Rewiring the Supply Chain for Electric Vehicle Batteries

Transportation—via trucks, aircraft, ships and especially passenger cars—is the No. 1 source of CO2 emissions in the U.S.₁, which presents a compelling case for transitioning to electric vehicles (EVs). But doing so will take a major overhaul of the global supply chain for the lithium-ion batteries needed to power green autos. 

Making that transition raises a host of geopolitical, environmental and economic issues. For companies to succeed in this new landscape, they will need a tricky combination of elements: cost efficiency, sustainable technologies and operations in regions that are allies of the U.S., with strong labor markets and smooth permitting processes. Here are the issues that investors should note as they seek the companies and sectors that could offer upside in the transition.

Currently, up to 90% of the EV battery supply chain relies on China, with the two largest Chinese battery companies controlling more than half of the global market. Chinese companies have spent decades developing the technology, and therefore dominate labor and manufacturing infrastructure, as well as mining of critical materials required to make EVs. 

China’s first-mover advantage will make it difficult for U.S. manufacturers to catch up, especially as U.S.-based companies are held to more restrictive environmental, social and governance (ESG) standards. Breaking into profitable, efficient production will likely be a significant, costly challenge that could slow EV adoption, as prices stay elevated while new supply chain and manufacturing hubs materialize. 

“Onshoring and EV adoption involve a number of sensitive and conflicting factors,” says Adam Jonas, head of Morgan Stanley’s Global Auto and Shared Mobility research team. “Decarbonization of transportation is essential, but it must be done in a way that doesn’t present concerns for national security, the environment or the economy.” 

Rebalancing the supply chain could play out along a continuum between two extremes: on one hand, rapid EV adoption accompanied by greater reliance on China, or, on the other hand, a slower path to onshoring battery production while internal combustion engine (ICE) vehicles retain share for longer. A middle ground would aim to mitigate the risks of U.S. overreliance on a single country while ensuring that there is sufficient battery supply to keep the EV transition moving apace.    

“Recasting the global balance of power within autos that has stood for over a century will require radical changes in policy and technology,” says Jonas. “Additionally, we estimate that the public and private sector will need over $7 trillion in investments through 2040 to build vehicle factories; develop battery capacity and recycling; and upgrade mining and refining infrastructure.” 

Making batteries for green vehicles is carbon intensive. It requires significant fresh water to extract lithium, the key battery metal, prized for its light weight as well as its ability to hold enough energy for long distance-travel and to be repeatedly charged. A 2021 study by the International Energy Agency found that EVs require six times more mineral inputs than traditional cars. Furthermore, the energy intensity required to produce, extract and process those minerals (lithium, nickel and cobalt, to name a few) is higher than that of commodities used in traditional internal combustion engines (ICE), which are primarily copper and manganese. But even though EVs require minerals with a significant environmental footprint, they’re still more efficient in the long run than ICE vehicles (see Figure 1). 

“Greenhouse gas emissions over the life of an EV are significantly lower than those of ICE vehicles,” Jonas says. “ICEs’ high amount of tailpipe emissions over their useful lives more than offset the higher energy intensity associated with manufacturing an EV, including the battery.” 

There are three major obstacles to meeting the demand for minerals needed to make EVs: 

1. The mining and refining of key battery metals is highly concentrated in a few countries, heightening potential geopolitical risks. For example, 70% of global lithium is mined in Australia and Chile, and 60% of mined lithium is then refined in China. Indonesia has the largest share of mined nickel supply and the Democratic Republic of Congo represents 75% of cobalt extraction. 

2. To meet global net-zero goals by 2040, lithium demand alone would grow by more than 40 times, followed by graphite, cobalt and nickel, for which demand could rise up to 25%. The expected leap in minerals production and processing could give rise to a variety of sustainability issues, including loss of biodiversity, air and noise pollution, and more. 

3. U.S. and other manufacturers may be challenged in accessing the minerals at all. China recognized the value of vertical integration early. China-based mining and battery companies, with government support, have made substantial investments in overseas mineral assets, and most notably in international early-stage lithium projects. The main driver of the ventures has been a combination of government support and Chinese companies’ willingness to pay above market value to shore up the EV production supply chain. 

The sheer magnitude of Chinese business ventures locking up critical minerals, particularly lithium supply, globally places U.S. lithium battery manufacturers at a disadvantage, especially as U.S.-based companies are held to more restrictive environmental standards.  

Disrupting the current world order of EV battery component supply and manufacturing will require technology and innovation. Existing advancements such as direct lithium extraction, which uses a modified process that can yield up to 90% of the high-value mineral versus 50% to 60% from the traditional solar evaporation method, present a compelling opportunity to circumvent some of the challenges associated with the current supply chain., Additionally, advanced battery recycling could one day lessen manufacturers’ dependence on raw mineral extraction. 

Policy is another key lever. In the U.S., the Inflation Reduction Act (IRA) passed in 2022 is geared toward driving adoption of clean technologies such as EVs, allocating government funds to industries critical to the forthcoming energy transition. But Jonas says it “is more of a blunt instrument to incentivize onshoring” and there's a risk of entrenching inefficient technologies. At its core, the IRA allocates funds to battery manufacturers based on kilowatt-hour of capacity produced rather than a measure of efficiency/innovation, which could propagate sub-optimal operations. 

Nevertheless, says Jonas, “the changing policy landscape could catalyze a re-architecting of the existing battery supply chain, in which the U.S. can increase its share of EV battery minerals and entice new capital formation onshore.” This rebalancing phase presents a compelling business opportunity, provided it is done thoughtfully. 

For deeper insights on the future of electric vehicle batteries, ask your Morgan Stanley Representative or Financial Advisor for the full report, “Re-Wiring the EV Battery Supply Chain: Global Investment Implications” (May 14, 2023). Morgan Stanley clients can access the report directly here.