The world according to Sir Nicholas Stern

The Stern Review is billed as "the most important report on the future". But, asks Caroline White, what will it mean for business?

It was Tony Blair that described October's Stern Review on the economics of climate change as "the most important report on the future published by the government in our time in office".

According to Sir Nicholas Stern, former head of the Government Economic Service, if we don't act now to stem greenhouse emissions, the world's GDP could shrink by 20% by 2050. Climate change could cause storms, floods, droughts and heat waves to batter buildings, damage crops, and disrupt communications and transport. But Sir Nicholas says that if we spend 1% of GDP on turning green now, we should be able to avert this economic apocalypse.

In the UK specifically, unchecked global warming is expected to cause a substantial increase in infrastructure damage from storms and flooding, although effective flood management would prevent very serious destruction. Water would become increasingly scarce, particularly in the South-east, and there would be more serious droughts. Milder winters would decrease demand for heating, and cities would become uncomfortably hot in summer. Initially, agricultural productivity might increase because of longer growing seasons, but the lack of water would eventually negate the positive effect. Far more serious consequences elsewhere, particularly in the third world, would prove the greatest problem for UK business in terms of resources, markets and transport. Apart from these considerations, many see the possible human suffering caused by extreme weather in these countries as simply an unacceptable cost of our carbon-guzzling ways.

Avoiding climate change and its consequences will mean major changes for most companies in the UK but the costs will vary across sectors. Those industries that rely most heavily on carbon will have to revolutionise the way they work. But all businesses will need to change in order to achieve the "very strong reductions in carbon emissions" (a 25% cut is required by 2050) to avert the worst effects.

The core of Stern's plan to achieve this aim is pricing dirty fuels to reflect their "full cost" environmentally. It would be essential that there was a "broadly similar price for carbon" around the world, to prevent business simply moving to countries where these fuels were more affordable, impoverishing nations with green policies.

The report also points out that as we change the way we work, "a low-emissions global economy will open many new opportunities across a wide range of industries". Stern estimates that a new market in low-carbon energy products will be worth £256B by 2050, and suggests companies position themselves to take advantage of opportunities in these areas.

Financial markets could benefit too if they invest in areas such as carbon trading, clean energy and greater energy efficiency.

Stern also suggests that a new climate-change policy could help root out inefficiencies at company level by drawing attention to money-saving opportunities such as energy efficiency. Today, the world's governments spend around £128B a year on energy subsidies because of inefficient energy systems.

The pace of change is dependent upon political backing of Stern's findings and suggestions. Under the current government, contributions from green taxes like fuel duty fell from 9.3% of total tax revenue in 2000, to 7.7% in 2005.

However, with Labour's political rivals showcasing their environmental sensitivities, the government is under more pressure than ever to go green. Before announcing that Chancellor Gordon Brown would set out specific plans in response to the Stern Review, the Prime Minister said: "We can't wait the five years it took to negotiate Kyoto - we simply don't have the time. We accept we have to go further [than Kyoto]."

The chancellor called for a long-term, world-wide plan of action, and specifically to reduce Europe's emissions by 30% by 2020, and 60% by 2050. In the UK, he wants 5% of vehicles running on bio-fuels by 2010, and plans to create an independent environmental organisation to help guide government policy. By establishing trade links with Papua New Guinea, Brazil and Costa Rica, Brown hopes to ensure sustainable forestry. Similarly, he hopes to work with China on cleaner fuels.

The European Commission and the Confederation of British Industry (CBI) were also strongly influenced by the Stern Review. Richard Lambert, head of CBI, felt that the report's message was positive. While Pia Hansen of the European Commission said: "It is not an option to wait and see, and we must act now."

So what are the specific tools with which the government is moving towards its environmental aims? In January 2005, carbon trading, which forms the basis of the Kyoto protocol, was made mandatory on European industry by the EU. Championed in the Stern Review, carbon trading means that the release of greenhouse gases can be included in economic decisions.

Under the scheme, the EU gives member countries target amounts of carbon dioxide they can produce. The countries then set individual ceilings on how much carbon dioxide companies can produce, in order that the nation meets its target. Businesses that exceed their pollution targets can buy carbon permits from others who have not used up all those they are entitled to.

In the UK, the original legislation targeted the 535 companies responsible for the country's highest greenhouse emissions. But in the wake of the report, the government announced that ministers were drafting proposals to extend the scheme to cover a further 5,000 organisations in the UK. The environment secretary, David Miliband is now considering whether companies should enter the scheme voluntarily, although Whitehall is believed to support mandatory inclusion.

Carbon trading has proved beneficial for many companies, boosting BP's profits by around £5M and Esso's by £5.8M since its introduction. But the carbon trading scheme has a chequered history. In April 2006, other European governments revealed that they had issued more permits than their companies needed - in order to prevent damage to their economies while the scheme was implemented.

Since the carbon trading market is based on the scarcity of permits, their value took a nose dive and the scheme was in disarray.

Credit price has since recovered but, until tighter controls are passed on other EU states, the value of the carbon trading to Britain will be in doubt. Our public-sector organisations involved in the scheme have not had the money or infrastructure in place to change quickly enough, and have been forced to buy credits from the private sector and credit-rich foreign companies. According to a report by the independent think tank Open Europe, the UK has lost around £470M in this way, since the start of the carbon trading scheme.

Not all big business will fare well from the government's environmental moves either. Last month, Brown announced that he would double UK airport departure taxes from next month. In his pre-budget statement, the chancellor said economy passengers would now pay £10 on all domestic and European short-haul flights, £40 on short-haul flights, while business and first-class passengers will pay £40 for short-haul and £80 for long-haul. In line with Stern's plan, Brown believes the ticket price must reflect the carbon emissions produced by the rapidly growing aviation industry.

Pollution from aircraft accounts for 1.6% of the world's carbon emissions, and is expected to increase to 2.5% by 2050. The impact on climate change is particularly great because emissions are released at high altitude. According to the Stern review, traditional taxes on flights, such as landing charges, have proven "a blunt instrument" for reducing carbon emissions.

The increase may prove detrimental to low-cost airlines, which rely on low prices to sell tickets. It also signals changes for the way UK companies conduct international business, and may mean more meetings move from the boardroom to the internet or telephone. Since the levy is attached to passengers, the transportation of goods will be unaffected for the moment.

There has been some criticism of Stern's methods from respected members of the scientific community and political establishment. Christopher Monckton, former special advisor to Margaret Thatcher, condemned Stern's findings, saying that he "undervalued the sun's effects on historical and contemporary climate, slashed the natural greenhouse effect, overstated the past century's temperature increase, repealed a fundamental law of physics, and tripled the man-made greenhouse effect".

But Stern has found many informed and powerful allies too. However accurate the catalyst, times are changing, and it looks as if British business will have to evolve or dissolve.

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