Listen: All Things Aviation: Post-pandemic economics, geopolitics and infrastructure (part 1)

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Roman Kramarchuk:

Hello and welcome to Platts Future Energy podcast by S&P Global Commodity Insights. Today we're kicking off All Things Aviation, a special six-part series focusing on the dynamics, trends and outlooks we're seeing in the aviation sector. Now the aviation sector is particularly relevant since it's facing pressure from two different fronts that can seem pretty difficult to reconcile. And this series will examine everything, from the carbon commodity markets driving aviation emission reductions to the dynamics around SAF policies, to pricing, to feedstocks, to jet kerosene trade. For this very first episode in this series, we're going to offer some broader context. How important are emissions from aviation sector in meeting or not meeting net-zero targets?

How has COVID impacted the sector, and what do we expect going forward? What are we seeing with aircraft fleets, and what are the broad policy constructs driving efficiency and alternative fuels? I'm Roman Kramarchuk heading climate markets and policies. So happy to have Paul McConnell, our head of outlooks scenario analytics and James Simpson, head of aviation research to help set the stage with a deeper understanding of what factors drive demand growth and how much expansion we have been seeing. I'll start off with giving a bit of an overview for where we are. With growing economies and rising global incomes, demand for air travel has been historically growing very quickly. As we'll discuss COVID hit aviation particularly hard, but the bounce back has been strong.

In a world that is increasingly concerned about rising carbon emissions and climate change, air travel is generally recognized as a particularly hard-to-abate sector. Substitutes for air travel over limited and intermodal options are also not there. And the massive trends towards electrification face particular challenges as the energy density of batteries can't really match jet kerosene. As with all other sectors we cover the aviation sector outcomes will be driven by the intersection of policy markets and technologies, but there are unique elements for our desire for flight that require special analysis to fully appreciate the potential. So I want to turn to Paul. I know Paul, your team has just finished finalizing our 2024 scenarios. Can you help us understand how you model these scenarios globally, the different outlooks you generate and how particularly the aviation sector fits in?

Paul McConnell:

Sure. So we have indeed just finished our outlooks for 2024. In my team, we produce five long-term outlooks, one of which is the Base Case, the centralized view from right across all of Commodity Insights. We call that Inflections, that's our central view. And aviation of course, is a part of that as we look right across all of the various industrial and energy-consuming sectors. We also have a number of other flanking scenarios. I think for the purposes of this conversation, we probably want to be focusing on Green Rules because as you point out, moving the world onto a lower carbon pathway I think is certainly challenging. And the green rule scenario really allows us to ask the question of what would need to happen right across the board, but also specifically from the aviation sector to really deliver that low carbon future.

Roman Kramarchuk:

So Paul, specifically for aviation, how critical are aviation emissions in terms of the total share? Is this a big part of reaching net-zero?

Paul McConnell:

Well, I would say that aviation emissions are relatively small but have historically been fast-growing. So to put that into context, in 2023, which is the last year for which we have historic data, we think aviation emissions globally were something of the order of 940 million tons of CO₂ equivalent. Now to put that into context, total greenhouse gas emissions across all different types was around 50 billion tons in 2023. And of that the energy related CO₂ component was around 40 billion tons. So we're really talking about a relatively small percentage, but at least until COVID had been growing quite fast.

Roman Kramarchuk:

And James, maybe we can bring you in here to help us understand what is driving that demand. This has historically been a particularly fast-growing sector. The emissions have been growing particularly fast, but if we dissect what is it that's driving this? Is it income? Is it economy? What segments? Commercial versus passenger? Help us out here.

James Simpson:

Well, I guess, I mean as is the case across most sectors, economics is the strongest underlying driver. You can certainly measure a correlation between a country's GDP growth and its people's appetite for flying. Now this correlation is actually true for both business and personal travel. The wealthier a country gets the more propensity to fly, but the relationship's actually more complex if you dig into the matter. For one, this correlation between GDP per capita and flying works very well for developing countries, but it reaches a plateau. Even if you can afford it, there are ultimately only so many holidays you can take in a given year.

