TODAY’S STUDY: FOR JUST 2% OF THE WORLD’S EARNINGS

Towards a Green Economy; Pathways to Sustainable Development and Poverty Eradicaton – Part II, Investing in Energy and Resource Efficiency
February 2011 (United Nations Environment Program)

It sounds like one of those public broadcasting pitches: Just 2 percent of the world's GDP invested in 10 New Energy and Energy Efficiency sectors will buy a subscription to a planet safe from climate change.

About $1.3 trillion a year and the right public policies will sustain the world's growth while shifting it to a New Energy economy, according to the report hlighlighted below from the United Nations Environment Program.

Not subscribing to a climate change-free planet means facing impacts like the 2010 Russian fires and Pakistan floods and this year's Australian ravages. It means a disproportionate burden on the world's poorest and hungriest. And it means continued dependence on fossil fuels with all the wild price spikes, deadly coal mine cave-ins and grotesque oil spills that come with fossil fuel addiction.

Subscribing to the fight against climate change means transitioning to a New Energy economy that will pay for itself by running on the power of the sun, the wind, the planet's deep heat and its flowing waters. It means a power system distributed across the face of every nation and reaching into every neighborhood. It means jobs and revenues wherever sun shines and wind blows instead of trillions migrating to the few nasty places with underground energy hordes. It means emissions-free electricity and transportation and the clean air and good health that follow.

The logic of the New Energy economy is so undeniable that, as friend of NewEnergyNews Hazel Henderson's Green Transition Scoreboard® recently announced, the private sector is well on its way to making the investment. All it really needs is a commitment from the public sector in the form of aggressive supportive policies, a commitment that in the U.S. is still far from forthcoming.

What is it the public broadcasting pitchers keep repeating? Ah, yes: The money pledged keeps the effort going and it's a small price to pay. That's also true of the fight against climate change.

Like public broadcasting, this good earth is member-supported.

Key messages

1. Renewable energy presents major economic opportunities.

Investing in renewable energy is becoming increasingly viable as technology advances and costs decrease. For 2010, new investment in clean energy is estimated to have reached a record high of US$243 billion, up from US$186 billion in 2009 and US$180 billion in 2008. The growth is increasingly driven by non-OECD countries, especially large emerging economies including Brazil, China, and India. With increasing scale, renewable energy offers important new employment opportunities. Furthermore, renewable energy can be a cost- effective solution to reaching the energy poor in many situations.

2. Greater investments in renewable energy, as well as energy efficiency, are required now because the costs of inaction are high.

The energy sector is directly responsible for climate change whose costs in terms of adaptation are estimated to reach US$50-170 billion per year by 2030, half of which will be borne by developing countries, affecting the poor disproportionately. To achieve a “two degree” world, the corresponding cumulative investments in renewable energy under the IEA’s 450 ppm scenario would have to amount to US$1.7 trillion by 2020. Every year of delay in bringing the energy sector on the 450 ppm trajectory would add US$500 billion to the global costs for mitigating climate change.

3. Renewable energy can make a major contribution to energy security at global, national and local levels.

Most of the future growth in energy demand is expected to come from developing countries, against a background of rising fossil-fuel prices and uncertainty regarding peak oil. The concern is most acute in oil-importing African countries, which spend 30 per cent of their export revenues on imported oil on average, with some spending more than a half. At the local level, renewable energy sources can ensure a more stable and reliable supply either through local mini grids or household level systems such as PV or biogas, reducing disruptions from a centralised grid or fuel supply.

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4. Renewable energy sources can play an important role in a comprehensive strategy to
eliminate energy poverty.

In addition to being unsustainable, the current energy system is also highly inequitable, leaving 1.4 billion people without access to electricity and 2.7 billion dependent on traditional biomass for cooking. Moreover, indoor air pollution from using traditional biomass and coal is responsible for more than 1.5 million premature deaths each year, half of them children under the age of five, the rest women, in developing countries. Ensuring access to electricity for all requires US$756 billion – or US$36 billion per year – between 2010 and 2030, according to estimates by the IEA, UNDP and UNIDO. Cost effective solutions include clean biomass and off-grid renewable-energy technologies, such as solar PV, with low operating costs and flexible, small-scale deployment options.

