Climate tech 2.0: social efficiency versus private returns

BISWorkingPapers No1072 Climatetech2.0:socialefficiencyversusprivatereturns byGiulioCornelli,JonFrost,LeonardoGambacorta,andOuardaMerrouche MonetaryandEconomicDepartment February2023(revisedMarch2024) JELclassification:G11,G14,G24,Q54. Keywords:Climatechange,climatetech,venturecapital,innovation. BISWorkingPapersarewrittenbymembersoftheMonetaryandEconomicDepartmentoftheBankforInternationalSettlements,andfromtimetotimebyothereconomists,andarepublishedbytheBank.Thepapersareonsubjectsoftopicalinterestandaretechnicalincharacter.TheviewsexpressedinthemarethoseoftheirauthorsandnotnecessarilytheviewsoftheBIS. ThispublicationisavailableontheBISwebsite(www.bis.org). ©BankforInternationalSettlements2023.Allrightsreserved.Briefexcerptsmaybereproducedortranslatedprovidedthesourceisstated. ISSN1020-0959(print) ISSN1682-7678(online) Climatetech2.0:socialefficiencyversusprivatereturns∗ March2024 Abstract BillionsofdollarsinprivateandpubliccapitalhavepouredintoclimatetechintheUnitedStatessince2005.Thisraisesquestionsaroundthesocialefficiencyandfinancialperformanceoftheseinvestments.Wefindthat,since2015,moreprivatecapitalisallocatedtotechnologieswithahigheremissionreductionpotentialandthatinvestorshaveprioritisedmorematuretechnologies.Moreover,moreprivatecapitalisdirectedtoinnovativecompaniesasthesectormaturesandgrowsandfinancialfrictionsabate.Higherallocativeefficiencyofinvestments,definedasthecapacityoffinancialmarketstodirectmorefundsto“highgrowth”sectors,isinturnassociatedwithbetterfinancialperformance,bothatthecompanylevelandattheinvestorlevel.USgovernmentsubsidieshavebeenallocatedmoretotechnologiesattractinglessprivatecapital.Theircrowding-ineffectisgreaterwhenallocatedtonascenttechnologiesthatarenotyetpatented. JELClassification:G11,G14,G24,Q54. Keywords:Climatechange,climatetech,venturecapital,innovation. ∗WethankSabrinaHowell,SebastianDoerr,RodGarrattandJesseJohalforhelpfulcommentsandsuggestions. 1Introduction Curbingtheemissionofgreenhousegases(GHGs)iskeytoasustainableeconomicgrowth,robustecosystemsandbiodiversity.Yetchangesinconsumptionbehavioursandprefer-encesalonewillnotsufficetoreachthelong-termgoalofkeepingtheriseinglobalaveragetemperaturesbelow2oCrelativetopre-industriallevels,asprescribedinthe2015ParisAgreement.Indeed,Bouckaertetal.(2021)attributelessthan5%ofCO2emissionre-ductionby2050tobehaviourchange,against55%totechnologiesalreadyinthemarketandtheremaindertotechnologiescurrentlyunderdevelopment.1Massiveinvestmentsareneededtosupportthedevelopmentandcommercialisationofnew‘green’orenergy-efficienttechnologies. During2005–11,aperiodsometimesdubbed‘climatetech1.0’,technologicalsolutionstoenablethistransformation,mostlythroughsolarandwindtechnologies,attractedinvestors’interest.Thesectorthenabruptlyfelloutoffavouraskeyinvestorsstartedtorecordhugelosses:oftheUSD25bninvestedbyventurecapitalists,onlyUSD15bnwasrecoveredby2014(Gaddyetal.(2017)).Whileclimatetech1.0includedsomebigsuccesses,likeTesla,positivereturnswereconcentratedamongafewinvestors,withthevastmajorityrecordinglosses. Thecollapseinclimatetech1.0waspartlyduetotheGreatFinancialCrisisandGreatRecessionin2008.Yetwhenrecoverycame,itdidnotimmediatelyincludetheclimatetechsector.Thedelayedrecoverywasattributedparticularlytopoorinvestmentsbydominantgeneralistfundswhothenwithdrewandshunnedthesectorintheyearsafter.Short-horizoninvestorslostappetiteforasectorviewedasbeingtoocapital-intensiveandrequiringlongpaybackperiods,oftenrunningintodecades.Lacklustredemandduetofallingfossilfuelpricesandalowerpotentialforoutsizedreturnsmeantthatinvestors’attentionwasdivertedtowardothersectors(vandenHeuvelandPopp(2022)). 1Otherstudiessimilarlyestimateamodestcontributionofchangesinconsumerbehaviour.SeeegMoranetal.(2020)andMatascietal.(2021). Thisbleakpictureofclimatetech1.0paintedbyearlierresearchcanbenuancedifoneaccountsforitspositiveexternalities.Climatetech1.0wasanimportantstepforward,layingthegroundworkforfutureinnovation.Indeed,fromclimatetech1.0,thesectorlearnedlessonsandgainedexperience.Societygainedtechnologicaladvancementsthathaveledtoimportantreductionsinthecostofsolarandwindenergies.TheseinitiatedthedevelopmentofawiderrangeofeffectivesolutionsbothtoreduceCO2emissionsandadapttotheconsequencesofclimatechange. Inthelastyears,climatetechisbackininvestors’sights.Therenewedinterestingreentechnologies,dubbed‘climatetech2.0’,hasbeencharacterisedbyhugeinvestmentinflows,withapeakofUSD22bninthe3rdquarterof2021.Thisfarexceedspreviouswaves.Severalfirmshavesuccessfullyraisedfirst-timeandfollow-onfunds,representing11%ofUSglobalannualventurecapital(VC)fundingin2021.Thegrowthrateofcapitalinvestedbetween2015and2021reachedover150%.Thesemassiveinflowsintothesectorraisequestionsaboutthesocialefficiencyandeconomicperformanceofthesenewinvestments.ThisisparticularlyrelevantinlightoftheInflationReductionActof2022,whichchannelsoverUSD400billioninsubsidiesandtaxbreakstocleanenergy,electricvehiclesandotherareasoverthenextdecade. Thispaperaddressesthreequestions.Thefirstconcernsthesocialeffici