As for the regional trends, well to give you an idea, 40% of all growth out to 2050 is attributable to Asia alone. This is due to the region's ever-growing emergence as an economic powerhouse, of course, again brings us back to economics. But there are some interesting caveats to this, for example, if you take Africa, the forecasted growth was below what one would expect for a booming continent, both economically and demographically. This is because the infrastructure in Africa and particularly the lack of sufficient airports is constraining growth. You would ultimately have greater jet demand if you actually had the ability to fly more.

Roman Kramarchuk:

So James, what did COVID do for demand and are we back to strong growth? Have we recovered?

James Simpson:

Well, as you know, COVID's had a dramatic impact on the aviation sector. Worldwide demand in 2020 dropped by 45%. Now we have seen a very strong rebound in some regions, particularly in the west. The Europe and the Americas in general have pretty much back to levels that we saw pre-COVID. I mean, if anything, the news in Europe these days is one of a backlash against excessive tourism in a lot of cities, this would certainly suggest that people are back to flying and going on holiday. The rebound hasn't been quite as strong in other corners of the world and notably in Asia. And I think this is primarily due to geopolitical shifts that have occurred during the COVID era.

The biggest example is of course Russia where demand is still some 10, 15% below pre-COVID levels due to the Ukraine invasion and subsequent sanctions. In the case of China, we've seen its economy slow down considerably subsequent to COVID, and this is having an impact on the speed of their own recovery. This has been exacerbated by trade wars that are growing, particularly with the US. If you look at specific routes, it's interesting to see that Europe to China flights are also down considerably. And even that several large European airlines have actually closed routes to China in recent months. This is because they're no longer able to fly across Russian airspace, which is ultimately adding almost three hours to the flight and making it uncompetitive.

Roman Kramarchuk:

So James, just one of the things with COVID is with the digital connectivity, the fact that we're often on Teams calls or on video calls, the thought was the business travel would kind of slow and start receding. Are we seeing this happening? Is this something that we should expect going forward?

James Simpson:

Well, for the most part, business travel has pretty much rebounded. I guess what we are seeing is a decline in intraday business trips. The trips that are occurring tend to be for more prolonged period of time, but as things now stand, we've seen a pretty robust rebound in business. And again, as mentioned earlier, that's very much correlated to the fact that there's been a strong economic rebound, particularly in the West where business travel has recovered the most. Going forward however, I think you're right that business travel may decline in a structural manner because besides the obvious incurred costs for the companies, carbon emissions are an increasing challenge for all companies, and cutting back on business travel is what you may say is a low-hanging fruit. So some efforts in that regard are to be expected and ultimately longer-term decline in business travel. But it's certainly not something we've been observing in the immediate post-COVID era.

Roman Kramarchuk:

So I mean without additional tailwinds from policymakers, we do expect that aviation emissions are going to continue to increase. I think that's what your findings were, Paul. We know that international aviation emissions are actually not covered under the Paris Agreement, which is designed to cover country-level commitments. Globally, aviation emissions are addressed by ICAO and through a particular CORSIA program at this point, which we'll discuss in subsequent sessions. But we are seeing regional national policies implemented. Paul, when developing your scenarios, I mean, can you give some thoughts on the policies, international, regional, and national that you see as bending the emissions curves in aviation and more broadly?

Paul McConnell:

Yes, I think this is a really interesting point and I do want to talk to this policy point that you raised, Roman, but I do want to come back to this thing about behavior as well. I think this is really, really important, but let me talk about the policy piece first. You are right. Absent any kind of intervention, we do think greenhouse gas emissions from aviation would rise under our base case. We think that would be probably getting up to around a billion tons or 1.2 billion tons of CO2 equivalent by 2050. So that's obviously quite a significant uplift from where we are today. What we're factoring into our policy outlook is the potential expansion of the EU ETS to include aviation for flights coming into or flying out of the EU. Intra EU flights are already currently covered by the EU ETS. I think this is really interesting because aviation has been talked about as part of the EU ETS for some years, even perhaps a decade or more, but it's this jurisdictional element, which has always been a bit difficult.

