Narrowing the green premium in developing countries

Published on April 23, 2024 by Prachi Murarka

Introducing green premium

Decarbonising a product involves years of extensive research and development, huge capital investment and alterations in value chain. These efforts to produce a lower-carbon-emitting product in terms of heavy capital investment for technology development and deployment – along with other subsequent changes, such as those in the workforce, operations and supply chain – translate into an additional cost, which is charged over and above the cost of the conventional product. This additional cost is termed as ‘green premium’. Green premium in simple terms is the additional cost paid for a product or service that emits fewer carbon emissions.

The following is an example of green premium. The cost of one gallon of conventional jet fuel is USD2.22, and that for biofuel is c. USD5.35. The difference between these two costs is called the ‘green premium’, which, in this case, is more than 140%. This additional cost of biofuel will be reflected somewhere in the increased cost of airfare for travellers, which they might or might not be willing to bear.

Green premium is currently a big barrier for companies to move towards producing low-carbon-emitting products, as it creates a gap between demand and supply. The cost travels through the value chain and is ultimately transferred to the end user. The end user may not necessarily be willing to pay the higher price for the benefit it has on the environment. The higher the green premium, the larger the gap between demand and supply, and the further we are away from a zero-carbon future.

Green premium – A major concern for decarbonisation in developing countries

The concept of decarbonisation is travelling slower in most developing countries, as opposed to developed economies such as the US and Europe. One of the reasons for this is buyers’ unwillingness/incapacity to pay more for greener products.

The focus for developing countries is rapid industrialisation through intensive infrastructure development and enhanced domestic manufacturing facilities. Developing countries are struggling with gaps in technical and financial expertise, large populations, lack of resources, excess availability of fossil fuels (such as in Asia), data management, transparency and poor governance, making it difficult for them to prioritise decarbonisation over economic growth.

In this case, buyers find it either out of budget or unnecessary to pay this extra cost in the form of green premium to shift to products with a less negative impact on the environment. Until the premium is reduced, it will remain an intractable problem for developing countries to shift to a net-zero economy.

How to narrow the green premium

How can the green premium be lowered? The narrowing of green premium is a step governments need to consciously take. Governments can choose two paths to push production and consumption of green products in their countries – 1) reduce the cost of low-carbon products through incentives or subsidies and 2) charge extra for high-emission-intensive products through carbon taxes.

In the first path, technological development and availability of concessional funds are needed to push the production of green products at cheaper costs. For the second path, the government needs to introduce taxes on high-carbon-intensive products, such as coal, which would increase the cost of conventional products and narrow the gap between traditional and green products.

Once the issue of high-priced green products is sorted and the products are widely available in the market at reasonable rates, governments can take the initiative by using these green products in their manufacturing units, businesses, infrastructure development and services. Like the use of low-carbon steel, cement in infrastructure development by governments can push the demand for green steel and green cement, thus narrowing the green premium in these products.

To push companies to produce more green products, governments need to use their power to charge extra for heavy-carbon-intensive products. This will help incentivise companies to produce low-carbon products and increase consumption of low-carbon products.

Many developed countries, such as those in Europe, have introduced carbon taxes, including the Carbon Border Adjustment Mechanism (CBAM), to charge extra to import carbon-intensive products in Europe. This is done to motivate companies to shift to lower-carbon-emitting processes and away from traditional manufacturing.

As consumers, we also must use our purchasing power to increase demand for green products by being aware of the outcome of rapid climate change and protecting our future generations by assisting this transition towards a cleaner economy.

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Sources:

• https://www.gatesnotes.com/Lowering-Green-Premiums

• https://www.linkedin.com/pulse/bringing-down-green-premium-larry-fink/

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