Replacing fossil fuel energy sources and building new clean energy systems on a large scale requires system-level innovation, including new technologies for energy efficiency and demand-side management. We need not only renewable energy capacity, but also ways to manage the intermittency of wind and solar PV generation, including energy storage and “smart grid” infrastructure. The sustainable energy infrastructure required will vary by country and shift over time, but overall, transformative investments are needed in off-grid, distributed clean energy systems; storage, transmission and distribution systems for on-grid renewable energy; and information technologies that support efficiency and flexibility in system management.

Investment in energy efficiency is also essential. Energy efficiency is a clean energy solution that is often neglected, yet it is a highly cost-effective way to manage demand and reduce the investment requirements for overall energy supply (see Box 17). In developed countries, energy efficiency is already the biggest source of “new” energy supply.⁷ Increasing energy efficiency in industry, buildings and transport could achieve up to half of the emission reductions needed globally to peak greenhouse gas emissions by 2020 according to the IEA.⁸ And it is leading to savings: energy efficiency investments in IEA member countries since 1990 have avoided US$5.7 trillion of energy expenditure, and the IEA esimates further investments could boost global GDP by US$18 trillion by 2035, increasing growth by as much as 1.1% per year.⁹ Developing countries also have a lot to gain by managing energy demand. For example, India’s 2030 energy demand would be 40% higher in a low-efficiency scenario than in one with very high energy efficiency; the difference is equivalent to India’s entire current usage. Notably, energy efficiency measures are estimated to create up to three times as many jobs as fossil fuel supply investments per dollar of investment.¹⁰

Shifting to a sustainable energy system can create a virtuous cycle of low-carbon, climate-resilient growth across a broad range of sectors.¹¹ The first step is to adopt policies to shift investments away from fossil fuels and high-carbon technologies and towards clean energy and energy efficiency. This, in turn, reduces the costs associated with fossil fuels. For example, in the US, coal transportation accounted for 38.8% of total freight tonnage in 2014.¹² Implementation of low-carbon growth policies, in the US and globally, would reduce the need for coal transportation, and promote a shift of higher-value freight from road to rail. The reduced need to extract, process and distribute fossil fuels – and to build and maintain related infrastructure – would also yield significant savings that can be invested in supporting low-carbon growth.

A key recommendation of the Global Commission’s 2015 report was to scale up commitments by development banks working with governments and the private sector to invest at least US$1 trillion per year by 2030 in clean energy, including energy efficiency.¹³ Ensuring access to modern energy services is also critical for developing countries, yet recent analysis suggests that development finance is not yet targeting key outcomes such as decentralized energy access.¹⁴ Three energy-related goals – on renewable energy, energy efficiency and clean energy access – are embodied in SDG 7 (“ensure access to affordable, reliable, sustainable and modern energy for all”) and championed in the UN Secretary-General’s Sustainable Energy For All initiative (SE4All).¹⁵ Energy infrastructure investment needs to reflect these three priorities, tailored to local circumstances. 

There is enough capital in the world to meet sustainable energy infrastructure requirements. The challenge is to ensure that the right conditions – including well-functioning energy markets – are in place to attract it, both domestically and internationally.¹⁶ In this section we focus on three core action areas: fundamental price distortions, the lack of investment frameworks, capacities and policies for incentivising sustainable infrastructure, and the need for investment in clean technology and deployment to reduce upfront investment costs.

Fundamental price distortions are holding back the transformation of energy markets worldwide. Removing these distortions would level the playing field and remove many barriers to investment in clean energy infrastructure and in continued innovation. It would also incentivise greater energy efficiency and promote sustainability in energy systems.

Fossil fuel subsidy reform

Fossil fuel subsidies amounted to approximately US$550 billion in 2014. This includes the under-pricing of fuels in many emerging and developing economies amounting to around US$493 billion³⁴ and other forms of support for the exploration, production and consumption of fossil fuels in OECD countries and key emerging economies amounting to more than US$60 billion.³⁵ These amounts represent a reduction from previous years, partly reflecting recent progress in subsidy reform made by a number of countries and partly due to continuing low oil prices.

When uncompensated environmental damage associated with energy consumption is included (e.g. from air pollution, traffic congestion and climate change), as the IMF does, the estimates increase to about US$4.9 trillion in 2013, or 6.5% of global GDP.³⁶

In the last three years, 28 countries have launched or stepped up their efforts to reform fossil fuel subsidies. Reform efforts have gained momentum through international forums such as the G7 and the G20 as well as through Asia-Pacific Economic Cooperation (APEC), with support from leading international organisations such as the OECD, the World Bank, the IEA, the IMF and the Organization of the Petroleum Exporting Countries (OPEC). G7 and G20 members have made commitments to rationalise and phase out “inefficient” fossil fuel subsidies over the medium term. In May 2016, the G7 countries and the EU reiterated their commitment and for the first time set a deadline, encouraging all countries to phase out these subsidies by 2025.³⁷ North American leaders also committed to a phase-out by 2025 when they met in June 2016. The Commission calls on the G20 to also adopt a clear deadline for the phase-out of fossil fuel subsidies.

