# Why the EU must reset its Green Deal – or be left behind

Rabah Arezki, Jean-Pierre Landau, Rick van der Ploeg

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## To cite this version:

Rabah Arezki, Jean-Pierre Landau, Rick van der Ploeg. Why the EU must reset its Green Deal – or be left behind. Nature, 2024, 636, pp.42-44. 10.1038/d41586-024-03918-w. hal-04979579

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# Green Deal Reset

The European Union need to reset the Green Deal not necessarily by lowering its ambitions on the climate and environmental fronts but by making the Green Deal coherent socially, economically and (geo-)politically.

Rabah Arezki¹, Jean-Pierre Landau² and Rick van der Ploeg³

Through its Green Deal, the European Union (EU) shows its ambition to be a world leader in the fight against climate change. Approved in 2019, this comprehensive package of policies - spanning clean energy, buildings, farms, transport, industrial policy and more – aims to limit EU greenhouse gas emissions to ‘net zero’ by 2050.

Since then, further goals have been bolted on. The 2020 European Climate Law stipulates that, by 2030, EU greenhouse gas emissions should be at least 55% lower than 1990 levels.¹ The Land Restoration Law passed in 2024 aims to restore 20% of European Union's degraded ecosystems by 2030, and 90% by 2050, to reduce emissions and achieve biodiversity objectives.

Yet, changing political and economic winds risk blowing the Green Deal off course. This year's elections to the European Parliament show strong gains by populist parties opposed to the Green Deal. And trends in the global economy have shifted markedly since the package was agreed – before the covid-19 pandemic and wars in Ukraine and the Middle East, for example.

Here we highlight what those changes mean and call for a reset of this crucial green policy package. The Green Deal can be saved if the EU adopts a fresh mindset and realigns its policies to work with global trends.

## Carbon taxation will not happen on a global scale

The Green Deal was predicated on three presumptions, each of which has failed to materialize.

First, there was an expectation that a global carbon tax would emerge. Most economists view carbon taxation as the optimal policy to push carbon-intensive industries to lower their emissions.² Carbon taxes also bring in revenues to help finance the green transition. The
European Emission Trading System has introduced sizable carbon prices but still many of the biggest polluters in Europe are exempted and it has not really served as a precursor and a model.

However, worldwide, most countries do not levy carbon taxes. And those that do put a value of at most a few dollars on each tonne of emitted carbon dioxide allowing for the many firms that are exempted. That low value doesn't reflect the real damage done, now and in the future — the 'social cost of carbon'. Europe now stands alone in implementing carbon pricing on a large scale.

Why has carbon taxation not taken off? International coordination of climate policies has fallen victim to geopolitical fragmentation and technological rivalry. The United States and China are competing fiercely over green technologies and issuing massive subsidies for research and development (R&D) and manufacturing in areas like batteries, solar and wind power.

Big polluters are also being offered exemptions.³ ⁴ For example, the EU Emissions Trading System grants free permits to its domestic steel, aluminium and coal-fired power industries. This is intended to avoid importing more carbon-intensive products from outside the EU (carbon leakage) and to support the bloc's competitiveness.

To protect itself from unfair competition, Europe began to institute in 2023 a Carbon Border Adjustment Mechanism (CBAM), which will be fully in place by 2026. This mechanism aims to ensure imports that have not been subjected to a carbon tax or subjected to a too low carbon tax will be taxed at the EU border. This effectively widens coverage of EU carbon pricing and will allow free permits for the biggest polluters to be scrapped. However, this would be achieved by hitting exports from low- and middle-income countries (LMICs), holding back their economies.

And these offshore policy impacts will be exacerbated by another law that is being implanted over the same timeframe as the CBAM, the EU Deforestation Regulation law. This law adopted in 2003—and set to become effective by December 30, 2024—banned in certain circumstances imports of several commodities—coffee, cocoa, soy, palm oil, rubber and wood. The intended goal is to induce its partners to stop deforestation in their territories by submitting their imports to stringent and intrusive verification processes and mechanisms. The law has since been suspended and its implementation delayed
In effect, the EU is promoting global environmental regulations and standards through instruments that will mainly penalize its trading partners. It is perilously abandoning its traditional position as a defender of free trade and emerging economies. This might be perceived as insensitive and unfair, especially by LMICs, and might result in conflicts and possibly diplomatic isolation.