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5. Renewable energy technologies are becoming more competitive.

The maturity of technologies and the related “learning effects” have helped make their costs increasingly competitive. In the European context, for example, hydro and wind can already compete with fossil fuel and nuclear technologies, and on-shore wind will soon be competitive with natural gas technologies. Renewable energy technologies have also been advancing, including bioethanol-based transport fuels in Brazil, solar energy for heating purposes in China, geothermal energy in Iceland and El Salvador, and on-shore and off-shore applications of wind energy in many more countries.

6. Renewable energy is even more competitive when the negative externalities associated with fossil fuel technologies are taken into account.

The combustion of fossil fuels has both pollution and human health impacts. Many renewable energy technologies would become highly competitive if these externalities were factored into the production costs of fossil fuels, and the considerable subsidies for both their production and consumption were removed (globally totalling US$500-700 billion per year according to IEA, OECD, and World Bank estimates). Cost-reducing innovation in various renewable technologies is also likely to accelerate as a result of increased investment flows.

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7. Increasing investment in greening the energy sector can make a substantial contribution to decreasing carbon emissions.

Modelling for the GER projects that an average investment of approximately US$650 billion over the next 40 years in power generation using renewable energy sources and in second-generation biofuel production of transport fuel could raise the share of renewable energy sources in total energy supply to 27 per cent by 2050 compared with less than 15 per cent under a “businessas-usual” (BAU) scenario. The share of renewables in power generation alone is projected to be 45 per cent by 2050, compared with 24 per cent under BAU. Together with investment also averaging US$650 billion per year to improve energy efficiency, total fossil-fuel use is projected to be 41 per cent lower in 2050, producing estimated savings in capital and fuel costs averaging US$760 billion per year between 2010 and 2050. Carbon emissions would be 60 per cent lower than BAU by 2050.

8. A shift to renewable energy sources brings many new employment opportunities.

Due to the higher labour intensity of renewable energy compared with thermal power generation, increased investment in renewable energy would add to employment in the short-term, according to modeling for the GER. In the longer term, employment in energy supply would decline at a rate comparable to that expected under BAU, but with a substantial substitution of jobs in renewable power generation and biofuels production for many of those lost in coal mining and coal-based power plants. Taking into account an estimated 5 million jobs to be created in goods and service businesses required for energy efficiency, direct employment from greening the energy sector could exceed business as usual by about 15 per cent, with moderately positive indirect employment effects. The overall impacts on employment of investing in renewable energy will vary by national context and deserve careful analysis at that level.

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9. Increasing investment in renewable energy requires additional incentives to ensure profitability.

Such investments carry particular risks such as those typically associated with the emergence of new technologies as well as the uncertain effective price of carbon that traditional energy sources will have to pay. In addition, there are issues of high upfront capital costs, access to finance, and the partial public-good nature of innovation. Together these hinder the competitiveness of renewable energy technologies, discouraging private investments in their development and deployment.

10. Government policy has an essential role to play in enhancing incentives for investing in renewable energy.

Time-bound incentives, notably feed-in tariffs, direct subsidies, and tax credits can make the risk/revenue profile of renewable energy investments more attractive. The proceeds from carbon or energy taxes or from phasing out fossil fuel subsidies could be used to support such incentives. As far as project financing is concerned, public finance mechanisms, which can range from simple grants to complex conditional funding structures, can be deployed to support R&D, technology transfer, and skill building. These can complement private capital, especially in developing countries, or broaden the market for renewable energy. Governments are increasingly taking action; by early 2010, for example, 85 countries had set national targets for renewable energy, more than half of which are in developing countries.

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Introduction

This chapter makes the case for increasing investment in greening the energy sector with a focus on renewable energy supply. The current highly carbon-intensive energy system depends on declining stocks of fossil fuels, leaves 2.7 billion people without access to modern energy, and is, thus, not sustainable in economic, social, and environmental terms. Furthermore, the current state of the energy sector leaves many countries exposed to large swings in oil import prices and also costs billions in public subsidies.

