Strategies to Stimulate Investment in Wind and Solar

Overview

Global renewable energy investment surged 25% per year over 2004-12 and private finance played a key role in this growth, attracted by the prospect of stable returns underpinned by subsidies or power purchase agreements (PPAs).  This helped wind and solar technologies reach cost parity with new fossil-fuel generation in most markets. But investment growth has now slowed to less than 10% per year since 2013, especially in many mature markets with a track record of solar and wind deployment.

As a result, current investment in new renewable power plants is far behind the volume required to reach net-zero emissions by 2050: new spending on wind and solar capacity needs to rise to between $763 billion and $1.8 trillion per year over 2021-30, according to BNEF’s 2021 New Energy Outlook. Yet such financing has been flat at around $300 billion annually for the last five years.

Impact

A key reason behind this slowdown has been fewer opportunities to secure regulated revenue for projects due to a reduction in policy support and more regulatory uncertainty. In the EU, for example, renewable capacity additions have stagnated as policy makers rolled back incentives, as a result of greater budgetary discipline and the increasing cost-competitiveness of wind and solar PV. That said, even as these technologies grow cost-competitive on a levelized-cost basis, they remain more capital-intensive than most sources of conventional generation.

Due to their cost structure, which makes them sensitive to the cost of capital, and their operational constraints, renewables can face substantial risks when competing in wholesale power markets. In particular, as more wind and solar PV  generation (due to subsidy reductions) participates in the wholesale market, they drive down realized power prices, decreasing revenue and making it tougher to secure financing. This has been one driver of the increase in corporate PPAs as these give power plants more revenue certainty, and electricity consumers are encouraged to sign up by the declining cost of renewables and sustainability commitments.

As a result, the volume of clean power capacity contracted to corporate buyers annually grew from around 1GW in 2013 to 19.6GW by July 2021 and now encompasses a broad range of corporate buyers. In 2013, the corporate PPA market was dominated by large technology companies but has since grown more mainstream among financial institutions, industrial and telecommunications companies, and smaller players. The U.S. is by far the largest market globally, but activity is spreading to other markets, in particular those with large power consumers.

Opportunity

Governments and the finance sector can undertake a number of actions to promote proven private investment strategies: firstly governments and power-sector planners can prioritize clean energy wherever it has reached cost parity with fossil fuels. This could be achieved by introducing incentives and cutting red tape in the permitting process, in order to avoid new investments in long-lived carbon-intensive assets. The development of new coal-fired power plants continues even in markets where zero-carbon alternatives are already cost-competitive, with nearly 500GW under construction or development. Most of this coal pipeline is located in emerging markets with growing power demand, such as China, India and Turkey. Policy makers can also incentivize deployment low-carbon flexible technologies (eg, battery storage) to mitigate the growing share of variable generation.

Project developers and banks are still responsible for the majority of financial flows in this sector, accounting for more than 65% of clean energy asset finance 2009-18. Asset managers and owners still face challenges to investing in clean energy due to a lack of financial products suitable to the asset allocation approach of many larger investors. The finance sector can therefore help develop products needed to scale climate investment. For example,  the small size of renewables projects can dissuade some investors.  In response to this constraint, project developers and banks have used securitization and bonds to aggregate clean energy investments into financial products, achieving a scale that enables larger investors to support smaller project sizes.

For larger investors, the most common products have been green bonds. Green asset-backed securities (ABS), one type of green bond, provides institutional investors with the opportunity to deploy capital to the smallest assets while allowing project developers to free up capital for new investments. ABS involves the bundling of existing financial assets into a bond, enabling investors to receive a share of the cash flows from the underlying assets. Clean energy project developers and investors have used ABS to diversify the portfolio of financing for smaller-scale, low-carbon assets, such as rooftop solar installations or energy efficiency improvements.

Governments can also encourage private electricity consumers to established PPAs with renewables generators. This can be via fiscal or financial incentives, as well as ensuring the required legislative and regulatory frameworks are in place. They can also enable project developers and debt providers to assess the credit worthiness of individual corporate offtakers, and find ways to mitigate the shorter length of corporate PPA tenors.

Particularly for new technologies and markets, public finance continues to play a central role in driving investment by providing revenue security. Lessons gathered from managing subsidy budgets for solar and wind can be applied to strategies for supporting newer technologies, such as battery storage, which will be critical for integrating intermittent renewable generation into the grid. However, subsidy bills can accrue rapidly and often require that governments develop clear funding plans to avoid situations where financing commitments made to investors become unmanageable. In markets where project developers require that PPAs be backed by a sovereign guarantee, governments may struggle to take up too many liabilities, as these can constrain their general financing capacity.

Governments can set ambitious, long-term, and detailed intermediate clean energy targets that send a strong signal to the private sector. Ensuring a stable policy environment, including clear permitting and land acquisition processes, is critical to preserving investor confidence. While policy makers can gradually phase out policy support schemes as technologies mature, it is critical to avoid retroactive cuts for already approved or financed projects.

Source

BloombergNEF. Extracted from report for Climate Finance Leadership Initiative, Financing the Low-Carbon Future, published on September 2019.