technology.

Let me tell you why this is such a good thing. This means that as we’ve continued developing solar technology over time, we’ve figured out how to be much more efficient and effective at it.

In terms of green energy production, we’re now able to transition away from fossil fuels that much easier.

That’s an easy version of a cost curve, when, in reality, they’re much more difficult.

Let’s talk about the concept of economies of scale. Here’s a good graph to explain what an economy of scale looks like:

I’ll start with some definitions.

The portion labeled “economies of scale” refers to what we saw above with the solar cost curve (as more quantity is produced, the costs go down).

The portion labeled “constant returns” refers to the costs stabilizing as you continue to produce more quantity. Somewhere in the constant returns section (a singular quantity) is the optimal production quantity. This optimal production quantity refers to the fact that there is a singular point in which your cost is the lowest and to produce any more would cost more than the unit you previously produced.

Let’s give a good example of these constant returns.

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As you can see, the cost of wind energy in relation to the amount of installed capacity decreased significantly as the installed capacity increased.

Yet, if you reference the economies of scale image above, this chart looks very similar to the “economies of scale” and the “constant returns” sections.

This isn’t a bad thing. This means that as we’ve continued developing wind technology over time, we’ve figured out how to be much more efficient and effective at it, but recently we’ve started to hit a wall, seemingly unable to decrease costs significantly further.

In terms of green energy production, we’re now able to transition away from fossil fuels that much easier.

Let’s transition back to what we were talking about above with economies of scale.

The portion labeled “diseconomies of scale” refers to the costs increasing as you continue to produce more quantity (note: this does not mean that these units aren’t profitable, they’re simply less profitable than other units).

Here’s an example of the hydropower cost curve:

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As you can see, the cost of hydropower over the most recent decade has almost doubled. If you reference the economies of scale image above, this chart looks very similar to the “diseconomies of scale” section.

This isn’t a good thing. This means that as we continue to build and install more hydropower it is more and more expensive to do so. We aren’t being more efficient or effective with our resources, we are actually being less so.

In terms of green energy production, I wouldn’t be surprised if we start to substitute away from sources like hydropower that are offering diseconomies of scale to those that are still in the economies of scale phase.

Let’s dive deeper into why this may be happening. Generally, total product/service costs are generated by input costs. So, if you’re unable to effectively get inputs at a low cost, your costs as you continue to produce have to use a higher cost for inputs.

That vague confusing speech isn’t very helpful, so here’s an example. Let's say you’re Apple and releasing the new iPhone 15, another one with nothing really changing, EXCEPT, if you see all of their ads (it’s actually a cool video if you’ve never seen it) this new iPhone is made from Titanium (oh wow yay so exciting - oh wait it’s just another iPhone).

Let’s say that this new iPhone is so popular that Apple has to continue making more and more. As they continue making iPhones at the beginning, they’re actually able to decrease the costs of titanium they’re using for the phones because they are ordering in bulk.

That’s great except, titanium isn’t an unlimited resource, so as the demand for these iPhones continues to skyrocket, sourcing titanium for new phones gets harder and harder (and consequently more and more expensive).

This would be an example of diseconomies of scale, where as you increase quantity, you actually increase costs, instead of continually decreasing them.

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Stranded Asset Risks

Stranded assets are when an asset ends up as a liability before the end of its anticipated economic lifetime. Essentially it's deemed useless before it breaks down.

How does this relate to the conversation at hand?

Well, with the idea of climate change and a promoted switch to “green” energy sources, this leaves past energy sources for dead. For example, on the current trajectory, we would be left with fossil fuel resources that cannot be burned and fossil fuel infrastructure that is no longer used.

Not only the fossil fuel sector is at risk. Other sectors that use fossil fuel as inputs for production, or are otherwise carbon-intensive, could also be impacted such as steel, cement, refineries, and chemical industries.

This assumes that the goal is zero fossil fuel usage, when, in fact, many of the current goals across the world are “net zero” which is not the same as true zero. Net zero allows for the concept of fossil fuel carbon emissions combined with the necessary carbon capture technology.

So, how much risk is there to asset stranding?

That depends on a variety of factors. If new government regulations come into place that limit the use of fossil fuels or a change in demand (for instance due to lower renewable energy costs) or even legal actions could significantly affect the need for fossil fuel architecture and even fossil fuels themselves.

The energy sector as we know it has a large potential to be disrupted by stranded assets, yet other sectors can be impacted.