Greening the energy sector aims at a renewable and sustainable energy system. This process involves improvements in energy efficiency, a much greater supply of energy from renewable sources and reducing greenhouse gas emissions and pollution…

1.1 The energy sector and the position of renewable sources of energy

World primary energy demand is expected to continue growing. The International Energy Agency’s Current Policies scenario, which assumes no change in policies as of mid-2010, projects a growth rate of 1.4 per cent per year up to 2035 (Table 1). The fastest growth is expected in non-OECD countries with a projected rate of 2.2 per cent per year, particularly in China and India and other emerging economies in Asia and the Middle East. Many non-OECD countries are also expected to see large increases in imports of oil or gas or both.

Energy demand is growing against the backdrop of rising and unstable fossil-fuel prices (see Figure 3, which shows the evolution of the changes in the price of crude oil since 1978). Expenditure on oil alone increased from 1 per cent of global GDP in 1998 to around 4 per cent at the peak in 2007, and is projected to remain high in the period to 2030 (IEA 2008b)…

Challenges and opportunities

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2.1 Challenges

The global community and governments are faced with four major challenges with respect to the energy sector: 1) increasing energy demand and concern over energy security; 2) combating climate change; 3) reducing pollution and public-health hazards; and 4) addressing energy poverty. Greening the energy sector, including by substantially increasing investment in renewable energy, is a necessary but not sufficient response to these challenges.

Energy security

Increasing energy demand together with rising energy prices raise concerns about energy security, which covers a range of issues, including the reliability and affordability of national sources of supply. Such concerns are relevant for low-income countries, and also for emerging and developed economies, where a relatively high dependence on a limited range of imported sources can mean higher risks to the security of national energy supply from political and other developments. Risks to national energy security can also carry downwards to impinge on energy security at local levels.

The IEA’s Reference Scenario, the trends of which are depicted in Tables 1 and 2, represent a baseline of how global energy markets would evolve without policy changes (IEA 2009a). In the scenario, oil importing countries (especially developing countries and emerging economies) are expected to become increasingly dependent on OPEC countries for oil. While total non-OPEC output is expected to remain about constant until 2030, production in OPEC countries is projected to increase, especially in the Middle East…

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Climate change

The IPCC’s fourth assessment report (IPCC 2007) underscored the importance of mitigating future human-induced climate change – mostly driven by the combustion of fossil fuels – and adapting to the changes that cannot be reversed. Estimates of the damages of climate change and costs of mitigation and adaptation vary widely. Substantial damages will occur even with a rapid greening of the energy system, but will be much higher if no action is taken. The annual global costs of adapting to climate change have been estimated by the UNFCCC to be at least US$49-US$171 billion by 2030.

About half of these costs will be borne by developing countries. Moreover, climate change is likely to worsen inequality because its impacts are unevenly distributed over space and time and disproportionately affect the poor (IPCC 2007)…

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Opportunities

For governments, there are four major opportunities supporting a strategy of increased investments in renewable energy, as part of greening the energy sector: 1) the existence of clear policy targets in many countries; 2) technological advances that improve competitiveness; 3) a recent strengthening of growth in renewable energy investments; and the 4) the potential of renewable energy projects for creating jobs. Renewable energy providers can build on these opportunities to scale up their investments in the sector, thus complementing policy measures undertaken to improve energy efficiency.

Policy targets for renewable energy

In April 2010, the UN Secretary-General’s Advisory Group on Energy and Climate Change (AGECC) published a report, which calls on the UN and its Member States to commit themselves to two achievable goals: universal access to modern energy services and a global energy intensity reduction of 40 per cent by 2030 (AGECC 2010)…For universal modern energy access to meet basic needs, the report estimates the required capital investment to be US$35-40 billion per year. For improving energy efficiency in low-income countries, the same report estimates the need for an average of US$30-35 billion per year…

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Investing in renewable energy

Both the challenges and opportunities facing the energy sector call for scaling up investment in renewable energy. This section discusses the amount of investment required; the effects of increased investment in renewable energy; the barriers to increasing renewable energy investment; and policy measures to address those barriers.

