The International Trade Administration estimates that the global energy market was valued at around USD 6 trillion in 2020. In the same year, the U.S., which is a global leader in the supply and production of energy gained USD 123.7 billion through the export of energy equipment, technologies, and energy products. The energy industry plays an important role in reducing the negative environmental impact of operations and requires an effective Environmental, Social, and Governance (ESG) approach for minimizing its negative impact on the environment and sustaining its productivity.
ESG policies play a vital role in guiding the energy sector towards a sustainable growth amid global regulatory pressure to meet net-zero targets. These policies can be a collection of standards and principles implemented by a firm or a government to ensure accountability and transparency in their business. While governments worldwide have set ambitious emissions reduction goals such as achieving Net Zero by 2050, governments and companies globally need to develop or comply with ESG strategies, standards, and procedures that negates the ESG risks in the energy sector.
ESG policies in energy sector:
To make energy generation efficient, clean, and productive, effective environmental policies or strategies through guidelines are essential to carefully balance industry operations against environmental issues such as pollution and carbon emissions. Environmental policies provide a crucial framework for energy companies to align with environmental targets such as the Net Zero target, the Paris Agreement’s 1.5ºC scenario, among others to foster a transition towards cleaner and renewable energy sources. Globally, federal and state government enforcement agencies and commissions have created rules, acts, and standards to promote environmental sustainability including the Energy Policy Act, U.S. Securities and Exchange Commission (SEC), and the European Commission.
These rules are expected to enhance investor decision-making by providing them with a clear understanding of the environmental impact and resilience strategies of companies operating in the energy sector, ultimately influencing capital allocation, and fostering a more sustainable and responsible sector.
The Energy Sector Policy Landscape in the U.S. – regulations, grants, and climate-related disclosures
In the U.S., the Environmental Protection Agency (EPA) works to protect the environment and human health by studying environmental issues, developing, and enforcing regulations, and providing grants for stakeholders. To promote public health and tackle climate change, the EPA proposed a new carbon pollution standard specifically for fossil-fuel powered plants (powered by coal and natural gas) in 2023. According to this policy/standard, companies adopting the standards will avoid more than 600 million metric tons of Carbon dioxide by 2030 and reduce premature deaths in the U.S. The EPA offers regional grants through specific grant programs for companies in the U.S.
Companies operating in the energy sector benefit from loans and grants to improve energy efficiency in their operations which calls for improving operational innovation in the energy sector. The Energy Policy Act (2005) which defined fuel sustainability standards, offers guaranteed loans and tax incentives for producing several types of renewable energy. In line with this act, in 2020, the U.S. Secretary of Agriculture allocated USD 100 million for enhancing the availability of renewable fuels and supported grants offered through the act.
The energy sector is undergoing a profound transition in response to global climate goals. To help organizations understand the financial impact of climate-related risks and balance sustainability risks with lower operational cost, the U.S. SEC’s climate-related disclosure rules were adopted in March 2024 to improve consistency, transparency and comparability of climate-related disclosures and standardize disclosures for both public and private firms. These regulations necessitate a detailed account of transition plans, scenario analysis, carbon emissions, board oversight of climate-related risks, climate-related targets and goals, scope 1 and 2 emissions, among others.
The Energy Sector Policy Landscape in the EU
The energy sector in the European Union (EU) grapples with limited diversification issues, high energy prices, import dependency, and the growing energy demand alongside the need for decarbonization in line with growing climate change threats. The EU’s energy policy addresses a variety of the above issues for achieving energy efficient future in Europe. In line with this the EU developed the Energy Union strategy to increase the share of renewable energy in the final energy consumption by 45% by 2030 and achieve 15% interconnection of the EU’s electricity systems.
Apart from the general policy framework, the EU has established an internal energy market legislation to offer incentives for consumers, achieve decarbonisation, and secure energy supply. In addition, its ‘energy efficiency first’ principle which is the basis for its energy efficiency policy obligates countries in the EU to institutionalize energy efficiency solutions within its policy, investment, and planning decisions. Other policies include the trans-European energy infrastructure policy, EU renewable energy policy, and the EU external energy policy.
Under EU’s sustainable finance framework, its Delegated Environmental and Climate Act (adopted January 2024) is likely having a to have a profound impact on how the energy sector operates. According to this delegated act, companies are to list activities that contribute to the objectives of the following:
- Sustainable use and protection of water and marine resources
- The transition to a circular economy
- Pollution and prevention control
- Protection and preservation of biodiversity and ecosystems
This policy not only encourages the transition to cleaner and more sustainable energy sources but also facilitates the flow of investments towards projects that align with the EU’s environmental goals.
The Policy Landscape in India
In India, the federal and state government have launched ESG policies specific to energy-intenstive sectors for meeting the long-term and short-term emissions reduction goals. One of these is the 2022 Energy Conservation Act (amended) that provides a regulatory framework for efficiently using and conserving energy within operations. Chiefly, the amendment has introduced a carbon credit trading system that will provide energy companies with carbon credits for reducing carbon emissions in its operations. Energy intensive sectors like iron and steel are mandated to trade carbon credits in 2025. In addition, this policy facilitates and enforces the efficient use of energy and its conservation, imposes penalties, and provides appellate tribunal for the efficient use and conservation of energy.
Challenges to the Energy Sector due to Policy Changes
Despite the existence of general framework policies globally, the energy sector is marred by the absence of a globally acceptable ESG metric or recognized frameworks for improving transparency of ESG disclosures in the sector. For instance, in the EU, the inclusion of natural gas and nuclear power within the EU Sustainable Finance Taxonomy has sparked debates and challenges among industry experts within the energy sector. Questions around the definition of sustainable energy, potential confusion among investors with a two-tier taxonomy approach, and concerns about the prolonged use of fossil fuels during the transition period have surfaced. The inclusion of nuclear power adds complexity to environmental objectives, especially regarding the management of nuclear waste. Approval of gas projects under the taxonomy may influence public funding and capital allocation decisions.
In the U.S., certain factions have complained against major oil & gas firms, alleging their over-exaggeration regarding investments in clean energy. In response to this, the SEC has asked investor groups investing in energy companies to provide transparency regarding their ESG investment criteria, Overall, these challenges highlight the importance of carefully evaluating the impacts and implications of including specific energy sources in sustainable finance frameworks.
