By Bryan Tam

Several countries have been motivating their industrial policies based on fighting climate change and promoting a green economy. Climate change may be the most important public policy issue of our time, and one that requires a range of public inputs and large-scale investment. So, it’s important to get it right — both politically and economically.

The panel on Industrial Policy for the Green Transition featured Abhishek Jain, Director at the Council on Energy, Environment, and Water (CEEW); Charles Sabel, Maurice T. Moore Professor of Law at Columbia Law School; Alessio Terzi, Adjunct Professor in Economics at Sciences Po and Economist at the European Commission; and Elizabeth Thurbon, Professor of International Political Economy at UNSW Sydney. The panel was moderated by Ricardo Hausmann, Rafik Hariri Professor of the Practice of International Political Economy at Harvard Kennedy School. Here are some of the main takeaways from the discussion.

  • Industrial policy is politically and economically necessary for the green transition — carbon prices alone are insufficient

Terzi spoke of the need for industrial policy in decarbonization from two angles: political and economic. From a political perspective, he argued that the optimal carbon price required to decarbonize could be politically infeasible. For instance, the current EU carbon price of $65-90 per ton of carbon dioxide falls short of the estimated $100-200 needed by 2030, to reach net zero by 2050. As such, green industrial policy is needed to complement other policies to make decarbonization politically viable. Economically, industrial policy helps address the externalities, uncertainties, and coordination problems with decarbonization. As with most emerging technologies, green innovations such as sustainable aviation fuels produce positive externalities but entail major uncertainties and risks. Even if these technologies are shown to work, coordination problems along the value chain (e.g., charging infrastructure for electric vehicles) mean that many firms tend to adopt a wait-and-see approach. Green industrial policy alleviates the costs and risks of such green innovations while encouraging firms to commit resources simultaneously.

Nonetheless, Terzi acknowledged that green industrial policy alone will not suffice either. For example, the U.S. Inflation Reduction Act (IRA), despite its massive projected expenditures, is expected to achieve the equivalent of only $30-35 per ton of carbon dioxide. In addition, the fiscal capacity needed to pursue more IRA-like policies may be prohibitive, even for advanced economies such as the U.S. As such, carbon pricing will still be needed alongside green industrial policy to achieve significant decarbonization.

  • Current governance structures will be inadequate for the scope and uncertainty of green industrial policy

Sabel argued that the green industrial policy needed to fully decarbonize is ambitious—it is not merely a series of measures to price the externalities of greenhouse emissions, but rather an obligatory challenge to reinvent the entire economy. The scope of this challenge is compounded by the newness and uncertainty of the technologies required to decarbonize. This means that no one knows if the goals targeted by green industrial policy are attainable, and that more feasible intermediate targets are needed to advance the green transition.

This inherent uncertainty presents a stark contrast to the way that governments in the West typically operate. For example, government procurement has traditionally been hyper-specific to prevent corruption. Given the uncertainty associated with the green transition, and the significant government procurement expected to come through with the IRA, more flexibility will be needed with government contracting. This means that the government will need to write contracts porous enough to enable continuous collaboration between the government and the private sector. One potential solution in the U.S. is Alternative Transaction Agreements, which have been used with defense contracts and allow for continuous updating of the conditionalities attached with industrial policy.

Sabel also noted that the business-government relationships needed for collaborative embedded autonomy have eroded, but they are necessary for green industrial policy. Thus, in addition to rethinking its targets and contracting strategies, governments will need to rebuild the relationships needed to make industrial policy successful. The California Air Resources Board (CARB) has demonstrated an early example — involving private experts in the uncertainty of the green transition. Despite the complexity involved, Sabel expressed optimism that this process of building state capacity alongside green industrial policies will translate into a simultaneous transformation of both policy and the state.

  • The framing of green industrial policy will vary by country, with implications on policy and public acceptance

Thurbon highlighted the contrasting framing of green industrial policy in the West versus East Asia. In the West, the green transition has been framed as a moral issue and has thus been more divisive, with much of the debate centered on the economic cost and political legitimacy of this transition. In East Asia, the green transition has been framed as a less contentious issue of economic and energy security, and is therefore seen as an opportunity to create new jobs and economic growth. This framing has allowed for more consensus around greening goals.

The geostrategic element of the framing in East Asia leads to highly targeted and disciplined green industrial policy, building on the close, collaborative, and strategic business-government relations seen in previous industrial policies. Thurbon also dispelled the notion that East Asian governments are trying to displace the market in their interventions, but rather are adopting market-conforming modes of intervention with the aim of speeding up the Schumpeterian process of innovation.

Similarly, Jain recommended that the green transition in India be framed around jobs, citing the need to generate employment. This lends itself to an approach oriented around small- and medium-sized enterprises (SMEs), given the contribution of SMEs to employment in India. Policies should thus encourage SMEs and start-ups to take advantage of the more decentralized nature of emerging green value chains and push for domestically-driven innovations, such as in bio-based pharmaceuticals. This requires more risk-taking and decentralized investments in green industrial policy, akin to those taken by venture capital (VC) firms. He also noted that the uncertain nature of green technologies may pose risks beyond those typically tolerated by VCs, and hence suggested an important role for the government to play in this.

  • Industrial policy can lead to more fragmentation and deglobalization.

Drawing the distinction between offensive industrial policy instruments (e.g., tax credits, R&D spending) and defensive ones (e.g., local content requirements, FDI controls), Terzi noted that the political economy of industrial policy will push governments towards defensive instruments. Even if the industrial policy began with more offensive instruments, such as those used by the IRA, the fear that foreign firms will acquire domestic firms and technologies means governments will raise trade barriers to protect the latter. This inevitably leads to fragmentation and deglobalization. That said, Terzi also noted that deglobalization is already happening, and that green industrial policy, while potentially accelerating that process, is not creating a new problem.

Sabel added that the complicated technicalities of trade barriers, such as those imposed by the EU’s Carbon Border Adjustment Mechanism (CBAM), mean that countries are more likely to adopt open envelope approaches where those that meet a particular set of standards can join the club and trade without significant barriers. Terzi concurred, also adding that while the CBAM may impact countries that trade significantly with the EU, it may have less impact on countries that do not (e.g., many countries in Southeast Asia).

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