Many countries have started to voluntarily report subsidies they deem inefficient.³⁸ Some G20 members have agreed to undertake reciprocal peer reviews of their subsidies and progress on reform. China and the US volunteered to go first, and the reports were delivered to the September 2016 G20 Summit. The next rounds will involve Germany, Mexico and Indonesia.³⁹ A similar peer review process has commenced in APEC, starting with Peru in 2014, and continuing with New Zealand in 2015 and the Philippines in 2016. Low oil prices have provided an important opportunity for oil-importing countries to reform consumer subsidies without raising prices for consumers. Indonesia and India, for instance, have taken advantage of low oil prices to accelerate their reforms.

Subsidies to energy and fuel often particularly benefit middle- and high-income households – an IMF review of fossil fuel subsidies in developing countries, for example, found that on average only 3% of gasoline and 7% of diesel fuel subsidies reach the poorest 20% of households,⁴⁰and the richest 20% of households capture, on average, more than six times more in fuel subsidies than the poorest 20%.⁴¹ As such, reforms can be progressive and the savings can be channelled into investments that more directly benefit the poorest and most vulnerable in society, for example through better targeted income support and social safety nets and through investments in pro-poor infrastructure such as off-grid renewable energy solutions and energy efficiency.

Export credit agencies also provide support to fossil fuel production. Between 2009 and 2013, OECD countries’ export credit agencies provided US$9.1 billion to support coal power – 95% of it from just five countries: South Korea, Germany, France, the US and Japan.⁴² Reform of these arrangements offers another pathway for countries to demonstrate their commitment to phasing out fossil fuel subsidies, for example by restricting preferential terms for new coal power stations, with a timetable for phasing them out entirely, adjusted to different countries’ circumstances.⁴³

Participants in the OECD’s Arrangement on Officially Supported Export Credits recently finalised new rules that move in that direction, with restrictions on official export credits to less-efficient plants. The rules take effect on 1 January 2017 and will remove support for large sub-critical and super-critical coal power plants, but still allow support for smaller sub-critical plants in poorer developing countries and for mid-sized super-critical plants in countries facing energy poverty challenges. Non-government export credit providers are also encouraged to follow the rules, which are subject to review starting in 2019.⁴⁴

Subsidies to fossil fuels and power generation can take other forms as well. For example, the EU has capacity mechanisms in use to balance supply in the grid given the rising share of power from variable renewables. But capacity mechanisms do not discriminate between dirty and clean sources and may subsidise continued use of fossil fuels. For example, in the UK, such mechanisms transferred roughly US$1 billion over 2014 and 2015 to diesel- and coal-fired power producers.⁴⁵

Pricing carbon

For the market to reflect the full costs of GHG emissions from burning of fossil fuels, countries should introduce meaningful and rising carbon prices in tandem with subsidy reform.⁵⁷ As noted in Section 2, around 40 countries and 20 cities, states and regions, have implemented or scheduled an explicit price on carbon, covering an estimated 7 Gt CO₂e, or about 13% of annual global greenhouse gas emissions.⁵⁸ This is triple the coverage of a decade ago.

Momentum continues to build. China plans to implement the world’s largest emissions trading scheme next year, expanding its current 7 pilot trading systems to the national level. The French government has indicated it will seek to legislate a carbon price floor of €30 (US$33) per tonne of CO₂;⁵⁹ it has also adopted a carbon tax on transport, heating and other fossil fuels.⁶⁰ In July 2016, Canadian Environment Minister Catherine McKenna called for a national carbon price by the year’s end.⁶¹ This came on the heels of the approval of a cap-and-trade system in Ontario in May 2016, with the first auction to be held in March 2017 and a plan to link to Quebec and California’s joint carbon market in late 2017 or 2018.⁶²

However, carbon prices are generally too low: less than US$10 per tonne CO₂e for about three quarters of covered emissions.⁶³ This is not enough to bring about transformative change. Still, the Paris Agreement has shifted expectations. A recent survey of members of the International Emissions Trading Association (IETA) found that 82% of respondents expect carbon markets to grow because of the Agreement.⁶⁴ They also suggested that achieving the Paris goals would require a carbon price of US$45.

