D with L

Many fuel-efficient technologies can be adopted a t reduced net cost, but unless

barriers to innovation are removed, their adoption will be far from automatic

he earth's fragilr atmosphrre i s under evcr more serious siege by grecnhourr gases. As COIKCII-

(rations o i those gascs increase, the average world temperature and rea levels are projcctcd to risc, and seasonal and geographic pattcmr oi prccip-

itation arc cxpccted to alter. Agriculture, ecosystems, water resources, coastal areas, and human hcalth are a l l likcly to suffer the consequences.

Out of concern over such prospccts, morc than 160 inations met in l l io defaneiro, Brazil, in 1992 to ratify tlic United Nations Framework Convention on Climate Change. Thc signatories included both dcvrloped and developing nations. From the "North" there were the mmmhrrs of thc Organization for Economic Cooperation and Development (OECD), as well as Russia and the Eastern European countrics, known together as the Annex 1 countries. From thc "South was a group that included China, India, and other developingcoun- tries and rcfcrrcd to as the ion-Anncx 1 countries or as G7i tChina.

Unanimity 011 the ultimate goal i s one thing. Agreement on just how to stabilize the climate is another. A likcly approach has by now emcrged. But wlirn thc climate convcntion's signa- tories met in 1997 in Kyoto, Japan, the developing and indus- trializedcountries were at odds. Most of the Annex I countries agreed to cap their cmissions some time betwccn 2008 and 201 2 at somewhere between 7 percent below their 1990 levels and

JAYANT SATHAYS & JoNATl I A N SIN I ON

Lawrence Berkeley National Laboratory &

TOM H ~ I I I II Stanford University Law School

10 pcr-ccnt abovc. But the 677+China countries rcsislcd hcing limited on the grounds that thr industrialized countrics had caused the prahlem in thc first place.

While accepting that view, the industrialized countries insist on two other good points: thr impossibility of stahilizing the global climate unless everyone couperates on l imiting thc growth of their emissions; and the practicality of t l i r lcss wealthy cnuntries joining in, because inany cost-effective opportunities cxist for reducing greenhouse gar cmissions.

So tlic question hecomes: can thcsc opportunities he ex- ploitedwithout harm to the economic growth and social fabric of these developing countries, particularly as they are peren- nially short of capital for investment in ncw technologies and hard currcncy [or acquiring imported gmds?

Baseline vs. no-regrets scenarios Apparently, both China and India can iollow this mute

without danger to their amhitions for steady cconomic devcl- opmcnt. This conclusion is drawn from climate change miti- gation analysis, a proccdurc for projecting the future growth of greenhouse gas emissions and evaluating strategies for slowing i t down. It turns out that inore efficient motors and appiianccs or incrcascd use of wind and solar enerby are compatible with the two countrics' pursuit of greater growth. In fact, hoth are already pursuing options that check the expansion of green^

house gas emission+for excellent inonclimatic reasons. Mitigation stratcgies require good judgment, and carc has

to hc taken in evaluating their pros and cons. Conceptually perhaps thc trickiest problem i s deciding what to include in the barclinc and mitigation scenarios. The baseline scenario i s a husiness~as-usual projection, which asstimes no special mcasiircs are taken to reduce eniissions. The mitigation scrnarin grnerally includcs costs of equipment, labor, matc-

rials, and fuels but often omits the transactional, organiza. tional, administrative, and political costs of actually imple- menting an option.

Depending on how such costs arc allocated, the life-cyclc cost of an option may bc higher or lower than its alternative in the baseline scenario. Compact fluorescent lamps, for instance, may be excluded from the baseline scenario. On the one hand, they necd less elcctricity khan incandescent bulbs to provide as much light and their life-cycle cost is lower; but on the other, their much higher price, front-end capital requirements, and relative unavailability may deter consumes from purchasing them.

For many such reasons, a mitigation option that is cost- effective over the long haul may not be includcd in the basc- line sccnario. Mcasures of this kind are known as no-regrets options, becausc a greenhouse gas reduction scenario that includes them will provide cnergy sewices at less cost, and hence will exhibit what may be termed a negative cost rela- tive to the baseline scenario.

