This note summarises the main discussion points that arose during a wide-ranging expert discussion on emerging economic opportunities and risks in the Arctic, hosted by the APPG for Polar Regions as part of the ‘Portcullis Polar Series’.
The APPG for Polar Regions would like to thank the expert panel for offering their views. On the panel were Henrik Normann (Nordic Investment Bank), Mead Treadwell (Pt Capital), Dr Trevor Maynard (Lloyd’s of London), Linton Roberts (Cammell Laird), Dr Kim Crosbie (IAATO) and Anu Fredrikson (Arctic Economic Council). In addition, the APPG for Polar Regions is also grateful to Sergey Cheremin (Moscow City Government) for his remarks made during the meeting.
In March 2008, Scott Borgerson published a paper in Foreign Affairs under the headline “The Coming Arctic Boom”. Climate change, predicted Borgerson (and others), would produce an economic boom in the Arctic, driven by easier access to minerals and living resources, as well as new shipping lanes, all aided by a dramatic reduction in the average volume of summertime sea ice.
In the years since, the Arctic has been subjected to more sober analyses. While the Arctic basin is estimated to contain 13% of the world’s oil reserves and 30% of its natural gas reserves, questions remain about just how much is actually recoverable given the technology available and the marked drop in the price of oil. Shipping through the Arctic has the potential to reduce distances between key European and Asian ports by up to a third, allowing for substantial savings to be made in terms of times and fuel. However, questions remain about whether the risks of using such remote routes are too high. Similar debates are being had over the real economic potential of fisheries, tourism and mining.
Nevertheless, the Arctic economy is growing. In 2010, the regional GDP of the Arctic was approximately £335 billion (roughly equivalent to Malaysia). The Arctic produces approximately 0.6% of world GDP and the region’s GDP annual average growth for 2000-2010 was around 3.5%, compared to 1.9% for the Arctic states as a whole. Significant investment needs have been identified (in the Barents region alone these total around £83 billion over the next decade) to support increased natural resource extraction and processing, local industries and municipal development. The people of the Arctic themselves want economic growth rather than ‘picturesque poverty’, although many are wary of the environmental risks associated with increased industrial activity.
While the decision to invest in commercial projects in the Arctic is ultimately a matter for the individual companies concerned, the UK government has made encouraging British business activity in the region, and promoting UK commercial, legal, resource management and logistics expertise, a pillar of its Arctic Policy Framework (published in 2013). It is for this reason that the All-Party Parliamentary Group for Polar Regions decided to convene a panel of expert speakers to offer their thoughts on recent economic developments in the region, and some of the opportunities that might exist for the UK.
When it comes to capitalising on the Arctic’s economic potential, it is important to remember the difference between bankers and investors. The banker’s task is always to get their money back – it is their job to be boring. Investors, on the other hand, can be bold, risking their capital in the hope of a future pay-off.
The Arctic is a challenging environment for both lending and investment. The harsh climate creates unique environmental risks. In much of the region, there is a lack of infrastructure. Uncertainty remains over governance, especially offshore, while the attention of NGOs creates reputational risks relating to environmental protection and indigenous peoples. Combined, these risks create higher costs for both investment and the delivery of projects.
On top of these risks, there is a high degree of uncertainty over how the Arctic is changing, both in environmental terms and in political terms. As Henrik Normann put it, “we exaggerate short term change” but “understate long term change”. In other words, lenders must be careful not to rush into projects before there is greater certainty about what the Arctic will look like in 10-20 years. Without this longer term certainty, there are simply not enough bankable projects in the Arctic, despite demand for economic growth in the region.
In contrast, investors can afford to be less risk-averse. Rather than wait for certainty, the investor’s challenge is to proactively develop an investment vehicle for generating returns. Mead Treadwell presented an example of this approach. His ambition is to construct an international Arctic Seaway Regime, which will provide a reliable shipping service (supported by an escort fleet of icebreakers) along Arctic maritime routes (commonly referred to as the Northwest and Northeast Passages).
The project was inspired by the creation of COMSAT in the 1960s. Following the emergence of a ‘new ocean’ (i.e. space), the US government established a publicly-owned company to develop the world’s first commercial global telecommunications network, involving 49 partner nations. Mr Treadwell argued that a similar approach could be used to build the first reliable seaway regime in the Arctic (another ‘new ocean’). Russia’s attempt to administer the Northern Sea Route within its own nationally-determined system has so far attracted few international users.