The agriculture and forestry industries may soon contain more and more stranded assets. Due to climate change, weather variability has increased and natural disasters occur more frequently, increasing the risks to crops and livestock further.

The risk of stranded assets isn’t currently being factored into the value of companies that employ and use fossil fuel architecture. This has resulted in a large movement of divestiture to limit investment exposure to climate risks.

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Policy & Subsidies

Subsidies are benefits given to an individual, business, or institution by the government to incentivize production or consumption in certain areas.

A subsidy is typically given to remove some type of burden and is generally considered to be in the overall interest of the public (to promote a social good or an economic policy).

Currently, a large portion of government subsidies are being directed towards green energy sources, in order to make them more cost-comparable to fossil fuels. This policy has a couple of different incentives associated with it.

It encourages the innovation and development of these green energy sources as you need to have green energy sources in order to capture these subsidies. Wait! There’s more. In addition to developing these green energy sources, subsidies encourage innovation within these sources as the “best” sources have higher priority.

In addition, the innovation of green energy can encourage further efficiency and cost savings, in order to gain more profit.

Green energy sources also encourage the adoption of these green energy sources in question as they are more competitive with existing energy sources.

The Institute for Energy Research cites that between 2016 and 2022, over 50% of energy subsidies went to renewable sources, but only 15% went to fossil fuel sources. Most of these subsidies are in the form of tax incentives (mainly solar, biofuel, and wind subsidies).

Yet, these green energy subsidies aren’t proving to be all they were meant to be. The Wall Street Journal cites the current problem that renewable energy project costs are increasing faster than inflation and that even 50% cost offset subsidies won’t be able to make these projects economically viable.

This highlights the idea that the principle of subsidies isn’t always economically sound.

Pros of Subsidies

Subsidies to key sectors are vital to helping support innovation and development within that sector. In this way, subsidies help provide the socially optimal level of goods and services.

In economics, there is the concept of externalities which can be negative and positive. The principle behind a positive externality is a good that provides positive, indirect benefit to another party.

Subsidies often support technologies and goods that provide positive externalities. Generally in a transaction, this third party does not enter, leaving the transaction to be placed between the two entities to the extent that it directly benefits these two entities (leaving potential social gains on the table).

Cons of Subsidies

Many economists don’t appreciate the concept of subsidies, arguing that they work against the concept of a “free market”. They argue that in a free market, resources are allocated for more efficient use–essentially in a free market, economic forces determine if a business/idea survives or fails.

These economists argue that subsidies divert resources from more productive uses to less productive ones and that if the market wanted a certain outcome to happen, it would happen. This is similar to the concept I call “economic voting” where you show what you believe in (and what you would vote in) simply by spending your dollars (you vote with your dollars). If you choose to spend your dollars somewhere (let’s say on clean energy, then you vote for that technology).

Subsidies have an opportunity cost - the cost of using the money for a subsidy and not for anything else.

Overall, economists are very quick to point out that most subsidies are long-term failures (in an economic sense – they don’t improve the overall economy). Yet, they still achieve cultural or political goals.

Yet, subsidies have enabled rapid developments in technologies that wouldn’t have previously been developed and have facilitated the beginning of an energy transition towards “Net Zero.”

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Cost of Inaction

The economic principles behind green energy all lead towards the ultimate concept of the cost of inaction. The cost of inaction is defined as the damage that will be caused if no or limited intervention is taken.

In a business context, leaders traditionally focus on ROI (return on investment), in which they run financial analysis before making decisions to determine if invested money can be made back and to determine how long that will take.

Yet, often in all scopes of a decision-making context, the many-times unfelt cost of inaction often isn’t factored into the decision-making process.

Inaction can lead to negative consequences for individuals, families, the community, the economy, and society as a whole. Unfortunately, inaction can come from a variety of fronts: the lack of development of policies, lack of policy expansion, or even the failure to enforce existing policies.

But, history does shed some light on the principles behind inaction: People move twice as fast away from pain as they do towards gain.

In this case, we’ve seen this statement play out within the green energy space. Without the threat of climate change (and everything that comes with and around it), we wouldn’t be moving towards green energy sources even 1/10th as fast as we are currently.

Yet, this isn’t a bad scenario, compared to what could happen if we don’t act.

Up until this point, green energy has made large strides forward, yet, to be more influential in our future, green energy sources need to tackle the economics–which is only possible through innovation and public policy.

What happens when we have a problem, yet we fail to take action to resolve it?

Hopefully we don’t find out.

Anywho, that’s all for today.

-Drew Jackson