Conversely, positive net costs are bound to characterize the mitigation scenario i f all the cost-cffective options are included i n the barelinc scenario. Consider a recent study of the cost oi reducing future carbon emissions in India and

China, done under the auspices of the Asia Development Bank. The data on China showed that a 16 percent reduction in the carbon cmissions from its cnergy sector could bc obtained for about an I I percent increase in costs, while the India study found a In percent reduction in energy-relatcd emissions could be obtaincd for a negligible 0.6 percent added expense. The difference seems startling. But much of it arises from the inclu- sion in the Chinese baseline scenario of most, i f not all, the cost-effective options. I n India, such measures were not included in the business-as-usual or baseline scenario as price reform had yct to be adopted to stimulate a switch to the best technology and the least expensivc fuels.

Granted, more efficient technologies often require more capital than the technology they replace. But when all eco- inomic factors arc taken into account, the bettcr approach can reduce the investment needed in fuel and electricity supplies. All in all, according to an analysis by an author of this article Uayant Sathaye) and others, capital and foreign exchange requircments decline relative to the Gross Domestic Product in scenarios for an energy-efficient China and India.

The issue of how greenhousc-gas-reduction options are to be allocated-to baseline or mitigation scenarios-has a special poignancy in the context of the Clcan Development

Enormous energy economies can be achieved in energy-intensive industries such as steel and chemicals.

This finishing mill [top] is part of the hot-strip millingfacilityat the Wuhan Iron 5 Steel Co., situ- eted in an old industrial City on the Yangzi River, about midway between Guangzhou (Canton) and Hong Kong in the south. and Beijing in the northeast,

The chemical factory [bottom] i s in Shenzhen, a swiftly grow- ing city near Hong Kong and Guangzhou that war a center- piece of Deng Xiao.ping's moder- nization drive. TOP PUOTOmAsH 1 VAN HAIIILIICORmrYGM4

BOTIOM PHOTO'RIPH FRANCIS LIII*IION*GENL"INL

43

Mechanism proposed under the Kyoto Protocol. Assuming that the protocol comcs into forcc and that thc Chinese and Indian governments endorse its opcrations. this mechanism could subsidize the capi- tal cost of mitigating greenhouse gases in these countries.

As currently understood, without the Clean Development Mechanism, projects that reduce the emissions in question below thc baseline level would become inarketable as crcdits against the obligations of those nations or organizations with commitments to emission reductions. In eflect, China or India would be able to cxport cmission mit- igation at whatever value is placed on it in international markets.

Ultimately, the Clean Development Mechanism may prove an important instnt- ment in advancing some opportunities for energy improvement. But its immediate worth should be seen as supplemental to othcr processes and mechanisms already effecting improvements in efficiency,

Improving energy supply and use Opportunities to improve energy cffi-

ciency are plentiful. They exist in bath its provision and its use. On thc production or supply side, efficiency can be increascd by upgrading or replacing equipment for power generation, by improving transmission and distribution of electricity (including installa- tion of advanced operational and dispatch systems), and by reducing the flaring of nat- ural gas. Other possibilities include the plug- ging of pipeline leaks, rationalizing coal dis- tribution, and reforming pricing and organizational structures to increase compe- tition among suppliers and to reward the adoption of ncwer technology.

India's transmission and distribution losses exceed 20 percent, far above the level of between 6 and 8 percent in wellmanaged systems. So there is amplc room for im- provement. Reducing there can lead to marked reductions and hence cost savings in fuel use and carbon emissions.

In China, the powcr-supply situation is quite diiferent, i n that extensivc construc- tion of new, larger, more efficient coal-fired power plants has streamlined its power gen- eration. Ncarly two-thirds of the 177 GW of fossil generating capacity existing in 1996 had been built in the previous decade, and the efficiency of power generation and dcliv- ety rose by 5 percent over the same pcriod.

As for energy use, both countries could benefit by improving such equipment as cook stovcs, lamps, electric motors, appl i~ ances, boilers, buildings, and vehicles. Changes that would enhance the nianufac- tiring efiiciency could also be addressed, particularly in the rnergy-intcnsive indus- tries of aluminum, cemrnt, chemicals, ler- tilizers, iron and stccl, and papcr.

