Written evidence submitted by the Energy
Technologies Institute
SUMMARY
1. Over the next 40 years the UK energy system
will require investment of "hundreds of billions" of
pounds to ensure delivery of climate change targets whilst sustaining
security and affordability. Private sector investment in the
UK will be essential at a time when there will be increasing global
opportunities and constrained public and bank finance.
2. The critical area the GIB should seek to address
is to enable the financing of widespread roll-out of major infrastructure
re-development and new build. Much of this currently has considerable
policy related risk and uncertainty attached. The primary requirement
is the provision of debt (and in some situations equity) to enable
these major private sector investments. In turn, the GIB could
attract funding by the issuance of long term bonds ("green
bonds"), a market for which exists primarily driven by major
insurance companies and pension funds.
3. Creating an effective investment environment
will require HMG to establish clear and consistent policy and
regulatory frameworks to obviate perceived political and regulatory
risk which is currently seen to be high. Critically:
(a) The Government must offer to industry, business
and consumers, a coherent and consistent strategy, policy and
regulatory framework for low carbon energy system development,
deployment and service support.
(b) Following initial development of policy and
strategy, a settled long term regulatory and incentive structure
is required to promote ongoing investment by investors, debt providers,
manufacturers and project developers. These groups are all essential
to strategy implementation.
(c) A UK energy strategy must integrate future
power, heat and transport needs together with the associated infrastructure
issues and must address the necessity for private sector groups
to mitigate potential risks (financial, policy, market and technical)
ahead of investment.
4. In the light of its long-term investment plans,
the GIB should be able to advise HMG on perceived risks for major
investors including engineering and technology related issues.
5. Sharing new technology development risk is
already handled effectively through groups such as the ETI which
leverages public sector support with private sector funding, knowledge,
skills and capabilities. This is acknowledged as a unique operation
and provides an independent platform for the provision of underpinning
strategic, technological and analytical capabilities. This is
already made available to HMG in support of UK energy strategy,
policy development and implementation.
CONTEXT
1. The renewal of the UK energy system as part
of a future low carbon economy is a major challenge. Achieving
the 2020 and 2050 goals for reducing greenhouse gas emissions
whilst sustaining energy security and affordability will require
investment not just in low carbon power generation plant, but
also in transmission and distribution infrastructure (including
better heat distribution), in measures and technologies to reduce
demand (critically involving retrofit of the UK housing stock
with improved insulation, improved efficiency appliances and energy
management systems) and in lower carbon transport systems fuelled
by biofuels, electricity and potentially hydrogen in addition
to fossil derived fuels.
2. Delivering the 2020 and 2050 energy targets
at affordable investment levels will require this energy system
to be more optimised than today with greater integration across
power, heat and transport systems. This integration, the associated
technical complexity and the challenges of engaging consumers
effectively to reduce energy demand will bring new challenges
in systems interdependency. The associated risks - both in deployment
and in operation - will require new financial, policy and technical
tools for effective management and to ensure effective industrial
and private sector engagement. The proposed Green Investment
Bank could form a critical part of this toolkit.
3. The ETI is already part of this toolkit making
targeted commercial investments rather than grant awards. It
is a formally constituted Limited Liability Partnership of major
global companies and the UK Government. Each industrial partner
is committed to contribute £5 million per year into the ETI
with matching support from HMG. To ensure effective deployment
of this fund for all investors the ETI fully leverages and mobilises
the strategic, technological and implementation capabilities of
its industrial partners who frequently bid to lead, manage or
participate in its chosen projects.
4. The ETI identifies key engineering and technology
barriers associated with achieving the 2020 and 2050 goals and
then establishes projects to demonstrate potential solutions to
these challenges. This approach forms a key part of demonstrating
the industrial capabilities needed to meet the UK's future needs,
incentivising industry by informing them of the potential business
opportunities and creating the embryonic supply-chain and skills
to deliver solutions for the UK.
5. By delivering the focused and integrated capabilities
of these companies and their supply-chains together with creating
access to engineering and technology capabilities from Universities,
SME's and large corporates from across the UK and around the world,
the ETI can potentially be a great asset and contributor to the
successful development and operation of a GIB.
