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FEATURE: How to increase investment in renewable energy in developing countries

Jean-Pierre Roux (SouthSouthNorth) shares take-home messages from the recent Climate Parliament gathering in Morocco on the topic of scaling up private investment in renewable energy in developing countries.

The global South has vast potential in renewable energies like solar, wind, hydroelectricity and biomass. If harnessed, these resources could provide the energy needed to alleviate poverty, ensure energy security and curb greenhouse gas emissions. However, subsidies for fossil fuels and the lack of national policies and legal frameworks targeting the promotion of renewable energies are major obstacles. These need to be overcome to promote investment in renewable energy for a significant portion of the world’s population.

Globally, US$ 2 trillion are spent annually on subsidising petroleum products, coal, natural gas and electricity. This figure amounts to 2.9% of global GDP and 8.7% of total government revenues. On average, the richest quintile (20%) of the population get more than 40% of the benefits from petroleum product subsidies whilst the poorest quintile only get 7% of the benefit.

These subsidies have many negative effects on national economies. They aggravate budget deficits through direct spending and forgone revenues, depress growth by making investments in the energy sector unattractive and crowding-out growth-enhancing public spending; and over-allocate resources to energy intensive sectors. By increasing energy consumption, they exert pressure on the balance of payments of net energy importing countries, and intensify climate change.

Energy subsidy reform is, however, extremely controversial and difficult. Energy subsidies are currently perceived as social subsidies in many developing countries despite analyses that show that they disproportionately favour the wealthy. The phasing out of fossil fuel subsidies are not currently on the agendas of most developing countries and unlikely to occur in the short or medium term, though some countries are starting to consider it.

The IMF proposes several principles to guide energy subsidy reforms. These include:

  • A comprehensive reform plan with clear long-term objectives, assessment of the impact of reforms, and consultation with stakeholders.
  • A far-reaching communications strategy that informs the public of the size of subsidies and benefits of reform, and strengthens transparency in reporting subsidies.
  • Appropriately phased and sequenced price increases that permit households and enterprises time to adjust and governments to build social safety nets.
  • Improvements in the efficiency of state-owned enterprises (SOEs) to reduce their fiscal burden by improving information on their costs, setting performance targets and incentives, introducing competition where appropriate, and improving collection of energy bills.
  • Mitigating measures to protect the poor, which may include targeted cash transfers.
  • Depoliticising price setting by implementing an automatic price mechanism and establishing an autonomous body to oversee price setting.

The second major set of barriers to renewable energies in developing countries pertains to the cost of finance. Unlike non-renewable energies, finance cost is the primary determinant of generation cost for renewable sources, as renewable energy has no fuel cost (other than biomass and biofuel) but does have high upfront investment costs. Because there are greater risks involved in investing in developing countries’ energy sectors, the financing cost of the upfront investment is substantially higher in developing countries than in developed countries. A recent analysis by the UNDP demonstrates that in many instances the cost of finance has become the deciding factor determining the feasibility of renewable energy investments in developing countries.

The good news is that several policy and financial derisking options are available to governments to lower the cost of finance to make renewable energy price competitive. This can be done without unsustainable reliance on the public purse or international aid. Policy derisking instruments reduce the barriers to investment, whilst financial derisking instruments transfer risks to other actors. Two examples of the types of risks that can be mitigated through derisking instruments are:

  • Risks that arise from labour intensive, complex processes and long time-frames for obtaining licenses and permits (for electricity generation, Environmental Impact Assessments, and land titles) for renewable energy projects. An appropriate policy instrument to mitigate this risk would be establishing a “one-stop-shop” for renewable energy permits and streamlining the processes for permits. This could be done by establishing an institutional champion in the public sector with clear accountability and appropriate expertise for renewable energy, harmonising requirements, reducing process steps, and training staff in renewable energy.
  • Grid and transmission risks arising from limitations in grid management and transmission infrastructure. Transmission infrastructure may be inadequate or antiquated. There may be no transmission lines from renewable energy sources to load centres, and uncertainty around the construction of new transmission infrastructure. Here the policy derisking instrument will be developing a long-term national transmission/grid roadmap to include intermittent renewable energy. Financial derisking instruments could include financial products by development banks to assist transmission companies in gaining access to capital/funding (such as public loans, loan guarantees, and public equity).

Renewable Energy Feed-in Tariffs (REFiT) and Power Purchasing Agreement (PPA) bidding processes are gaining popularity as cornerstone instruments for large-scale deployment of renewable energy. In Africa alone, eight countries are already using some form of REFiT. However, on their own REFiTs and PPAs may fail to attract investment without further derisking instruments to target residual risks. Importantly, investing in derisking appears to be cost effective when measured against paying direct financial incentives, such as a REFiT premium. The best outcomes occur when policymakers address the risks to renewable energy investment in a systematic and integrated way. Market transformation takes time, and may need to be developed incrementally or in a phased approach.

If legislators in developing countries are serious about a rapid upscaling of investment in clean, affordable energy, they will have to rethink the structure of national energy subsidies and put in place national policies and legal frameworks that mitigate or transfer risks in order to bring down the cost of finance.

For more information on these measures:

Delegates at the International Parliamentary Hearing in El Jadida, Morocco.

Delegates at the International Parliamentary Hearing in El Jadida, Morocco.

From 4-7 October 2013, Members of Parliament (MPs) from Bangladesh, Jordan, India, Morocco, Senegal, Tanzania, and Tunisia met with experts from various international organisations in El Jadida, Morocco to discuss strategies for increasing private investment in renewable energy in their respective countries. The programme included discussions on energy subsidy reform, derisking renewable energy investment, and the structuring of feed-in tariffs (FiT). This article draws extensively from presentations by Dr Stefania Fabrizio, Olivier Waissbein, and Ansgar Kiene delivered at the hearing, as well as comments from participating MPs. The hearing was organised by the Climate Parliament with support from the UNDP. These two organisations are collaborating to build regional networks of MPs and national cross-party parliamentary groups to promote renewable energy, new grids and other steps to ensure access to sustainable energy. The collaboration also facilitates technical assistance to the parliamentarians from across the UN system and from other organisations.

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