## The financial climate has cooled

Second, the Green Deal has been designed and adopted at a time when long-term interest rates were historically very low, or even negative in real terms, and when levels of public debt were moderate. These economic conditions were conducive to financing the massive investments necessary to accomplish the transition to net zero, especially the electrification of many activities. In addition, financial support would be extended to help European populations bear the early costs of the green transition.⁵

However, the post-pandemic environment is very different. Public debt as a ratio of gross domestic product (GDP) has soared in most advanced and European economies to over 80% on average. Countries like Greece, Italy, Portugal, France, Spain and Belgium have public debt to GDP ratios of over 100%. This will limit the possibilities to help households absorb the costs of the transition and force a careful selection of public and green investments.

## International cooperation is fragmenting

Third, geopolitical trends challenge the Green Deal. As currently designed, the Green Deal impedes European competitiveness by increasing the cost of energy by at least 10%, mainly to cover building infrastructures around renewables and decommissioning those around fossil fuels. Europe also depends heavily on external suppliers for ‘critical minerals’ – sources of elements like lithium and cobalt — for renewable energy and other green technologies.

Like the United States, Europe is facing challenges from China — which has control of over 60-80% of the world's supply of critical minerals, as well as being the second biggest emitter of carbon dioxide, the largest producer of coal-based electricity, and the world leader in batteries and electric vehicles. China's strategy is to aim to act as a monopolist with low pricing undercutting others. What is more is that for the EU to become competitive in the
other global technological race for artificial intelligence will require vast amount of cheap energy.

Western countries face a dilemma: how to accelerate their energy transition while preserving their economic security and technological autonomy. And from a global perspective, the EU economy is flagging, as forcefully laid out in a report in September by Mario Draghi, former president of the European Central Bank.⁷ Growth in per-capita disposable income in the EH has been half that in the United States since 2000. Despite having excellent research universities, Europe lags the US in terms of patents and innovation in both digital and energy technologies EU nations have a good track record in coming up with ideas, but less success in seeing them through to commercialization.

Prospects are hampered further in Europe by falling and greying populations with the median age being 44.4 years in EU relative to 38.8 years in the US. The EU is also losing the global race for talents relative to the US given more rigid labor and migration laws.

Europe needs transformative policies to make it more productive and greener while maintaining equity and social inclusion. If nothing is done to reset the Green Deal, European climate policies will slowly degenerate into more protection, taxation and coercive actions in an elusive attempt to promote more virtuous climate and energy policies in other countries.

## Toward a new Green Deal

While the European Union should retain its high ambitions on the climate, it must reorient its policies to align with the new rules of the international game. In the years to come, the march towards net zero emissions will be driven by the technology race, not by domestic taxes, regulation or constraints such as the restrictions or outright bans stemming from the enactment of the CABM or deforestation laws.

Instead, the bulk of the effort should go to massive encouragements to develop future green technologies through incentives and subsidies. For example, the EU could expand and relax criteria for tax credits for green investment, including research and development (R&D)

It should adopt a phased approach to the imposition of the new environmental and climate standards. That will smooth the cost of the transition and avoid disrupting the rather slow learning at early stages of innovation. In practice, this means pushing forward deadlines by at
least a decade for the adoption of standards on heating, transportation and land restoration to allow consumers and corporations to cushion the associated costs with purchasing new equipments while creating space for learning and innovation. Only when those clean technologies are ripe should stringent environmental and climate standards be imposed to accelerate the adoption of those new technologies. That more staggered approach will avoid further loss in competitiveness by generating higher energy and technology costs relative to the other economic blocs.

A new Green Deal should recognize nuclear energy as a major contributor to decarbonization (together with renewables) and exploit its comparative advantage. Nuclear energy provides high-capacity baseload generation that contrasts with renewable energy which is intermittent--requiring important and costly storage capacity. Interestingly, giant digital platforms in the US are investing massively in privately own nuclear facilities to ease their access to ample and cheaper sources of energy required by the development of artificial intelligence technologies. While traditional nuclear reactors have somewhat fallen out of favor, the small modular reactors are not only cheaper but also more versatile and safer. The sourcing of uranium to power nuclear technology, just like with renewable energy with other critical minerals, will require the EU to maintain strong partnership abroad.