3.1 Investment required for renewable energy

Forecasts for future investment needs are mostly based on meeting goals for access to electricity, which were discussed in the previous section, or climate-change mitigation. For the 450 ppm scenario, the IEA’s World Energy Outlook 2010 (IEA 2010d) projects that a total additional investment in low-carbon technologies and energy efficiency (not only renewable energy) of US$18 trillion is needed in the period 2010 to 2035.19 Only US$2.2 trillion (or 12 per cent) is incurred in the first 10 of these 25 years, but more than half in the second decade, 2020-2030. The World Energy Outlook 2010 does not specify the proportion or amount of these totals to be devoted only to renewable energy, but analysis in the previous year’s Outlook estimated the needed investments in renewables by 2020 at US$1.7 trillion under the 450 ppm scenario (IEA 2009a).

The World Energy Outlook 2010 also contains estimates of investments under the Current Policies Scenario, with total investments over 2010-2020 in renewable energy for electricity generation amounting to US$2.0 trillion. HSBC (2010) has also published projections based on existing policy scenarios being carried forward, forecasting that renewable power could grow from its current market size of about US$200 billion to US$544 billion by 2020, on the assumption of continuing growth in the EU and China in particular (HSBC 2010). This requires annual capital investments for renewable energy (not only for electricity) rising to at least US$260 billion by 2020…There are a number of other analyses with varying estimates…

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Overcoming barriers: enabling conditions

The preceding analysis has explored some of the effects of increased investments in renewable energy, in terms of energy savings, penetration of renewable energy, increased jobs, and reduced GHG emissions. Current levels of investment in renewable energy are, however, still below what is needed to address the challenges facing the energy sector outlined earlier in the chapter…

The major barriers and policy responses may be grouped under the following headings: 1) risks and incentives associated with renewable energy investments, including fiscal policy instruments; 2) relative costs of renewable energy projects and financing; 3) market failure related to investments in innovation and R&D; 4) electricity infrastructure and regulations; 5) technology transfer and skills; and 6) sustainability criteria.

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4.1 Risks, incentives and fiscal policy

The financial sector treats investments in renewable energy like any other. If a project or company has an expected risk-adjusted rate of return on investment that is sufficiently high, it is considered an interesting investment (Justice and Hamilton 2009). In general, risks in energy projects can be categorised as follows (UNEP SEFI 2009):

■■Technical and project-specific risks, including risks associated with lead times, construction costs, novelty of the technology, fuel and resources, and operations and management. Newer technologies have higher risks than traditional ones. As long as investors are unfamiliar with a technology and there is little in-country expertise, the perceived risk is high. Resource availability may also be an issue for specific technologies like geothermal where determination of good locations is costly and subject to uncertainty. Some resource dependency also occurs with hydro, wind, and biomass- based technologies;

■■Country-specific institutional risks such as stability of the government, reliability of the legal system, transparency of business dealings, currency risks, and general instability due to wars, famine and strikes. For large-scale investments in a specific country, a long-term stable policy regime with a sound legal basis is needed;

■■Political risk and regulatory risk such as unexpected changes in policy or uncertainty about the future direction of policy. Given the long pay-back periods, the contribution of policies to predictability, clarity and long-term stability in the investment climate, are viewed as critical in being able to stimulate more investments; and

■■Business and market risks, including: 1) financial risks relating to the capital structure of the project such as high upfront capital intensity and the project’s ability to generate enough cash flows; 2) economic risks relating to interest rates, exchange rates, inflation, commodity prices, counterparty credit risk; and 3) market risks associated with, for example, future electricity and carbon prices. Most renewable energy technologies (RETs) are less vulnerable to the price and availability of fuel during the operation of a project. Biomass dependent RETs, however, do face market-price risks because a reduction in fossil-fuel prices can make renewable energy less competitive in fuel and power markets…

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To achieve the required returns, incentive mechanisms such as feed-in tariffs need to be guaranteed for 15-20 years. Shorter-term political commitment is similarly important. Owing to the long-lead times for project development, clarity over the development of regulation in support of renewable energy over a 5-year horizon is desirable.

