“Green Investment Bank: Driving Transition to a Low-Carbon Economy”
Winston K. M. Mak
Policy Advisor, Green Economics Institute
at the Symposium on Innovation, Philosophy, Scientific Realism and
Methodology in Green Economics
Methodology in Green Economics
Mansfield College, The University of Oxford
19 November 2011
Seminar Highlights:
Setting the context
· The establishment of the Green Investment Bank by Her Majesty’s Government could be a way to deviate from the mainstream economics that dominates in the minds of bankers in the City.
· Intergovernmental Panel on Climate Change (IPCC) issued yesterday (18 November) a fresh warning that the risk from extreme weather events is likely to increase if the world continues to warm. It was “very likely” that emissions had led to an increase in daily maximum temperatures, some regions experiencing longer and more intense droughts or extreme rainfall events.
· Climate change is confirmed the greatest threat to the society. To tackle a social problem, we need (1) delicate policies; (2) economic analyses; and (3) financial tools. The Green Investment Bank (GIB) is indeed the “financial tools” needed to leverage private investment to decarbonise the economy.
· The GIB will be the world’s first public bank dedicated to green economy. It is being set up to finance environmental and clean energy projects which mainstream banks are currently reluctant to take the early risks for.
Market failure – common perception of bankers on clean-energy projects
· Technology risk: The banks may lack expert knowledge of energy efficiency technology, and considering such specialised knowledge outside of the scope their operational interest. Neither do lenders or investors accept the risk that the technology will be unable to perform consistently in a commercial setting to commercial standards over the life of the project, nor do they accept the risk that a technology will become prematurely obsolete, which is a main concern in an industry where technology is rapidly evolving. There is often inadequate experience base or track record about these technologies in the marketplace, which are essential for due diligence and risk assessment by the project financiers.
· Revenue security risk: Bankers need to ensure revenue security over the time required to pay back the capital investment. Energy efficiency and renewable technologies for a ‘community’ tend to be amortised over a long period of time, say 15 or 20 years, if debt or ‘patient capital’ is to become available. Against the long-term security of revenue generated from trading of sustainable energy, the Government have stipulated through the financial incentives that Feed-in Tariff and the RHI Tariff be paid to energy and heat generators for at least 20 years so that the lenders can be assured of the real risk in this aspect being lower than before.
· Market competition risk: When the projects involve renewable energy generation technologies, there are extra variables in risk assessment. Renewable resource is in some cases limited. For example, a solar PV panel can only be in operation under sunlight, then cash flows and margins of projects specialising in this will be lower when compared to traditional power plants, even of a smaller scale. It also further pressurises on overhead and maintenance costs of the green energy-generating installations. Thus, this makes green project financing more difficult to the extent which their revenues are limited by the price of fossil-fuel-produced electricity.
· Scale and related cost issues: Traditionally, project financing has focused on large-scale projects – typically greater than US$500 million (approx. £316 million). Distributed generation using renewable energy are typically smaller than large infrastructure projects that tend to dominate the project-financing industry today. As distributed generation is meant to be smaller, located nearer to or even within the premises of the customers, it does not require costly transmission and distribution infrastructure (especially when connection is guaranteed in the Government’s financial incentives). The transaction cost for small and/or non-replicable projects are often prohibitive.
· The most fundamental role of a bank is to support an economy by keeping money flowing and businesses moving. Correspondingly, a green bank is needed to support a green economy in an infant stage.
The Capital Expenditure needed until 2020
· The Green Investment Bank Commission estimates that £550 billion could be required for investment in supply chains and infrastructure in order to meet the national climate change and renewable energy target between now and 2020.
· Meanwhile, evidence given to the Environmental Audit Committee suggests that the UK will need to raise between £200 billion and £1 trillion over the next two decades, but traditional sources of private fundraising are likely to deliver between £50 and £80 billion only.
Green Investment Bank in the Budget 2011
· The Chancellor of Exchequer has announced that the GIB is to be capitalised with £3 billion, where £2 billion will be injected on the top of the initial £1 billion capital allocated in 2010.
