Power moves

The global transition to low-carbon energy is accelerating. But contradictory economic and geopolitical forces are at play. A recent report found that in the next decade, global temperatures will likely exceed the Paris Agreement target of a 1.5°C rise. Meanwhile, the United States, Europe, and Canada are walking back climate-friendly measures, just as China emerges as a clean-tech manufacturing powerhouse. Energy-intensive data centers contribute to ever-increasing demand (up 2.2% year-on-year in 2024), which ramps up energy security concerns. The urge for energy resilience is prompting some territories to go it alone in pursuit of energy sovereignty. As a recent PwC report concluded, we’re in the midst of many energy transitions, not a single transition.

Yet Michael Pollitt still firmly believes that the world should address global problems such as climate change and rising energy demand with truly global solutions, including global trade in energy and cross-territory market arrangements. Pollitt, a distinguished economics professor at the University of Cambridge Judge Business School, has spent his career exploring energy economics and environmental policy, and advising organizations including the World Bank and the European Commission.

In a recent conversation with strategy+business, Pollitt delved into the complexities of global energy transitions, discussing how traditional distribution networks are reinventing their business models, how data centers can contribute to grid security, and the collaborations and investments needed to support renewable energies and a fast-changing global energy system.

The following is an edited version of the conversation.

S+B: Which countries should bear the cost of the energy transition?
MICHAEL POLLITT: In terms of very poor countries affected by climate change, the United Nations process—where we help those countries transition from the direct cost of climate change, as well as address any cost that they might have from transitioning their energy systems—needs to be strengthened. The harder thing is transfers between rich fossil fuel–consuming nations and fossil fuel–producing nations, many of which are still developing countries. We’re a long way from the idea that we’re going to make fiscal transfers there.

However, research and development costs of the energy transition have thus far been disproportionately borne by richer countries. The exciting technologies that we have now [have] been largely financed—in terms of both R&D and the early adoption costs—by richer countries. Wind power, solar power, and batteries were all designed and initially paid for by rich countries. And the rest of the world is now benefiting from that.

S+B: What role does global trade play in energy resilience?
POLLITT: Energy and mining make up around 15% of world trade. So, when we think about world trade, energy is the first thing that should come to mind. The idea that countries should all be self-sufficient in energy is outdated. We all benefit from global trade in energy—from accessing much cheaper resources than we can produce at home, and from the security of liquid, literally, global energy markets.  When Japan had its Fukushima crisis in 2011, what bailed the country out was access to the global liquefied natural gas market.

One good way to view the energy transition is that it makes the global market in energy much more competitive, because now I can either access the global energy market or produce a bit more myself. We have seen how renewable technologies have put a cap on fossil fuel prices, which are not going up long-term because there are alternatives to fossil fuels. That’s all part of a hypercompetitive global energy market. And it’s not just about energy. It’s about equipment as well. I want to live in a world where we address global problems with global markets.

S+B: If you were a business leader, which alternative energy solutions would you place your bets on?
POLLITT: Solar continues to be a remarkable success story. Photovoltaics have gone from something that was used in the space program to something which is now very cheap. We’ve got auctions around the world, which are coming in at close to [US]$10 a megawatt hour [a world-record low]. There are prospects for further optimizing the output of solar panels, for better tracking, components, and continuing economies of scale. We’ve seen a lot of scaling up of wind power. But again, surely there’s room for more wind turbine–design optimization and technological progress. More resilient, lighter, cheaper materials will bring down the costs of wind.

On the demand side, there’s still massive scope for better supply and demand matching, and better deep integration of battery technology, optimizing the actual size and scale of the battery in any given application. And finally, there is a lot of optimism around nuclear power, which is really going to be helped with its computational issues by AI. But nuclear isn’t an uninterruptible power supply, and data centers do require a flexible power supply. Most nuclear power plants are running at 90% availability. They could have an outage which lasts several months if a fault needs deep investigation. You could provide reliable additional energy to a data center at a particular location if you were talking about the Middle East, where the sun is a pretty reliable source of energy.

S+B: Data center consumption and energy demand are poised to increase by at least 50% by the end of the decade, largely driven by projected AI consumption. How do leaders in this space reconcile scaling up tech innovation with the economic and societal consequences of putting increased pressure on grids?
POLLITT: Let’s keep it in perspective. Energy demand in the United Kingdom grew at almost 9% a year between 1920 and 1963. Energy demand in China has been growing nearly 9% a year for the last 45 years. An uptick in data center demand from 2.5 to even 6% of European demand is significant for data centers, but it’s not significant for aggregate electricity consumption. Electrification of vehicles or heating would have a much bigger effect on total electricity demand.

