Minimizing the cost of renewable energy support

Policies that deliver greater certainty about the future will allow governments to stretch their investments in industry support further. Support policies for renewable energy development should seek to maximize the benefits from a scarce resource – capital, according to a leading industry consultant.

Renewable Energy Support Policies: certainty Slashes Subsidy

Policies that reduce risk would generate savings in the cost of capital needed for renewable energy projects, according to Max Rathmann from the leading renewable energy consultancy ECOFYS. Risk reduction would also reduce the costs associated with investment and operational costs.

Applying these “triple A policies” across the 27 member states of the European Union could reduce the requirement for government or consumer spending by about 10% a year or €4 billion per year. For some countries introducing several changes in parallel could reduce the costs of support by 50% per unit of energy produced, says Rathmann, the lead author of the report   “Towards Triple-A policies – more renewables at lower cost”, published in late 2011.

The levels of capital available for renewable energy projects held up surprisingly well during the financial crisis, says Rathmann. In 2009, $187 billion had been invested. During 2010 global renewable energy investments were over $243 billion. However, the IEA estimates that over $10 trillion will need to be invested by 2020 if greenhouse gas emission levels should stay below 450 parts per million.

A greater use of project financing will help to stretch available capital further, says Rathmann. Project financing keeps debt off company balance sheets by establishing a special vehicle to borrow against the future earnings of the renewable energy project. That allows the parent company to maximize project investments without requiring more investment in its own equity. In project-financed companies, debt usually comprises 70-90% of the financing volume.

More certainty leads to less subsidy

The basic message in the RE-Shaping report is that greater certainty leads to a need for less subsidy. The governments of a number of countries across Europe have abandoned their published support reduction schedules and slashed their support packages retro-actively for renewable energy projects already under operation– particularly their support for PV. Rathmann believes that those governments were wrong to slash that support for operational projects:

“You save some money in the short term by these cuts, but it introduces instability into the market and that will eventually increase risk premiums and drive up cost in the mid term,” he argues. Loss of certainty disrupts smooth industry development and disrupts supply chain development.

A better solution is to introduce greater flexibility into the support regime, says Rathmann. Renewable energy technology suppliers can be given advance warning that if a market grows faster than predicted, the tariff support will drop at a faster – but predictable – rate. And tariff cuts should only apply new projects, never to those already under operation. The time period between support reviews should also be reduced to prevent end-of-year market rushes just before tariff rates are cut.

Policy menu

The report provides a menu of 20 policy options that can reduce the levelized cost of electricity production. The policy options are grouped under six headings: increasing policy stability, applying policy stabilizers, reducing revenue risks, using risk-free interest rates, facilitating risk assessment and insurance, together with a grouping of miscellaneous policy initiatives.

The menu of policy options was devised, says Rathmann, because no single renewable energy support policy can be devised for all countries:

“You have to adapt your policies to the technology and the project size. There is a huge difference between  a large-scale offshore wind farm and a small-scale rooftop-PV-system. You have to adapt to the different electricity markets. And you have to evolve your policies over the years. Your markets may liberalize. Your technologies will mature. But you have to evolve in a stable way. You need to announce policy changes early enough and ensure you discuss them thoroughly with stakeholders in your country.”

Risk and policy design

If risk is placed with the people best able to handle it, the costs associated with that risk will be minimized. Technology and project risks are usually best handled by developers, because they understand the dangers best. Governments are best able to reduce policy and regulatory risks, according to Rathmann.

Certain risks can have positive effects – what Rathmann calls “productive risks”. Risks that prompt developers to reduce their costs or to deliver a better product are positive. Those kinds of risks should remain with the developer. Unproductive risks simply increase the cost of the project without much benefit to the macroeconomy. Support policy designers have not always considered the nature of the risks and who is best placed to carry them in the past, says Rathmann.

Ability to play the market

The RE-Shaping report also calls for considering different support regimes for supply-driven and demand-driven technologies. Supply-driven technologies include wind and solar – where the time of generation of power is not in the control of the project owner. Demand-driven technologies include biogas plants where the project owner can ‘play the market’ by generating power when it is most profitable to do so. Supply-driven technologies are often best supported by guaranteeing generators a price for their electricity and a right to sell it, no matter how little market demand there is. The best way to support demand-driven technologies is to vary support according to the price that the generator can achieve for his electricity on the market.

Asking the right questions

The RE-Shaping report has been welcomed by renewable energy project developers, says Rathmann. “There was a kind of relief from people in the industry that someone was asking the right questions and seeing things from their perspective. They may not agree with every recommendation, but the overall line of argument is exactly what they want policymakers to understand and to consider.

“We would like policy makers to see our report as a tool. It provides a starting point. They of course have to add their country-specific analysis.

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