scaling up the institutional response to climate change

E3G - Third Generation Environmentalism

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Scaling up the institutional response to climate change

Ingrid Holmes

24th February 2010

University of Warwick: International Climate Policy after Copenhagen


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Contents

• The investment challenge – and the impact of the credit crunch

• The impact of Copenhagen

• Accelerating low carbon investment

• Benchmarks for success


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Scale of the global challenge


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And in numbers …

• Global emissions need to peak by 2015 and then decline by 5% per year

• BAU estimates are of 2-3% emission increases per year … due to investment in ‘the wrong assets’

• IEA estimates that in the region of $1.7tr/year in investment is needed to 2030 to put the world on a path to avoid the worst impacts of climate change

• This could come from government spending, but given the recession, practically most of it must come from the private sector

• Challenging yes … but the UK pensions industry alone has £1.5tr under management


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UK infrastructure investment (£bn)

2010-2015 2016-2020 2021-2025 Total

Energy efficiency 115 115 115 345

Power generation 28.3 49.8 28.3 106.4

Power networks 26.5 24 13.9 64.4

Heat 13 39.8 0 52.8

Waste 15 15 0 30

Transport 52.5 33.5 17 103

RD&D 12.5 12.5 12.5 37.5

International 3 5 0 8

Total 265.8 294.6 186.7 747.1


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$36bn

$62bn

$98bn

$148bn$155bn

$145bn

2004 2005 2006 2007 2008 2009

Growth: 70% 58% 52% 5% -6%

Global clean energy investment ($bn)

Flat in 2009 – fall in 1st half, sharp recovery in 2nd

Largely stalled in H2 2008

>4x increase from low level 2004 to 2007

Note: Totals include global new financial sector investment - adjusted for reinvested equity, as well as estimates for corporate and government R&D, and residential scale projects. Total values include estimates for undisclosed deals.

$36bn

$62bn

$98bn

$148bn$155bn

$145bn

2004 2005 2006 2007 2008 2009

Growth: 70% 58% 52% 5% -6%

Source: Bloomberg New Energy Finance (2010) and Bank of America Merrill Lynch


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Contents






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Climate change is a result of investment failure

• Investment has been negatively impacted as a result of the credit crunch

• But the scale of investment required was orders of magnitude out even before the credit crunch … or Copenhagen

• A firm and ambitious agreement Copenhagen would have helped build global confidence in growing demand for low carbon goods/services …

• … But it wasn’t the be all and end all


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Copenhagen take outs …

• National and regional effort still both important

• Developing countries, particularly China, want evidence on how to deliver decarbonisation

• Developed countries needs to show how it can be done at scale – providing workable frameworks and models, including how public private partnerships might work

• We need to look again at our institutions and how we deliver transformational change in our economies

• But also how the fast-start finance can be effectively delivered


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Getting the wider investment community on board is key

“Despite the growing recognition of the far-reaching impacts climate change will have on the global economy, only a handful of asset managers are integrating climate risks and opportunities throughout their investment practices …. The investment community is overly focused on short-term performance and ignoring longer-term business trends such as climate-

relate risks and opportunities” Mindy S. Lubber, President of Ceres and Director of the Investor Network on

Climate Risk January 2010


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• Investors discounting medium term EUA price by 30-60%

• Policy failure to hit EU renewables targets still major influence on large investors; corporate and institutional

• Three year analyst time horizon makes carbon liabilities (e.g. investment in unabated coal and lignite) “invisible” to institutional investors

• Major IPOs in EU coal and oil companies (e.g. coal company largest FTSE IPO in 2008) do not consider climate policy a material risk to value; tar sands are an asset to BP and Shell

• Collapse in Cleantech VC funding in US and EU shows fears of market growth

Much of the “green” investment to 2008 was driven by oil price expectations and energy security concerns not climate policy

Policy is not enough


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Shaping investment choices: risk and reward

• High carbon investment – known technology, stable revenues from market– Reward is currently driven by oil/fossil price – Risk can be increased by highlighting impact of carbon policy on asset

returns – and threat of regulation• Low carbon investment - less known technology, policy-driven revenues

– Reward can be raised through subsidies, grants, carbon price support – Risk can be lowered by policies: political risk lowered through

regulation and locking-in policy; price risk by regulation and contracts for differences

– Risk can be lowered by financing through public investment and/or govt guarantees

• Currently we tend to rely heavily on increasing “rewards” – and this can deliver high rents; is it efficient/right to pay investors for their perception of political risk?