· Last week (11 November), the Treasury reached an agreement with Scottish Government that another £103 million, raised by Scottish Fossil Fuel Levy and Renewables Obligation, will be injected into the green bank.
· The Government expect the Bank will catalyse an additional £15 billion into the green economy within 4 years.
· The Deputy Prime Minister made an announcement that the priority of the Bank is to finance offshore wind and non-domestic energy efficiency projects, although other sectors are being considered for their eligibility for intervention.
· There is a possibility that the Green Investment Bank may help finance the Green Deal operational from autumn 2012.
The Timeline
· The legislation for the bank may take longer than a year, but funds would be released within 11 months so that companies can start planning their applications for funding for green projects.
· The GIB will go through three phases: incubation (4/2012-2013) where the government will make direct investment; establishment (2013-2014) where state-aid compliant investments will be transferred; and full borrowing (2015-16), subject to public sector net debt falling as a percentage of GDP.
· In the government’s Carbon Plan launched in March this year, the BIS to get the bank operational by September 2012. The first annual data on the funds in and size of investments made by the bank to be released by May 2013.
Green Investment Bank Commission Report
· The Commission is chaired by former Merrill Lynch chairman Bob Wigley. The Bank will be an enduring and independent institution free from any political or ministerial interference and operating at arm’s length from Whitehall to increase credibility for investors.
· The GIB Commission has proposed that the primary focus of the bank should be on lowering risk for investors, rather than simply providing capital. It could help catalyse low-carbon investment by:
o Unlocking project finance through equity co-investment, first loss debt and insurance products;
o Creating green bonds to access to very large pools of capital held by such institutional investors as pension funds and life insurance companies and which would provide the scale of capital needed; and
o Selling green ISAs that enable retail investors to contribute to the funding of green infrastructure.
GIB Headquarters
· As of today, there are five cities bidding to house the headquarters of the green bank, namely Edinburgh, Leeds, Manchester, Peterborough and Bristol. The Department for Business, Innovation & Skills (BIS) will compare the proposals submitted by the five local councils and make a decision in due course.
· This Monday (14 November), Leeds MP, Greg Mulholand, was putting Leed’s case for hosting the HQ of the planned GIB in the House of Commons.
Progress of setting up the Bank
- In fact, attributable to the absence of cross-government support, the overall progress of setting up the green bank has been delayed by the Treasury which was instrumental in preventing the GIB from having any borrowing powers until 2015, subject to public sector net debt falling as a percentage of GDP. Thus, the capacity of the GIB to leverage private investment will be weakened. It is always this kind of caveat that is the barrier.
- The society had high expectation that a fully operational GIB can bridge this gap. It is more desirable for a bank which can support the transition to a low-carbon economy at the scale and speed required to deliver the targets in the Climate Change Act to be up and running much earlier.
- As part of the GIB project, Downing Street also committed the government to creating green financial products such as Green ISAs, proposed by George Osborne when he was still a shadow chancellor, in order to provide consumers with opportunities to invest in the infrastructure which supports the green economy. However, hitherto, almost no progress is seen on this commitment as the Treasury considers green financial products as a matter for the GIB and thus will not offer any savings products until 2015. The different perceptions on low-carbon economy shown between departments cast doubts on how high the green agenda is on the Treasury’s priority list.
Cross-government leadership necessary
· The government should set up a high-profile green economy vision. During March-April 2012 London will host the next G20 Clean Energy Ministerial meeting. This is a key opportunity for the Prime Minister to lay out his vision for the UK to be a clean energy leader. The Prime Minister should use this opportunity to launch the Green Investment Bank, accompanied by a decision to bring forward its borrowing powers to make the Bank central to the UK’s Plan B for economic recovery. The Prime Minister needs to send an unequivocal statement to his party, parliament, business and the public that the UK will be part of the vanguard of developed countries that are decarbonising their economies.
