INVESTMENT DECISIONS UNDER CLIMATE POLICY UNCERTAINTY

The document analyzes the impact of climate policy uncertainty on investment decisions, highlighting how different actors—such as oil majors, utilities, technology developers, and banks—respond to CO2 price volatility and regulatory ambiguity. It explores various economic appraisal methods, including real options and risk premiums, to demonstrate how uncertainty can delay investments or bias them toward fossil fuels. The author argues that while governments value policy flexibility, stronger commitments and intermediary targets are necessary to provide the credibility required for private sector investment in low-carbon technologies.

• Different investor groups respond to CO2 policy uncertainty based on their institutional and technological contexts: oil majors rely on long-term global scenarios and view current spot prices as less important; technology developers require credible scenarios and explicit targets to secure third-party funding; utilities are primarily driven by current policy frameworks like the ETS; and banks prefer historic performance data or simple, transparent policies to manage risk.
• CO2 price uncertainty possesses unique characteristics compared to other commodities, specifically the absence of natural lower bounds (price floors) and a lack of long-term price history to provide an objective approximation for future formation.
• The 'real option' of waiting for regulatory certainty can lead investors to delay projects, which may be further influenced by market power; in competitive environments, a competitor might pre-empt an incumbent by investing earlier at lower expected profits.
• Uncertainty in CO2 policy increases the risk premium required by investors, which raises the weighted cost of capital and biases investment decisions against capital-intensive technologies with low fuel costs, such as renewables, in favor of fossil fuel generation.
• System dynamics suggest that climate policy can induce cyclical investment behavior, where companies rush to invest based on key policy dates. This environment favors existing technologies with short lead times and established manufacturing capacity over emerging technologies that require a slower 'learning by doing' process.
• The difficulty of creating robust fundamental analyses under policy uncertainty allows management to maintain 'business as usual' strategies, as senior managers may naturally prefer conventional technologies where they have more experience.
• To facilitate private sector investment in low-carbon technologies, governments must increase their commitment through intermediary targets, even though this reduces their future policy flexibility.

APA

NEUHOFF, K. (2007). INVESTMENT DECISIONS UNDER CLIMATE POLICY UNCERTAINTY. Climate Strategies. https://climatestrategies.org/wp-content/uploads/2014/11/cs-cambridge-eu-ets-070706.pdf

Chicago

NEUHOFF, KARSTEN. INVESTMENT DECISIONS UNDER CLIMATE POLICY UNCERTAINTY. Climate Strategies, 2007. https://climatestrategies.org/wp-content/uploads/2014/11/cs-cambridge-eu-ets-070706.pdf.

Wikipedia

{{cite report |last1=NEUHOFF |first1=KARSTEN |title=INVESTMENT DECISIONS UNDER CLIMATE POLICY UNCERTAINTY |publisher=Climate Strategies |date=6 July 2007 |url=https://climatestrategies.org/wp-content/uploads/2014/11/cs-cambridge-eu-ets-070706.pdf |access-date=23 October 2026 |via=Climate Insights Directory}}

BibTeX

@techreport{neuhoff2007investment, author = {NEUHOFF, KARSTEN}, title = {{INVESTMENT DECISIONS UNDER CLIMATE POLICY UNCERTAINTY}}, institution = {Climate Strategies}, year = {2007}, month = jul, url = {https://climatestrategies.org/wp-content/uploads/2014/11/cs-cambridge-eu-ets-070706.pdf}, urldate = {2026-10-23}, note = {Indexed by Climate Insights Directory} }