China is already pursuing projects to

44

makc lighting, computers, and office equip- ment in general less expensive to fun. New standards and guidelines have been set up to upgrade the performance of appliances, and several industrial energy-efficiency pro- grams have hccn implemented. Investment assistancc and other financial incentives have been forthcoming to develop and adopt more efficient technologies, both through retrofits of existing equipment and through the construction of new capacity

Demonstration projects, financed mainly through loans from the state-owned China Energy Conservation Investment Corp., have been another profitable effort. They

This man carrying a refrigerator home by bike in Beijing rhowr that f o r d energy can be raved in more ways than one.

have encouraged widespread adoption of clew designs for waste-heat power genera- tion units, variable-spccd drive motors, and much other rquipmcnt. In the 19808, for example, the corporation sponsored the con- stniction and retrofit of shaft kilns for ccment production, incorporating several major innovations that vastly improved fuel effi- ciency and-cnicially-product quality and throughput. Since then, and without further financial backing from the government, almost all cement plants have applied the ncw tcchnologies to their new cement shalt kilns and have retrofitted most existing kilns.

There also is scope for switching to lcss carbon-intcnsivc iucls on both the demand and supply sides in India and China. De- mand-side fuel-switching strategies include

the marketplace, and as the ccmomic activ- ity taking place outside the state sector i s enlargrd, greater energy efficiency has been, on balancc, encouraged.

Evcn so, ovcrall CompetitivencCs remains much more of a concern in China than energy eiiicicncy. As a result, there are many instances of worsening efficiency, both at individual cntcrprises and across industrial sectors. Many small and mid-sized enter- prises that compctc cffertively with thc state enterprises opcrale undrr special conditions that often dissuade management from using energy bcttcr. Among the problcms are restrictions on access to capital that limit their ability to finance improvements, inef- i e c u a l local environmental rcpdation, and incentives for widespread duplication of small facilities that use energy less efficiently than would fewrr hut larger units.

Furthermore, for some enterprises, both state-owned and non-state, simple survival compcls nonstop output. A grcat deal of obsolete and deteriorating equipment there- fore remains in operation, particularly in

highly decentralized industries such as building materials.

Energy subsidies and reforms Particularly in the heavy industrial scc-

tors, thcrc i s a iiew sensitivity to t l ie high cost of energy. Here, equipnicnt designs are oltcn marketed to likely buyeir with empha- sis on thrir energy-saving characteristics. Electricity savings tend to attract attention, since coal prices have long been stable (or /have evcn dropped) while electricity prices have risen continually in inany areas.

Uut anothcrset of difficulties involves thc pricing systems. Energy pricing may iiot reflect the cost of supply. That cost is borne by thc supplier in the absence ol marginal cost pricing or time-of-day pricing or pricc subridics (which may iiivolve cross-siibsi- dies from one customer class to another, or subsidies irom the government budgct).

In India, electricity prices to agriculuiral and residential customers have been subsi- dized outright. There, big industrial iiscrs and the government pick up the tab [see

"Ualancing the books on energy prices," pp. 59-63], The prices of oil products are gc~i - erally not subsidized, except in the case of the kerosene and liquid propane used for cooking. Natural gas i s siibsidizcd for fer. tilizer plants, and coal prices have bccn coil- tinually increased to bring them to import parity This situation should bc coming to an end, though, as the government plans to remove subsidies, except possibly for agri- ciillural custoriicrs and kcroscne, over a pcriod of five years.

In prc-reform China, priccs of a l l energy products were under unified statr control and thc products were allocated according to plans. In the'b'os, there was a partial lib- eralization, and multi-track pricing was introduced, with a portion allocated undcr plans at "in-plan" ]prices and t l ie balance allowed to be traded on inct-easingly open markets. 111 tlie early '!)Os, in parallel with iinporlant new reforms in taxation, finance, and other areas, energy prices, heginning with coal, were to a great extent frccd up.

The prices that electricity prodiiccrs may

SATIIAYC, S I N T O N L IHLLLER-DOING BETTER W T I I I ES5 ENCRCY 4 5

charge also havc been partially dcrcgulatcd, dcpcnding on the vintagc of thc plants. Newer power is still generally ampensated on a cost-plus basis, but the proposcd usc of build-opcratc-transfcr plants would rcly on competitively hid supply prices. (These are plants built by foreign contractors and investors, who operate them for a time to recoup thrir expenses, and then turn them ovcr to local owners.)