Much work is still needed before an international Arctic Seaway Regime is established. Some important steps have already occurred with the development of new Arctic shipping rules (such as the Polar Code, and various international agreements signed under the auspices of the Arctic Council). A League of Arctic Ports (representing ports both in and beyond the Arctic) is likely to be announced later this year. Its goal will be to advocate for public and private investment in the infrastructure required to build the Arctic Seaway Regime. The precise structure of the Regime is also still under development, with both COMSAT and the St. Lawrence Seaway Regime being used as models. And lastly, there is a need to attract and coordinate investment in icebreakers, ports and route promotion.
The ambition to develop a safe and reliable international Arctic Seaway Regime is a laudable one but the vision is yet to become a reality. Nevertheless, the project – which is essentially investor led – demonstrates the contrasting positions of bankers and investors. While the former will wait and see what the future holds, the latter is seeking to bring about a specific vision of the Arctic as an integrated part of the global economic system.
A further factor which will determine whether a project like the international Arctic Seaway Regime can be realised is insurance. The Arctic is still very much a specialist market when it comes to insurance, because of the unique sets of risks that operators face there. These include the extreme environmental conditions (weather, temperature, icebergs), the need for bespoke technology (making operations more expensive), and the emerging problems around managing environmental change (such as the thawing of permafrost). Underwriters will have to take these risks into account when assessing premium rates and capital requirements.
Moreover, given the remoteness of many operations, there is significant potential for aggregation (whereby an operator has to deal with not just one of the above risks, but some or all of them at the same time). Dr Maynard noted the example of the Costa Concordia which was wrecked in relatively benign environmental conditions of the coast of Italy. The cost to the insurance/re-insurance market was very close to £1.5 billion due to the requirements around pollution response, salvage and wreck removal. These costs would have been significantly higher still, had the disaster occurred in the Arctic. And the consequences would not just be felt by the major firms, but also by many of the various sub-contractors involved.
Dr Maynard further cautioned that the commitments under the COP21 Climate Change conference place a hard constraint on the total burnable carbon – current reserves already exceed this. Any attempt to undertake costly exploration for fossil fuels in the Arctic should bear this in mind.
Lloyd’s of London is well positioned to take advantage of any increased demand for insurance/re-insurance in the Arctic as it supports the cover of risk in specialist areas such as the Arctic. In 2012, it commissioned a significant report on the opportunities and risks emerging in the High North, positioning itself as an important voice in the Arctic insurance/reinsurance market.
Lloyd’s of London has since gone on to work with shipping companies and international organisations to help improve safety and raise awareness of the risks of using Arctic shipping routes. For example, Lloyd’s has been developing an Arctic Ice Regime (to determine the requirements of operating safely in ice in different parts of the Arctic) to complement the International Maritime Organisation’s Polar Code. The increasingly prominent role Lloyd’s of London is playing in helping to shape the rules and regulations governing shipping in the Arctic demonstrates the important role that the City of London is already playing in the development of economic activity in the region.
The Merseyside-based shipbuilder, Cammell Laid, is another British company increasingly well positioned to take advantage of emerging economic activity in the Arctic. In 2015, Cammell Laird was awarded the contract by NERC to design and build the UK’s next polar research vessel, RRS Sir David Attenborough. It has been working with Lloyd’s Register in London to ensure it meets the requirements that will come into force with the Polar Code in 2017.
The RRS Sir David Attenborough will be a very sophisticated ship in terms of its abilities to break ice and sustain itself on remote operations in the polar regions (including significant search and rescue capability). As a result, Cammell Laird is generating a specialist polar ship-building capability in Merseyside that has not existed in the UK since the late 1980s.
With increasing maritime activity in the Arctic, Cammell Laird has identified a number of future opportunities for making use of its growing polar ship-building capability. Demand for scientific research ships that can operate in the polar regions is increasing worldwide. Demand is also expected to increase for support vessels that may be used by either the military or the private sector to assist with operations. This summer, the tour operator Crystal Cruises is sending a cruise ship through the North West Passage for the first time, supported by the RRS Ernest Shackleton. If the market for tourism continues to grow, so too will the requirement for ice-capable support vessels. With the experience Cammell Laird is gaining from the design and construction of the RRS Sir David Attenborough, Merseyside has the potential to become a prominent site of polar ship-building.