If the scope of the EU ETS is further expanded, then emissions from flights in and out of the EU – from the beginning to the end of the flight – would be covered under the EU ETS – even if those emissions occur outside the EU. So we do think that could have a bit of an impact, and I think you're right, bending the curve is probably how to think about this. But to come back to this point around behavior, under our base case emissions from aviation will go up, demand for aviation fuel will continue to go up under our green rules scenario where this is consistent with a below two degree world, we actually see demand starting to curve down. So we do have some fuel switching within that overall picture, but the demand for aviation, the top line demand for fuel, for energy, and of course what that means for emissions, that will start to slow and eventually go down. So I think if we want to get to these kind of lower carbon futures, then the demand for aviation has to change. We do have to incorporate some of these behavioral changes that you allude to, more homeworking, perhaps fewer holidays, less day trip business travel, perhaps less business travel overall. That I think really has to be part of the equation if we want to reduce emissions from this sector.

Roman Kramarchuk:

So I want to pivot a little bit now, and we've heard in prior podcasts about potential for different fuels in the aviation sector. We got a podcast focusing on hydrogen, but any significant uptake will be many years away. There is a lot of hype around sustainable aviation fuel, but the fact is for now, jet kerosene is very much the fuel of the president for the aviation sector. And it's the burning of this jet kerosene that is driving the greenhouse gas emissions. We're going to go into a little more detail in later sessions, but James, what can you tell us around jet kerosene supply, where it's coming from, what are the dynamics?

James Simpson:

Well, jet fuel or jet kerosene is a hydrocarbon, and as such is derived from processing crude oil in a refinery. Yields vary depending on the type of crude oil and the sophistication of a refinery, but to give you a ballpark figure, approximately 10% of a refinery's yields are jet fuel or jet kerosene. Now, a refinery also produces gasoline, diesel, LPG, NAFTA, heavy fuel oil, there's a variety of products that are being produced. And of all of these, only the demand for jet fuel and NAFTA is forecast to grow. Now this is problematic. Demand for motor fuels, i.e. gasoline, and diesel is set to shrink considerably in Europe and North America due to the progressive electrification of the vehicle fleet.

And yet these motor fuels are actually the bulk of what is being produced from a refinery and ultimately where the refinery is making money. Now, as a result, if you have less demand for motor fuels, you're going to see a fair number of refineries shut down in the west. And this of course poses a problem for the future of jet fuel supply. I mean, as mentioned, if jet is only 10% of the refinery's yields, no matter how big jet demand is, it's not going to be enough to keep a refinery open. And so down the line, we do see the actual supply of jet fuel becoming a concern.

Roman Kramarchuk:

So James, just to follow up on that, I mean because also with concerns about supply, there will be implications for prices and those prices make up a key element of the cost of flying. So can you give us some sense in terms of how this dynamics have translated into prices and where we see prices going, and then ultimately with those prices, how elastic is demand for aviation? Would high prices for jet kerosene or carbon end up limiting demand?

James Simpson:

Well, yeah, I mean, you're right. Basic economics really, any restriction on the supply will ultimately push up the prices, all other things being equal. With regards to the recent history of jet, of course the jet prices plummeted when COVID happens, and now they've fully recovered. In fact, they're even above pre-COVID levels and are likely to remain so. Now you ask could the current higher prices or potentially even higher prices have an impact on demand? Well, prices are the single biggest operational cost for an airline. So if jet prices shoot up, this is of course going to affect the cost of flying. But in recent years, we've spent a lot of time looking into the elasticity of jet demand, and it's actually surprisingly inelastic. I mean, if you try to visualize it, for one, short distance, flights are often cheaper and not to mention faster than the alternatives such as taking the train.