I n the offing are regulatory reforms that aim to separate the regulator lrom produc-

46

CIS and introduce inerit~based competition between statc-ownrd and independent gen- erators. I f successlully implcmcntcd, they will complete the process of marketizing cncrgy prices.

Institutional shortfalls Several groups within the economic i n f m

structure of both India and China could hc important,actors in efforts to improve energy eificicncy. But oitcn they lack the punch to carry through the changcs they want.

Onc such group in India consists oi re- scarcli organizations, which some indus- trial sectors have set up to develop ncw tcchnologics and cnhance productivity. Some of thcsc R&D groups help industry establish henchmarks and standards for energy eificimcy, For instance, the textile irsesrch associations in India havr rstab- lirhrd inorins for thermal cncrgy use by machinc and plant type. Similar efforts arc needed ior the papcr mill and othcr indus- tries consisting of many small firms [sec

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To rectify that situation, multilateral lenders might nudge things along by aFfer- ing lower-cost financing to financial institii- tions i f they easc up on their strict practices. If the Kyoto Protocol i s ratified, the Clean Development Mcchanirin coiild snake a pos- itive contribution here, along lines worked out by the Global Environment Facility. Established at the Rio environmental cow ference in 1991, thr facility has provided $2 billion in funding for more than 500 wro- jects in I20 countries.

Chinese reforms China has toiled mightily at huilding and

maintaining institutions for promoting cncrgy efficiency. However, many of those developed in the %Os depended on direct government control of economic activities and are poorly suited to the evolving, more market-oriented ecunoniy. Now, the man- ner in which China i s pursuing energy coii- scwation, in particular, i 5 changing to rcflect the iiew environment created by its long- running cconainic~system reforms.

Within the nrw setup, the government must de-emphasize administrativr: measures and strengthen the tools of macrueconomic governance and thr legal basis for conser- vation activities. I t s c h i d means of pro- moting i t s energy conservatior policy will build on its previous cxperience, and include creating an appropriate legal and regulatory environment.

For starters, the country adopted a na- tional Energy Conservation Law i n 1997. The law defines a system of institutions to be used in promoting energy eificiency in the firt i ire. While some oi the prwisions may codify already obsolete aspects of the system, others will holster existing institii- tions and create new ones inore appropri- ate to a market~oriented system.

To outline tlie law's chief provisions: Kcy energy-using enterprises are to hire

encrgy managers who have passed a national examination and to havc periodic energy audits performed by qualified out- side consultants.

All feasibility studies for iiew fixed~asset inve~tmeiit projccts are to address energy conservation and demonstrate how the pro- jects accord with rclcvant energy-conser- vation standards and regillations (in line with the chaptcrs on rnviroiimental impacts required in Iproject proposals and feasibil- i ty studies).

Ceilings on manufacturing energy inten- sity are to he placed on various products (turning current practice into law), and existing energy-intensive equipment i s to be phascd out.

Mandatory energy-efficiency standards are to be developed for crrtain categories of equipment, and a certification system i s to be instituted.

Financial incentives, including iunding,

47

sidcbar, left]. Another group i s tlie elec- tric utilitics, which can encourage cus- tomers to conscrvc electricity. In both India and China, though, the utilities are inclined by tradition to maximize pro- duction and lack incentives to promote conservation. Even when intentions are good, staff may not be availablc to design and manage energy cfficiency and envi- ronmental management programs. Con- versely, even when s t a f f i s available, the wil l may be lacking.

For thcse reasons, the Indian State Elec- tricity Boards have not generally adopted programs to promote energy efficiency, even though they often have t l ie necessary cxper- tise. In principle, they could offer incentives to cncrgy-efficient customers or penalizc those not following the best practices by charging a higher tariff or a higher connec- tion fee, for example. I'crhaps the iiew reg- ulatory boards being establishedat the cen- tral and state levels will encourage the boards to do better, Efficient use would, of course,

also help the boards eliminate or rcduce blackouts and brownouts.

