The Challenge of Low-Carbon Development - World Bank Internet ...

Overcoming Barriers to On-GridRenewable EnergyRenewable energy has strong local advantages in additionto its global benefits. The electricity it provides can drivedevelopment and satisfy consumer aspirations. A switchfrom fossil fuels to renewable power abates acid rain andnoxious air pollution. Renewable power also enhances domesticenergy security and buffers a country’s economyagainst the gyrations of international prices for oil, coal,and gas.On-grid renewable energy faces barriers to investment:• Renewable power is usually more expensive to producethan coal or diesel power, so it can compete only if producersare rewarded for its local or global benefits.• More of the cost is up-front capital than is the casewith fossil-fueled power. So developers need affordableloans, and bankers need reassurance that a stream ofrepayment will continue for many years.• Power sector laws, regulations, and operations may bepoorly adapted to the peculiarities of renewable energyand often discriminate against small producers.• In many countries, technical capacity for building,maintaining, and integrating renewable energy may beweak.• Renewable energy, especially large hydropower, canpresent environmental and social risks.• Many kinds of renewable energy are intermittent andthus less convenient than plants that produce assuredbaseload or peak power.Among the barriers to on-grid renewableenergy are costs relative to coal, oil, or gas;up-front capital needs; lack of adequateregulations and technical capacity; andenvironmental and social risks.This analysis of grid renewable energy uses a spreadsheetbasedfinancial model to assess how interventions availableto the WBG can boost project bankability, overcoming thesebarriers. The model, inspired by de Jager and Rathmann(2008), is based on detailed financial appraisals of 20 hydropower,wind, gas, and coal projects financed by IFC andthe Bank’s Carbon Finance Unit. The projects, chosen forthe depth of their documentation, are not a random samplebut do illustrate a range of project costs, performance, andeconomic and fiscal environments. Although the financialmodel can involve baroque complexities of loans and taxes,a simple approximation (box 2.1) provides powerful insights.(Box 2.5 illustrates how some of these interventionswere applied in Sri Lanka.)Support more profitable technologiesSome technologies are inherently more profitable thanothers and are thus easier to finance and more competitivewith fossil fuels. The key determinants of returns, asshown in box 2.1, are construction cost and capacity utilization.Both can vary substantially. For instance, cost forsmall hydropower plants has varied from $1,400 to $3,000per KW. Overall, hydropower economics are generallymuch more favorable than for wind power. IFC experience(on a small sample) shows that large hydropowerplants have an appraised average financial rate of returnof 17 percent, small plants have a 13 percent rate of return,and wind a 9 percent rate. IEG analysis of projectfinance confirms this relationship, holding constant variationin taxes and power tariffs, and shows that returns onequity increase sharply as financial rates of return grow(figure A.1 in appendix A).The key determinants of returns for gridconnectedrenewable energy are unit cost ofcapacity, capacity utilization rate, and tariff.Boost capacity utilizationThe economic and carbon returns of a renewable energyplant are directly proportional to capacity utilization (theratio of actual to potential power production). So bankabilitycan be strongly improved by favorable siting of plants(for example, where winds or river flows are more reliable)and by ensuring better maintenance and operations.The economic and carbon returns of arenewable energy plant can be boostedsignificantly by improvements in capacityutilization.Capacity utilization varies greatly and is not strongly correlatedwith the size of the facility (see figure A.2). Figure 2.7shows the distribution of imputed 7 capacity utilizationamong hydropower plants registered with the CleanDevelopment Mechanism (CDM), most of which are runof-river.The capacity factor among all plants varied fromless than 10 percent to more than 90 percent. No WBGcarbon-funded plant achieved greater than 60 percent.In China, CDM-registered wind plants have an averagecapacity factor of just 23 percent (for comparison, the USaverage is 34 percent). The low utilization rate has been attributedto poor siting, inadequate grid integration, andlow-quality turbines (Lewis 2010).Detailed resource maps, such as wind atlases, could in principlehelp governments and private developers ensure that renewableenergy facilities are well utilized, taking into accountenvironmental constraints and availability of transmission18 | Climate Change and the World Bank Group