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New institutions are needed

• Transformational change in an economy has rarely been achieved through allowing ‘the market to deliver’

• Delivery of sewer systems, railways, oil and gas infrastructure all required significant public involvement

• A strong institutional response in low carbon markets will open up policy opportunities and bring in new investors

• Green Infrastructure Banks


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Bespoke challenges for the low carbon transition

• Need to shift investment focus on a huge scale

– A ‘pulse’ capital investment needed in the shift away from fossil fuels

• Rapid redeployment needed to hit targets

– Challenging carbon timescales at a time of technology uncertainty compounded by high capital cost requirements

• Strategic assets are often ‘sub-investment’ grade

– E.g. carbon capture and storage, deep offshore wind, gasification

– A generic low carbon response will not overcome market risks associated with differing technologies

• High levels of political risk and price volatility – greater certainty needed

– Long-lived high cost assets which need to make a return over 15 years+, dynamic national and international policy environment, fossil fuel volatility and carbon price volatility and discounting

• Much investment needed in new markets and business models

– E.g. Efficiency, forests, smart and super grids


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The imperatives

• As for developing countries, investors need Governments to move beyond rhetoric and high level targets – and deliver a coherent routemap for change and the institutions to deliver

• This requires more effective communication between the policy and investor communities – challenges of language

• Scale, pace and effective management of uncertainty (especially political risk) needed

• This translates to ‘Investment grade policy’ plus ‘skin in the game’ from Government

• In the UK – this means a combination of effective 2050 electricity market reform and the delivery of a Green Infrastructure Bank (GIB) to work alongside the private sector

• Having a GIB unlocks new policy options – particularly to deliver lowest cost technologies – rather than those that are easiest to finance


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Why a bank not ad hoc mechanisms?

• Low Carbon Transition will require 20-30 year intervention to drive new investment and innovation

• History of public-private partnerships shows value of building a cadre of expertise aligned with government goals to get best value and ensure investment made in alignment with public goals

• Need for specialised financial policy advice to Government – especially on innovative areas

• Industry want to see some Government “skin in the game” to show commitment


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GIB functions

Works with, rather than crowding out private sector finance

Four main functions:

• An expert facilitator of low carbon public-private partnerships e.g.

community energy

• An aggregator of low carbon projects for bond financing e.g. energy

efficiency

• De-risking strategically significant project finance (guarantees; debt finance)

e.g. deep offshore wind

• An innovator of new financing instruments e.g. development capital for

SMEs and specialised investment guarantees


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Objectives and governance

• Establish with the objective of supporting the transition to a low carbon economy

• Wholly owned Government Corporation with an independent board (off-balance

sheet)

• Equity provided by consolidation of existing programmes, ETS Auction

revenues, green taxes

• Debt raised through non-recourse long-dated policy-backed bonds with an

implicit Government guarantee (bring in institutional investors)

• Retail bonds also an option

• Tasked to do specific strategic investments to deliver decarbonisation e.g. CCS

demos

• Delivering Fast-start funding


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Possible products

• Debt – up to 50% of project finance

• Debt – first loss

• Investment guarantees

• SME ‘Valley of death’ VC funding

• PPP/equity stakes on innovation (e.g. CCS)


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Three Phases for Low Carbon Finance?

Financial Recovery2014?

Scaling-Up2018?

Mainstreaming2025?

Different Policy Issues at Each Stage


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Benchmarking

• Fully aligning Government financial interests with the private sector will deliver confidence and manage political risk

• Statutory focus on climate change

• Adequate scale

• Leveraging private finance – and a dynamic remit

• Professional skills and innovation

scaling up the institutional response to climate change

Documents

bn ofgem figures

generation environmentalismand

sdc public sector estimates

yearbau estimates

wrong assetsiea estimates

public subsidy

international climate

overall cost