As well as protecting and subsidizing nascent industry, the EU should seek to promote the competitiveness of European firms globally. Allowing them to grow to reach greater economies of scale would help them compete internationally. The European Commission should ensure that anti-trust policy does not prevent strong European firms from merging when warranted, while preserving the welfare of customers.

A big push is required to move households and firms away from internal combustion engine vehicles to electric vehicles (EVs) and from coal- and gas-fired central heating to heat pumps, and to switch the energy infrastructure from coal, oil and gas to renewables. This will increase learning-by-doing in the renewables sector, building experience and bringing down costs, as well as increasing demand for renewables and green technologies like electric cars. Once the economy has shifted from a dirty to a clean one, incentives and subsidies can be taken away.

The European Union should also take steps to ensure it does not depend on China and other countries for access to critical minerals. It can do so by developing mutually advantageous
partnerships with countries rich in such minerals such as Chile, Indonesia, and the Republic
Democratic of Congo and favouring trade and investment in these countries.

Carbon taxes might play a residual role in sectors and activities that are not exposed to
international competition. The EU should limit the Emissions Trading Scheme to non-traded
sectors like real estate, local transportation and public services for the foreseeable future to
limit further loss in competitiveness, for as long as an international system is not agreed upon.
The CABM, premised on enticing others to adopt carbon pricing, should be dropped, in our
view.

The recent electoral victory of Donald J. Trump in the US presidential election will exacerbate trends toward slowing international coordination on climate issues. Down the road, as targets for emissions reductions become tighter, the price of emissions trading permits will rise rapidly. This will help to stimulate the green transition.⁸

Finally, the New Green Deal should aim to minimize the social costs associated with the transition and increase its acceptability. Low-income households cannot afford to pay high carbon and energy taxes or borrow to buy an EV or install a heat pump. Too often, that simple fact is neglected and that allows the populists to picture climate policies as an obsession of the elite. The Yellow Vests protests in France were a case in point.

More generally, policymakers should avoid imposing constraints on households that yield small benefits while imposing large costs on important segments of the population such as small property owners and farmers. Policies related to agriculture and housing renovation might need to be reassessed in this perspective by pushing back deadlines for application and offering compensations. For example, low-income households needing to switch from coal- or gas-fired central heating to heat pumps might need subsidies or loans to make the transition. Revenues from the Emissions Trading Scheme could be earmarked to compensate those on lower incomes.

There is no denying that the Green Deal needs resetting --- socially, economically and politically. Doing so will make the Green Deal stronger, more effective and — importantly — supported by the population.
## Authors

Rabah Arezki is Director of Research in Economics at the French National Centre for Scientific Research and CERDI

Jean-Pierre Landau is Professor of Economics at Sciences Po, Paris, France

Rick van der Ploeg is Professor of Economics at the University of Oxford and the University of Amsterdam, and research fellow Centre for Economic Policy Research (CEPR) London, United Kingdom.

## References

1. European Commission (2023). The European Green Deal – Delivering the EU's 2030 Climate Targets, October.

2. United Nations (2018) Mapping Just Transition(s) to a Low-Carbon World, One UN Climate Change Learning Partnership.

3. Kevin Rennert et al. (2022), Comprehensive Evidence implies a higher social cost of CO2, *Nature*, 610, 687-692.

Bilal and Kaenzig (2024), The macroeconomic impact of climate change: global vs. local temperature, WP 32450, NBER, Cambridge, MA.

5. Darvas, Zsolt, Lennard Welslau and Jeromin Zettelmeyer, (2024). How demographic change will hit debt sustainability in European Union countries. Policy Brief, Bruegel, September 8.

6. Zhengyang Jiang, Hanno Lustig, Stijn van Nieuwenburgh and Mindy Z. Xiaolan, (2024), The U.S. public debt valuation puzzle, *Econometrica*, 92, 4, 1309-1347.

7. The Future of European Competitiveness, September 2024, European Union.

8. Acemoglu, Daron, Philippe Aghion, Leonardo Bursztyn, and David Hemous. 2012. "The Environment and Directed Technical Change." *American Economic Review*, 102 (1): 131–66.

<footnote n="1">¹ Director of Research at CNRS, Senior Fellow at Harvard's Kennedy School of Government.</footnote>

<footnote n="2">² Professor at Sciences Po.</footnote>

<footnote n="3">³ Professor at University of Oxford, University of Amsterdam, and CEPR.</footnote>