Feed-in tariffs, much like preferential pricing, guarantee payment of a fixed amount per unit of electricity produced or a premium on top of market electricity prices. Feed-in schemes are flexible; for example, tariffs can be based on technology-specific costs, possibly decreasing over time to follow actual cost reductions.

This instrument is popular with project developers for the long-term certainty it provides and, thereby, a considerable reduction of market risk (IEA 2008e).

Feed-in tariffs have been implemented in more than 30 developed countries and in 17 developing countries (REN21 2010). Kenya, for example, introduced a feed-in tariff on electricity from wind, biomass and small hydro power in 2008 and extended the policy in 2010 to include geothermal, biogas, and solar-generated electricity. One projection indicates that this could stimulate about 1,300 MW of electricity generation capacity in the coming years (AFREPREN/FWD 2009).

As with any kind of positive support, the design of feed-in tariffs is crucial for determining their success…

Apart from feed-in tariffs – which are basically financed by cross subsidies among users – direct subsidies for renewable energy can also provide assistance in the early stages of market diffusion…

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Conclusions

The challenges posed to society by the energy sector, in terms of energy security, climate change, pollution and public health hazards, and energy poverty, are real and pressing, making the greening of the energy sector an imperative. And the absolute level of energy demand will grow with increasing population and income. Raising energy efficiency and shifting from fossil fuels to renewable energy are crucial for greening the energy sector.

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There are reasons for optimism in pursuing the greening of the energy sector. Policymakers and businesses are making commitments. National targets for renewable energy are spreading. The recent trend of annual renewable energy investments at the global level is close to the annual average required for achieving a two degree world. Several renewable energy technologies are maturing rapidly and their costs becoming competitive.

Governments can work with market forces to create a level-playing field for the further growth of renewable energy. Phasing out subsidies for fossil fuels and pricing in environmental externalities from fossil-fuel combustion through carbon taxes and other measures can speed up the transformation of the energy sector.

This chapter has shown that increasing investments in greening the energy sector can achieve several results, including savings from energy efficiency, the substitution of fossil fuel energy with renewable energy, job creation, and reduced carbon emissions. Energy security depends on the extent of energy- efficiency improvements and the extent to which fossil fuel is substituted with renewable energy. The latter also contributes to the lessening of pollution and human health impacts. To reduce energy poverty, renewable energy development needs to be tailored to the circumstances in rural areas where the majority of the poor in developing countries live. Mini-grids and off-grids may provide an effective means of delivering electricity to the poor, while reducing GHG emissions.

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Greening the energy sector may achieve a net increase in jobs when investments in both energy efficiency and renewable energy are considered, at the global level. This, however, should not blind us from recognizing that in specific countries, depending on the extent to which fossil-fuel subsidies are phased out and negative externalities addressed, there could be net job losses, at least in the short term. Arguing whether or not greening the energy sector will create more jobs than it replaces at the global level, therefore, may not be most relevant question. The focus should be on specific countries and on practical ways of building capacity and skills to facilitate a transition to a green economy.

A number of roadblocks still remain on the route towards a green energy sector. They include uncertainties and risks associated with new technologies, incentives for private innovation which generate positive social externalities, institutional and human capacity in managing new technologies, vested interests, electricity infrastructure that is “locked in” to supporting conventional energy technologies, and sustainability standards for some controversial forms of renewable energy such as hydro and biofuels. Broadly speaking, governments have two sets of tools to remove these roadblocks: public finance and regulatory measures, including the use of economic instruments. It can be appropriate for governments to subsidise renewable energy development, as long as the subsidies are not giving specific products an unfair competitive edge vis-à-vis other countries. Regulations can also play a role where changing behaviour with price signals is not sufficiently effective, or feasible. Regulations and standards, however, should not be designed and used as disguised trade protectionism. Different countries’ stages of development must be duly taken into account when international regulations and standards are negotiated.