Financial institutions, too, could be influ- ential, especially state-controlled banks in India and China. But they often lack the knowledge or the dcsire to evaluate invcst- ments in this ficld. They necd to learn more about internationally proven financial prac- tices that can facilitate such investments. And they need to become better at providing technical resources in the form of energy- efficiency experts, sector-specific technical information and benchmarks, and training and dissemination workshops and seminars,

Access to financial instihitions also needs to be equalized. National financial capital has often been allocated iii conjunction with plan- ning processes that effectively exclude would- h e investors Whaii more, foreign equity and lending that could supplement scarce domes- tic resources a x heavily re&ted. The restric- tions in force curtail the activities of iorcign financial instihitions and impose exceptional risks on foreign direct investon.

are to be used to encourage energy-effi- ciency research, development, demonstra- tions, and investment projects, with cligi- bility determined by standardized criteria.

Little implementation guidance is given in the law itself, however; nor does it clearly define government responsibilities. Regu- lations for its implementation are now being drawn up by provincial and sector authorities, and their application will deter- mine the law's effectiveness. Experience in other areas of regulation suggests that the Energy Conservation Law's impact on China will vary substantially by rcgion and by industry.

(Incidentally, an updated energy conser- vation law has been proposed in India, and awaits approval of the new parliament.)

In China, managers in the highly coni- petitive and productive sectors of the econ- omy are often more rewarded far creating jobs and generating revenues for local juris- dictions than for helping out the enviroii- ment. So the effectiveness of thc conscr- vation law will depend heavily on the attitude to reform of these more dynamic organizations. Of value here would be thc development of new types of energy service firms offering specialized information and analysis about openings for energy ravings, as well as access to dedicated financial pools, the assumption of mid-range risks too great for small firms with short time horizons, and advice on industry OT consumer standards.

Market behavior and features The importance of any given barrier

varies with the market involved. The small sizc of a company, lack of access to loans, and out-of-date skills can all pose problems.

On both the demand and supply side, barriers are likely to be greatcr for small firms than for large companies, which are better able to cvaluatc invcstments. For example, the paper and textilcs industry in India is made up of hundreds of small firms lacking in management capacity to track technical progress.

The highly energy-intensive manufacture of caustic soda [sce "The caustic soda case," p. 451 would benefit from morc information on, for instance, performance fcatnrcs of plants abroad, data on membrane stability at high current density, and water conser- vation measures. Demonstration projects that clarify procedures in detail can help to document a new process and encourage industry to plunge into the unfamiliar.

Lack of access to financing has been cited by many Indian industries as a major obsta- cle to improving energy efficiency, Finan- cing may only bc available for the short term yet long-term credit is needed. Indian development finance institutions have had a number of schemcs for promoting energy efficiency. While past schemes were willing to make some concessions in finance and

48

Household appliances represent a huge market even in relatively poor countries like China and India. In this appliance store, located in Tiruchchirappalli, in the state of Tamil Nadu, members of the country's enormous middle class inspea merchandise. India is on the verge of introducing an energy certification for refrigerators rather like the Energy Star system used in the United Stater, and China has developed a general energy certification label.

subsidy, the current schemes have limited such elements. The industry mind-set, among small firms cspccially, is an expecta- tion of financial concessions in return for energy efficiency and environmental activi- ties. In some instances, industry is unaware of such schemes, indicating the need for greatcr outreach measurer.

In China, the country's 200 or so energy- Conservation technical service centers are

What price cool performance? Performance uncertainty, high first cost,

higher transaction costs, and inseparability of product features are barriers that affect particular products or serviccs.

Performancc is most problcniatic for ncw and unfamiliar tcchnologies, not ka r t for those importcd into a tropical cliniatc. For instance, the manufacture of fcrtilizers using natural eas in a new Dlant in India reauires

intended to disseminate information and per- form outreach tasks. A national center for the dissemination of energy conscrvatio~i information-essentially a clearinghousc for best practices-was recently set up in Rcijing with multilateral assistancc from the World Bank. In larger enterpriscs, hill- and part-time energy managers are the inaiii contact points for this network, through which they gain access to national technical databases and acquire expertise in applying that knowledge to their company's individual situation.

