Climate Action 2010-2011

Finance and Markets
by such risk-return shifts. However, this positive track
record has only been witnessed in a limited number of
jurisdictions and technology types and, despite rampant
growth in investment flows, absolute figures remain
insufficient compared to what is needed.
The ultimate question is what forces and/or external
drivers will trigger the shifts needed in the way the
finance sector views the sustainable energy space
through its risk and return lens? And what barriers
stand in the way?
Enabling the finance revolution
Enabling the finance revolution for a low-carbon energy
future is, in principle, simple and it is already happening
around the world, albeit at a modest scale. The risk-return
profile of sustainable energy relative to carbon-intensive
energy is even improving, slowly but steadily, without
any explicit government support, due to a number of
‘naturally’ occurring developments:
• Resource economics: increasing fossil fuel demand and
the resulting supply constraints, will lead to ongoing
price increases in the medium to long term. The price
of oil in 2009, for instance, was US$59.21 per barrel
and is predicted to be US$135.22 per barrel in 2035,
an increase of 125 per cent. The price of natural gas was
US$3.33 per 1,000 cubic feet in 2009 and is predicted
to be US$8.06 in 2035, an increase of 142 per cent.
• Innovation economics: ongoing technological
innovation is making sustainable energy technologies
competitive with and commercially superior to
conventional technologies. The average price for
photovoltaic modules, for instance, excluding
installation and other systemic costs, has fallen from
levels of roughly US$100 per Watt of installed capacity
in 1975 to US$4 per Watt in 2006. In the US, the price
for electricity from wind has dropped from US$0.30
per kWh to US$0.05 per kWh.
• Green consumerism as a macro market trend:
sustainability is considered by many commentators to be
one of the most fundamental macro-trends in consumer
markets, with green products and services traded at a
premium: technology developers, project developers,
power generators, grid operators and utilities with green
credentials will increasingly be able to capitalise on this
macro-trend to reap above-average prices. In Germany,
for instance, more than one million households
purchased around 2.8 terawatt-hours (TWh) of green
power in 2007 and more than 60,000 commercial
customers purchased another 1.3 TWh. Estimates for
2008 show household purchases more than doubled
2007 levels, at 6.6 TWh.
Unfortunately these trends are still too weak to drive
and accelerate the scale-up of low carbon investment
towards the US$500 billion needed. Only policymakers,
regulators and the international climate change regime
can enable the finance revolution. Such approaches can
include:
• A price on carbon driving the internalisation of the
environmental costs of GHG emissions: by forcing
the internalisation of environmental costs, a meaningful
carbon price creates a level playing field between
sustainable and conventional energy options. Under
a cap and trade system or an international crediting
mechanism, a price on carbon can open new revenue
streams for sustainable energy projects. At present,
operative emissions trading schemes can be found only
in the EU-27, a few states in the US and New South
Wales in Australia, while carbon tax schemes are found
only in two US states, eight European countries and
two Canadian states.
• Loan guarantees and other public finance
mechanisms improve the economics of a financial
transaction itself rather than of the underlying
investment asset. A loan guarantee, for instance,
considerably reduces counterparty risk for any given
level of return (interest) without influencing the
underlying profile and viability of the actual project. An
example is the Currency Exchange Fund (TCX) that
hedges local currency risks with swap products for those
investing in developing countries. There exists no similar
fund aimed at reducing risks explicitly in the sustainable
energy space.
Ongoing technological
innovation is making sustainable
energy technologies competitive
with and commercially superior
to conventional technologies.
• Tax incentives will decrease the overall tax burden
of developing or deploying sustainable energy
technologies. A decreased tax burden will lead to higher
profits and increased investment returns but in 2005
only 37 countries had implemented tax-based incentives
for sustainable energy options.
• Renewable energy production incentives and feed-in
tariffs can considerably enhance the risk-return profile
of sustainable energy projects:
(i) Providing a price premium for renewable energy
compensates for the cost disadvantages of clean energy
sources, enhancing the profits of projects and returns on
investment
(ii) Feed-in tariffs as well as production incentives are
mostly offered at a predetermined height and over a
predetermined number of years and provide mediumto
long-term certainty on prices and revenues. Market
risk is therefore entirely mitigated while prices for
conventional energy remain volatile.
There are many approaches that legislators and
regulators can follow in unlocking markets and private
finance for decarbonising energy systems, including
phasing out the massive flows of fossil fuel subsidies and
decoupling the profitability of power generators and
utilities from electricity volumes sold.
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