That doesn’t mean that if data center demand is concentrated in particular areas like London, Dublin, Amsterdam, or Northern Virginia, it wouldn’t potentially cause local grid problems. But these are mostly problems getting connection, rather than issues of the underlying demand for energy from the energy system. Data centers potentially create local constraints in already congested areas. So, there’s a question of whether they’re the best allocation of available capacity. Everybody wants to locate their business close to London or Amsterdam, because they’ve got all sorts of advantages. That’s a really competitive space. And it doesn’t sound like data centers absolutely need to be there, whereas housing developments absolutely do. The commercial parks that employ lots of people should be there contributing most to GDP.

If you could build the IT infrastructure a bit further away, in a less congested part of the network, why wouldn’t you?

S+B: How should distribution network operators think about the challenge of data center demand?
POLLITT: To the extent that data centers can pay their way in terms of the additional costs of expanding grid capacity—both the generation costs and the connection costs—and they’re not raising costs for other consumers, there’s no problem. Part of the issue with data centers is they can’t guarantee that they’re going to pay back the full costs of expanding the grid over 40 years because they don’t know what data demand is going to be in 40 years. And there’s always a risk that if data center demand doesn’t materialize in a few years’ time, other customers will end up paying the grid cost of data center connection.

S+B: Are there innovative technologies or methods that could address these issues?
POLLITT: Data centers could lower costs if they also provided two-way services to the grid. These are large loads that are potentially quite flexible in the way they interact with the grid. They could come with a battery, with some generation, that will mostly be used to secure the data centers’ energy demand. But of course, it’s available to the rest of the grid, the rest of the time. So, when data demand is low or if data demand is shifted to another data center at times of local grid stress, this data center could be providing flexible interaction with the grid, supplying cheap service to the network as a whole, and contributing to the net security of the grid.

Often, data centers ask the local distribution company for a lot of capacity that they don’t fully utilize. And of course, that is problematic because that capacity is declared unavailable to other potential users of the system. So data center owners need to get better at providing information on underlying demand drivers, in the same way that traditional industrial consumers would say, for example, how much electricity will be used to produce aluminum.

S+B: What is the business impact of the transition to a low-carbon energy system for distribution network operators?
POLLITT: The implications of the transition for traditional distribution network operators is the move away from being a capex-heavy infrastructure company, where you would be concerned to grow the size of your capital base, to one where you were providing capacity to customers, through a combination of owning capital and infrastructure and the digital maximization of the provision of service. So, you’re not just putting in more wires and transformer stations, you’re also managing the provision of service to customers across your network. And of course, that’s about data management in real time. It’s about maximizing the capability of the fixed assets you have.

One of the companies that’s done this and is a world leader in it is UK Power Networks [UKPN], which owns the network in and around London. It has set up a separate legal entity, which is a digital service provider within UKPN. And that’s very different from the traditional UKPN business, which is all about managing the hard assets and engineering-heavy service provision.

S+B: What sorts of services does this division provide?
POLLITT: They’re doing things like working out how to allocate connection capacity. I’ve been involved with some work with them, thinking about how they can manage their distribution connection queue. One of the things they were thinking about was running some sort of auction to reallocate the customers, according to who is actually ready to connect—if you like, an intelligent management solution to the capacity allocation problem. They’re also doing things like running flexibility auctions to provide demand response deep within the distribution system, to manage local constraints within their network. So, that’s all about intelligent service provision rather than hard asset investments.

S+B: Finally, can you tell us about any specific territories that are successfully using market arrangements to address the challenges of decarbonization?
POLLITT: The single [electricity] market in Europe is a massive institutional achievement. It’s going to become more valuable with renewables because we’re going to have hydro and wind in the north, and lots of solar in the south. The market is shared over a wide area of 27 countries, and it’s got the prospect of being extended further to the south, potentially to North Africa, and out to the Middle East. This is a wonderful way to organize the low-carbon electricity system and to promote electrification.

The EU Emissions Trading System [EU ETS] is the model for the whole world’s decarbonization. It caps the quantity of carbon currently for electricity and heavy industry. It’s being extended in a slightly different form to heating and transport fuel, and will eventually cover nearly 70% of EU emissions. You can have lots of other policies underneath EU ETS; they’re all influencing the price in the Emissions Trading Scheme, but it’s the EU ETS that is guaranteeing that Europe is going to hit its climate target.

China, the world’s largest national carbon market, is modeled on what’s happened in the EU. I think the prospects for extending carbon markets regionally and nationally are good. And the EU ETS is the market that will help us actually meet quantity targets for decarbonization. I’m excited about it! So, those are the two markets that can save the world.