As the above suggests, tourism represents another area of potential economic growth in the Arctic. Expedition cruise activity is organised mostly by the Association of Arctic Expedition Cruise Operators (AECO). At present, the UK’s involvement is limited. There are only three UK cruise operators which are active in the Arctic (two AECO members, plus one affiliate member, out of a total of 53).
The main destinations for cruises in the Arctic are Svalbard and Greenland (although numbers for the latter have been falling in recent years). Other cruise activity around Canada and Franz Josef Land is much smaller. Although the data is incomplete, IAATO estimates that the numbers of UK passengers on cruises to the Arctic are in the low thousands – this is very much a niche interest, rather than a case of ‘mass tourism’. Nevertheless, as access to the Arctic increases, and demand grows for safe and sustainable tourism (based, for example, on the rules established by the Polar Code and other regulations), UK operators may find that their experience of operating cruises in Antarctica (where the number of UK passengers is much higher), could be used to grow their market share in the Arctic.
It is likely that the Arctic Economic Council (AEC) will increasingly be at the centre of future economic activity in the Arctic. The AEC was created under the second Canadian chairmanship (2013-15) of the Arctic Council with the unanimous support of all Arctic Council members. It met for the first time in 2014. A Secretariat was opened in Tromsø, Norway in 2015.
Although the AEC was created by the Arctic Council, it operates independently alongside it (providing a bridge between the wider circumpolar business community and Arctic Council representatives. The purpose of the AEC is to facilitate Arctic business-to-business activities and responsible economic development, with – importantly – the full engagement of indigenous peoples’ organisations. In contrast to the Arctic Council, the indigenous peoples’ organisations represented on the AEC have full voting rights.
The AEC aims to put the people and businesses of the Arctic in the driving seat when it comes to the development of their Arctic areas (the AEC has identified four distinct Arctics: Scandinavian, North American and Russian, with an Indigenous Arctic interwoven through them all).
There are currently five overarching work themes, which were identified by the Arctic business community: (1) establishing strong market connections between Arctic states; (2) creating stable and predictable regulatory frameworks; (3) encouraging public-private partnerships for infrastructure investments; (4) facilitating knowledge and data exchange between industry and academia; and (5) traditional indigenous knowledge, stewardship and focus on small business
The main business areas of focus are infrastructure (including maritime transportation, communications and IT, and aviation), energy, mining, tourism, fishing and human capital.
The emergence of the AEC is significant because it is the first time industry has been invited formally to speak and engage directly with the policy community in the Arctic. For businesses serious about long-term investment in the Arctic, engaging with the AEC will likely be crucial.
When the AEC was established its membership consisted only of businesses from the Arctic states (US, Canada, Russia, Norway, Iceland, Sweden, Denmark and Finland) and of the representatives of the six indigenous peoples’ organisations. However, the AEC is now seeking to engage with the international business community beyond the Arctic, by reaching out to industry interested in operating in the Arctic, but which are based in sub-Arctic states, such as the UK. Applications for new members are now open and UK businesses are encouraged to apply.
None of the speakers who took part in our expert forum went as far as to suggest that we are on the verge of seeing an Arctic El Dorado. However, in setting out a vision for the Arctic, Mr Treadwell did highlight the vast potential in the region as a future source of food, fuel and commodities for the world economy, as well as a future crossroads for global trade. In the UK, we can expect to see significant opportunities for British-based businesses (especially in the City of London) to continue contributing to the development of rules, regulations and investment vehicles which will shape economic activity in the years to come. Elsewhere, the UK’s manufacturing sector could benefit from new opportunities to provide specialist technology and logistics services for use in the Arctic, supported by the knowledge being generated in the UK’s world class research centres and universities.
Yet as we also heard, there are still significant risks that need to be addressed through the development of best practices and common standards. Moreover, greater international collaboration is needed to ensure consistency across the eight national jurisdictions, and international waters, that make up the region. Thus, rather than imagine the Arctic as an El Dorado, it is perhaps more reasonable to think of it is a region still in need of significant levels of investment, as well as stable and transparent governance and regulatory structures, if its full potential is ever to be realised.
This briefing paper was prepared by Dr Duncan Depledge for the All-Party Parliamentary Group for Polar Regions.
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