Almost one year after Congress signed President Biden’s Inflation Reduction Act (IRA) into law, money is beginning to flow, and impacts are beginning to become clear. The 2022 legislation encompasses $500 billion in new spending and tax breaks, with key aims including reducing carbon emissions, lowering healthcare costs, funding the Internal Revenue Service, and improving taxpayer compliance. About 11 months after the act came into force, impacts on the clean energy transition, international trade, and the pharmaceutical industry are emerging.
Energy: Revitalizing the Economy and Decarbonization
Catalyzing clean energy production and decarbonization is among the banner causes of the IRA.
According to a recent Brookings Institution study of potential impacts of the IRA on the energy sector and climate change, most models have provisions in the bill putting the U.S. on track to achieve greenhouse gas emissions reductions from 2005 levels in the range of 32% to 42% by 2030, 6% to 11% higher than without the IRA. A recent study of nine models published in Science estimated that reduction even higher, finding economy-wide emissions reductions between 43% and 48% below 2005 levels by 2035.
However, several models also project IRA-funded clean energy investments as having higher overall costs than predicted by the government. Goldman Sachs put the price tag for clean energy tax credits and other government expenditures on climate under IRA at $1.2 trillion over the next 10 years, three times more than the government’s estimate. These models are highly uncertain, and subject to macroeconomic changes – for example, clean energy investments typically involve higher capital costs and are more sensitive to interest rates. However, many argue that these investments are cost-effective even at that tripled cost – recent estimates from the EPA and Nature put damage estimates per ton of CO2 created at $100 to $380, while under the Goldman Sachs estimate, IRA incentives would likely cost under $100 per ton of CO2 reduced. As many analysts predicted at the time of the IRA’s passage, it has had little impact on the hydrocarbon industry. Indeed, with the U.S.’s recent greenlighting of the $8 billion Willow project in Alaska, the U.S. is firmly a part of a global hydrocarbon rebound that has put new project development at pre-pandemic levels in 2023.
From a risk perspective, there are signs that the scale of IRA is already distorting the energy investment market, creating new uncertainties in a sector that is in transition. While the goal is to build renewable and clean energy capacity, the risk of inefficiency and over investment in an uncontrolled transition is elevated. Big oil is responding to this risk by backing away from some clean energy goals and investing in their core business lines where profits margins are greater and the market is assured for years to come. States such as Texas are creating regulatory hurdles for clean energy to protect the traditional oil and gas sector, trying to rebalance the playing field, which legislators view as being skewed by federal government subsidies. Service companies are scrambling to identify niches in emerging technologies to refocus their existing assets, betting that the technology will be scalable and profitable. In short, the sector could be setting off another boom/bust cycle.
Trade: Domestic Content Could Sour Relationships, Up Protectionism
The IRA is having ripple effects beyond the U.S.’s borders, impacting trade and relationships with partners. Ramped-up plans for domestic production of green sector technology aggressively incentivize producing green tech in the U.S. and buying domestically produced products, a program that could hurt foreign manufacturing and relationships with trade partners. In November 2022, EU officials claimed that aggressive IRA incentives for domestic production of electric vehicles and clean technology could contravene World Trade Organization commitments not to discriminate against imported products. In December, French President Macron and other European businesses expressed concern that the policy could pull investment from the EU – or what they have called an “America-first” trade policy.
A recent study by Europe’s Centre for Economic Policy Research estimates that domestic production incentives could lose the EU between 10% to 45% of its exports to USMCA countries in electrical and optical equipment by 2030, while China could lose 10% to 50%. On the production side, countries more exposed to the USMCA, such as Malaysia and Vietnam, could lose from 18% to 30% of their domestic green sector production. Long-term damage to foreign manufacturing could sour foreign partnerships (especially manufacturing-focused economies in Asia that the Biden administration is trying to woo from Beijing), spur protectionist trade policies, or slow the carbon transition in areas increasingly lacking green production. For companies in the U.S., the reallocation of trade and production to the U.S. presents opportunities to invest in the subsidized renewables industry and support industries, from managing increased shipping logistics to building manufacturing plants. Conversely, a more protectionist international trade environment could pose issues for companies that rely on foreign markets, especially in Europe and Asia.
Pharma: Industry Fights Price Controls
Reducing pharmaceutical spending is a central pillar of the IRA. The act includes several provisions to cut prescription drug costs for Americans on Medicare and federal drug spending, including measures that allow the federal government to negotiate with pharmaceutical companies for Medicare drug prices and set a “maximum fair price,” which, alongside other measures, the CBO estimates will reduce the federal deficit by $237 billion by 2031.
However, pharmaceutical companies argue that the bill is shortsighted and will have a negative impact on drug access and on R&D by putting a damper on drug prices. Price caps on drugs start at nine years post-approval for small molecule drugs like pills and 13 years for large-molecule drugs like injected biologics (but exclude categories like drugs with biosimilars, small biotech drugs and orphans). Industry groups argue that this could disincentivize the development of new, expensive drugs, as well as ongoing R&D that identifies new uses for existing drugs. Since the measure’s passage, the price setting mechanism has spurred a flurry of lawsuits from entities such as MSD, Bristol Myers Squibb, the U.S. Chamber of Commerce, the National Infusion Center Association (NICA), the Global Colon Cancer Association (GCCA) and the Pharmaceutical Research and Manufacturers of America (PhRMA), calling the price cap unconstitutional. Additionally, some measures already see the cap impacting R&D: Pharmaceutical Technology reported in June that biotech firms received 17% more in venture financing for biologics, which face a 13-year price cap deadline, than for small-molecule drugs, which have a nine-year cap. It will take more time to assess how IRA impacts the sector – while lawsuits wind through the courts and investment monies flow to more profitable ventures. The upside could be a burst of innovation. The downside risk is an even bigger gap between those Americans who can afford to benefit and those who cannot.
*Anni Coonan is an analyst. She is not a licensed attorney.