Europe is a case study for the matter. Flying is much cheaper than the alternatives. So prices would have to go significantly higher before they would ultimately affect one's choice of the plane over the train, for example. And as for long distance flights, ultimately when people are choosing to go on an exceptional holiday or if they're traveling for business reasons, the incremental cost of the jet fuel is ultimately going to be relatively marginal when considering the bigger scheme of things. Because ultimately, as mentioned earlier, it's actually the bigger economic picture and GDP growth, that's going to be a far bigger driver of whether or not you go on a holiday or on a given business trip than the actual variation in the jet fuel price. So yes, it of course matters and as mentioned, the supply considerations are a concern, but the elasticity is actually really quite limited.

Roman Kramarchuk:

And let me ask both of you at this point also is we've been talking about behaviors, we've been talking about fuel choices. I know we'll talk about sustainable aviation fuels in subsequent session, but one of the key potential drivers for decarbonizing is efficiency. So just wanted to get your thoughts. Anytime there's a need for capital stock turnover, what does it take and what can we expect in terms of the fleet turning over? And maybe start with James and end with Paul on this.

James Simpson:

Basically going forward, when you look at the aviation sector's ambitions with regard to decarbonization, there is no silver bullet. It's ultimately going to be a combination of cleaner fuels, sustainable aviation fuel. It's going to be partly the aviation fleet turnover and coming out with more efficient planes. It's also ultimately going to be offsets as we'll be discussing subsequent podcasts. But all of it is going to be necessary if there's to be any meaningful decarbonization of the sector. Now what's interesting in terms of the turnover of the fleets and particularly the efficiency that's supposed to come from it, is that you see a lot of companies, a lot of airlines actually wanting to buy more efficient planes, and yet there've been significant supply disruptions in the post-COVID world.

This is resulting in delay of rollout, which is ultimately impacting all the way through to ultimate jet demand. There's a variety of reasons for this, but basically there's a surprising number of companies that are feeding the supply chain for airplanes. And some of these have gone under, some have been embroiled in trade wars. Basically the supply chain has the efficiency in this actual supply chain is broken down in a post-COVID world. And even if I may add, even Boeing itself in its recent woes are adding to the problem. As a result, you do see a slowdown in the rollout of new planes.

Roman Kramarchuk:

And Paul, I know in terms of your scenarios, you're seeing an extended triage period, you're seeing the capital stock turnover in many cases being delayed. And just your thoughts on what that means, and what you're seeing in terms of the broader trends and what that means in terms of efficiency gains.

Paul McConnell:

Yeah, I think this is a very, very fundamental point because try we might, moving to alternative fuels within the sector is going to be challenging and as just been mentioned, is proving to be perhaps even more challenging than we'd expected. And that is definitely reflected in our numbers. When you look out to 2030, the amount of alternative fuels in the aviation sector is absolutely minimal. 2040, it's starting to grow. And I'm looking here really at my Green Rules outlook, which is the more optimistic of the two, but even by 2050, hydrogen represents a relatively limited share of the overall picture.

And this I think is still pretty optimistic. Electricity even less. So I think these are going to be marginal contributors to the overall whole. And even in our lower carbon scenario, kerosene is still the majority outlook. There is a bit of sustainable aviation fuel in there as well, but again, perhaps limited by some of these supply issues that we've been discussing. So yes, it's going to be challenging. And I do think, again, back to this behavior point that if we do want to reduce emissions from the sector, that is going to be one of the major contributors to the overall picture.

Roman Kramarchuk:

Okay. Well thank you Paul, thank you James, for your insights for really setting the stage here. There is obviously more to come with the subsequent sessions. And I want to thank the listeners for joining in. We are going to be pivoting to look at new developments in the sector in the coming episodes. Next week we're going to pivot the discussion around the dynamics of carbon market mechanisms that have been designed and implemented around the globe to constrain aviation emissions. And these include the global CORSIA program and the EU ETS, as well as voluntary purchasing of credits by the airlines. That will be part two with more to follow. So please join us and thank you very much.