MARKET FAILURES
NECESSITATING FORMATION
OF A
GIB
6. There are two critical market failures:
(a) There is a lack of a coherent and consistent
strategy and policy framework for UK low carbon energy system
development, deployment and service support. This deters major
companies from investing in the UK as a priority.
(b) There are presently limited effective means
for the provision of long-term credit for major private sector
companies to invest in large long-term infrastructural projects.
7. Creating an effective investment structure
will require HMG to establish clear strategy and regulatory frameworks
to obviate potential political and regulatory risk which is currently
seen to be high.
8. In addition, following initial development
of policy and strategy, a settled long term regulatory and incentive
structure is required to promote ongoing investment by financiers,
manufacturers and project developers. These groups are all essential
to strategy implementation.
9. It is critical that the Government can offer
to industry, business, and to consumers, a coherent and consistent
strategy, policy and regulatory framework for low carbon energy
system development, deployment and service support. This must
integrate future power, heat and transport needs together with
the associated infrastructure issues and must address the need
of the private sector groups to reduce potential risks (financial,
policy, market and technical).
10. Government has a critical role to play in
both establishing and deploying this strategy. The many arms
of government involved in the low carbon energy area (DECC, BIS,
DEFRA, DfT etc.) has led to a range of policy and funding initiatives
and has possibly led to a lack of clarity, loss of industry confidence
and ineffective activity. There is a critical need for a consistent,
considered policy framework and the availability of appropriate
funding to support associated private sector investment and implementation.
11. The ETI supports strong coordination and
management of policy and funding to direct and support the advance
into the low carbon economy. The ETI operates in the areas of
technology development and demonstration and, together with the
Technology Strategy Board and the Carbon Trust, was instrumental
in forming the Low Carbon Innovation Group in 2008 to aid coordination
of public sector funds in these areas. This group has recently
expanded to include Research Council and Central Government groups
and could work valuably with the GIB to ensure the perceived risks
of long-term investors are addressed effectively.
12. Major industrial suppliers and sources of
finance will be presented with a range of global opportunities
as more countries seek to implement low carbon energy systems
and approaches such as carbon capture and storage and new nuclear
build. Both industrial investors and sources of finance will
seek those markets that offer the most assured returns for their
investors and stakeholders. Consequently it is important that
the UK proceeds quickly in establishing and communicating a coherent
and consistent strategy for low carbon energy system development,
deployment, service support and how this could be financed.
OBJECTIVES OF
THE GIB
13. In establishing the objectives of the GIB
four considerations appear to be key precursors:
(a) Understanding the nature of relevant risks
- in strategy, policy and regulation, markets and execution.
(b) Developing or engaging effectively world
class capabilities in technical strategy and analysis, market
and financial analysis and legal and financial execution.
(c) Establishing funding for the Bank and the
establishment of products and associated methods and processes.
(d) Identifying the boundaries and key interfaces
of the space it should operate in.
Combined together, (a) and (b) - understanding relevant
risks and then having a team which can establish a strategy which
addresses these risks - represent the most significant and immediate
challenge. With this in place it is possible to address (c) and
(d) effectively and to then create a clear proposal on the operation
of a GIB. It is important that these four areas are all fully
addressed if a coherent and viable proposal is to be developed
over coming months.
14. The critical area the GIB should seek to
address is equity and credit provision to enable financing of
the widespread roll-out of major infrastructure re-development
and new build. In the broad context of the development of a future
UK energy system this is the largest investment challenge. This
includes power stations, electricity and gas transmission and
distribution infrastructure, smart meters, building efficiency
retrofits and potential new infrastructure such as CO2
pipelines, hydrogen plant, new gas and heat stores and major offshore
wind and marine energy deployments. Total investment cost is
generally agreed to be "hundreds of billions of pounds",
much of which currently has considerable policy related risk and
uncertainty attached.
15. The Government must offer to industry, business
and consumers, a coherent and consistent strategy, policy and
regulatory framework for low carbon energy system development,
deployment and service support. This is essential to reduce strategic
and policy risk on the enormous investments required for the UK
to a level acceptable to attract major investors.