Financing for cnergy cfficicncy projects has been a cornerstone of China's ovcrall policy. The China Energy Conservation Investment Corporation oversee^ loms of

3 I CJ per metric ton b i product. Whiie this value compares favorably with figures (or abroad, it will always be somewhat higher since the ambient cooling watcr is warmcr in India.

High first cost is a common fcaturc of more energy-efficient technologies and is a barrier for co~isumers and firms lacking in capital. The membrane process for the pro- duction of caustic soda in India requires more capital, although it has lower oper- ating costs and is morc energy efiicient than the mercury process. Yet the payback period for conversion of the menury process to the membrane process is rclatively short. Financinnof such plants would much seduce

around US $250 million annually to bark demonstrations of key technologies. Other financial incentives have included setting low interest rates for energy-conservation project loans, and rewarding energy-con- scwingcnterpriser in monetary form.

Finally, firms may lack the skill to dcvelop iiew products. In India the pro- cesses and nctworks by which learning takcs place-professional associations, conferences, publications, and informal contact-are oftcn wcak. The exchange of information is quite low within the Indian paper industry, for instance.

clectiiciiy use per unit of production and eliminate further mercury pollution from cxisting plants.

Energy service companies (ESCOs) are one way of overcoming thc performancc uncertainty and high first cost of tcchnolo- gies. Many types of ESCOs arc alrcady operating in the Indian niarkct, but more needs to be done to encourage their growth, and business practicer need to be more transparent, to ensure that their return from shared savings is adequate.

While much interest i n these companies has been generated in China, relatively lit-

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tle activity has taken place. Three energy management centers, with ESCO-like func. tionr, have been set up with multilateral funding, but have yet to demonstrate a truly viable model that can be replicated else^ whcre in the country

Serious business China and India havc already successfully

pursued many cost-effective options for conserving energy, curbing their demand and hence carbon emissions.

Since 1980, primary energy demand in China has risen at half the economic growth rate, Part of the credit is due to a strong administrative carrot-and-stick pro- gram, which rewards firms that achieve norms set for energy use or output and withdraws or reduces fuel and electricity subsidies when companies fail to meet the standards. India has pursued programs tar- geted to introduce renewable-energy tech- nologies, and to this end has set up a gov- crnment ministry on the cabinet level.

China had developed its own Energy Conservation Certification Label, which it hopes to have recognized i n the United Stater as equivalent to the DOE-

EPA Energy Star labcl promoted by the U.S. Department o f Energy (DOE) and the Environmental llrotection Agency (EPA). Foundations and nongovernmen- tal organizations have also been active in providing institutional and financial support for energy efficiency through policy studies and secd inoney for invest- ment projects.

International support for such programs and policies can hut speed the spread of energy-efficicnt technologies. A good example IS the Motor Challcnge program initiated by the U.S, Department of Enerm, which may help Indian industry build more efficient electric motors. The U S Agency lor International Development has also been active in India, promoting programs on energy efficiency and environment by way of financial institutions and consumer organizations. Working with the Bureau of Indian Standards and the Confederation of Indian Industry, they sponsored thc design of an Indian refrigerator energy label that is close to being issued.

Other Energy Ilcpartment programs include efforts to transfer clean-coal tecli- nologicr to China and India, and the China-

U.S. Energy Efficiency Working Group, whicli promotes policy exchanges and busi- ness ties.

Meanwhile, the U.S. Environmental Pro- tection Agency has supported the develop- ment of energy efficiency standards for householdappliances in China, and backed the production of efficicnt refrigerators. That project was later transferred to the United Nations Development Program, as part of its efforts to promote sustainable energy development in China.

Other international agencies, such as the United Nationr’ Global Environment Facility, are helping the energy sectors of China and India spew fewer tons of carbon into the atmosphere. Grants from the UN body, in conccrt with loans from the World Bank and other multilateral agencies, are being used i n China to overcome inarkct barriers, cstablish new institutions, and fund demonstration projects such as energy management centers, wind farms, and off- grid solar power systems. The Asian Development Bank has provided assistance for industrial energy clficicncy, utility inte- grated resource planning, and other pro- jects in both countries. +