16. Following initial development of policy and
strategy, a settled long term regulatory and incentive structure
is required to promote ongoing investment. The GIB should address
the provision of financing facilities (eg equity and debt) and
can advise HMG on policy (eg planning, tariffs) and risk management
for private sector investors. Other investment risks will be
more familiar to potential investors.
INVESTMENT PRIORITIES
FOR THE
GIB
17. The effective articulation of UK energy policy
and the associated strategy for meeting the 2020 and 2050 objectives
is probably the most critical immediate issue for HMG and one
where there is currently no agreed consensus. For example, there
is general, widespread agreement across government, industry and
advisory groups that the future energy system should include new
nuclear build, effective deployment of Carbon Capture and Storage
(CCS) and implementation of energy efficiency approaches in buildings
together with "smart" networks and distribution systems.
However, there is less agreement on the eventual scale of new
nuclear build and there is no proven technology at scale for CCS.
There is less agreement about the extremely large commitments
required for offshore wind (especially the overall economics and
affordability including storage and back-up systems), the viability
of significant marine energy deployment and the widespread take-up
of all electric cars (as opposed to hybrids).
18. It is critical in developing UK strategy
and in ensuring widespread engagement and support that there is
a robust underpinning knowledge base and that this is used and
articulated effectively. This is an area that the ETI has addressed
effectively in developing its public-private partnership investment
strategy in the areas of engineering and technology development
and demonstration. This knowledge base has been collected into
the partnership's "Energy System Modelling Environment",
a strategic modelling approach to options for the UK 2050 energy
system which is operated as a complement to an in-house team of
technical specialists. This, coupled with the strong industrial
engagement of the ETI could provide material support to HMG in
its development of policy and the GIB in its funding decisions.
19. The ETI's UK energy systems modelling environment
has recently been assessed alongside other tools available to
HMG and shown to provide a unique viewpoint and associated value
for presenting system level choices, uncertainties and eventual
economics, together with analysis of the required supply chains.
FUNDING AND
GOVERNANCE STRUCTURES
20. To enable effective formation of investment
priorities and governance systems the Bank will need to have access
to world class capabilities in analysing and understanding relevant
risks - strategic, technological, political, regulatory and the
more usual market and execution issues. This will ensure the
benefits of agglomeration and, diversification of risk to provide
the appropriate products with the attendant terms for credit or
co-investment (equity). The ETI is in a position to provide robust
and independent advice or supply some of the associated strategic
and technological analytical capability as an existing partnership
of government with major global energy and supply chain companies
with deep knowledge of the technological, investment and strategic
issues involved.
21. Ensuring access to appropriately robust and
independent knowledge is likely to be a key governance challenge
for an independent GIB. Ensuring a balance of views is taken
and ensuring these have been adequately challenged will require
strong internal management and effective working relationships
with key partners. We would expect the ETI to be able to offer
a strong support function to the GIB.
22. There are many issues in creating an effective
investment fund however one of the most critical is that in order
to secure significant or substantial funds (eg In the form of
bonds) from institutions such as annuity or pension funds, it
will be essential to have an investment grade rating - probably
no lower than a "single A". This rating may also be
sufficient to attract funds from overseas investors and, thus,
not oversupply the UK corporate bond market (it could also divert
UK funds back to the UK). These institutions place emphasis on
long dated bonds of an infrastructural nature with secure income
streams. To secure this rating, it will be necessary to have
one of the following characteristics:
(a) A hypothecated income stream to the Bank,
eg taxpayer sourced, carbon tax, consumption tax, etc.
(b) Implicit or explicit government backing for
the equity component or equivalent.
(c) Thick equity slice.
Clearly, model (a) has great attractions in the present
environment and it should be possible to identify the nature and
scale of this flow and its sourcing.
23. Whilst retail investment (eg ISAs) in the
debt or equity could be envisaged in the longer term, delaying
introduction of this until such time as the Bank is established
and proven would be prudent.
15 October 2010
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