Through the Carbon Pricing Leadership Coalition (CPLC), meanwhile, governments, industry leaders and international organisations are working together to increase knowledge on how to design and implement successful carbon pricing systems.⁶⁵ As part of this effort, the World Bank, the OECD and the IMF have developed a set of principles for successful carbon pricing, based on lessons from carbon pricing experiences around the world. The CPLC is supported by a Carbon Pricing Panel, made up of sitting leaders of countries that have already taken action on carbon pricing and are personally advocating for other leaders to follow.⁶⁶ Given the critical importance of doing away with perverse subsidies and pricing carbon properly, the Global Commission welcomes the emerging coalitions of governments, investors and businesses – including through the CPLC and the G20 – that have the potential to accelerate action globally on fossil fuel subsidy reform and carbon pricing, including by highlighting evidence of good practice and building multi-stakeholder partnerships for reform.

Beyond carbon taxes and emissions trading, another way that countries are pricing carbon is through fuel taxes more broadly, in particular transport taxes, which are generally already widely accepted.⁶⁷ For example, Vietnam adjusted taxes, including on transport fuels, to better reflect carbon content, and thereby boosted investment and domestic demand for goods and services.⁶⁸ Transport fuel taxes, however, may reflect a range of externalities beyond climate change, including congestion, road damage and local air pollution. A tax that reflects all of this will be higher per unit of fuel than if only taxing carbon content. However, current transport and energy taxes generally do not reflect the full social costs of the use of these fuels. Recent analysis shows that OECD countries inconsistently tax different forms, uses and users of energy relative to environmental and other social costs.⁶⁹ Of particular note is that there is often a very low or zero tax rate on coal, despite its greater contribution than other fuels to GHG emissions and air pollution per unit of energy. In all but the US, the tax on diesel in OECD countries is lower than the tax on petrol, despite diesel’s much higher air pollution impacts (see also Box 24 in Section 5). Adjusting fuel taxes is a low-cost opportunity for reforms to ensure, where possible, that tax rates reflect the external costs associated with different forms of energy and energy use.

Other policies, such as fuel standards or feed-in tariffs, may be warranted if they tackle specific market failures or political or behavioural barriers that explicit carbon prices do not. These create an implicit price on carbon associated with compliance by industry and consumers. Enforcement measures are an essential part of the policy framework to ensure the implicit price is felt. Every climate policy that regulates carbon can be expressed as a marginal cost per tonne of emissions reduced, which is equivalent to a carbon price. In many countries, the implicit carbon price associated with policy instruments is much higher than explicit carbon prices.⁷⁰

This includes planning, public investment management and policies to improve the enabling environment for private investment in sustainable energy infrastructure.

National strategies for sustainable energy infrastructure − policies, planning and public investment management

Countries need to articulate a clear and comprehensive national strategy for sustainable energy and related infrastructure, and embed it in an overall policy strategy for sustainable and inclusive growth and development. Such planning is particularly important in developing countries, where national development plans are used to guide development cooperation and the allocation of official development assistance (ODA).

A key part of this is aligning national investment and climate policies, and enhancing the coherence and predictability of policies that affect broader investment frameworks. Ideally, a single integrated strategy for low-carbon, sustainable development should map to sector plans, national and subnational planning to guide investment. Importantly, this also helps prepare a project pipeline and incentivise private investment in clean energy infrastructure.

The development of dedicated energy transition plans can dramatically accelerate the shift to a clean energy mix, in a way that delivers clean and resilient energy access. The Global Commission calls on all countries to develop transition plans to accelerate a scale-up of clean and resilient energy solutions and a phase-out of coal, in a way that delivers on energy access goals and facilitates a “just transition” for workers. The Global Commission welcomes the establishment of a Just Transition Centre that is initiated by the International Trade Union Confederation (ITUC) with emerging partnerships with business and civil society, focused on dialogue between governments, employers, workers and civil society around how to ensure a “just transition” towards including at national and sectoral levels.

A comprehensive domestic investment policy framework needs to cover the full range of policy fields that are critical for creating an enabling environment for clean energy investment, including investment promotion and facilitation, trade, competition and tax policy; corporate governance, policies for enabling responsible business conduct and public governance; and issues relevant to finance and financial markets policy.⁷¹ Ensuring that such a framework leads to green investment requires specific policies and measures. In particular, environmental considerations must be appropriately integrated into investment decisions, for instance by agreeing on and applying a standard for assessing the life-cycle emissions and climate vulnerability of energy infrastructure investments to ensure they align with long-term climate goals. The culture and incentives for financiers has started to change but will need to go further to prioritise and value more sustainable long-term investments over a narrow focus on short-term gains.

The OECD has proposed a non-prescriptive checklist for clean energy investment policy frameworks, with the aim to strengthen investor protection and transparency, avoid discrimination, ensure stable and predictable incentives and avoid policy uncertainty, strengthen competition policy and electricity market design, and enhance public governance of energy systems.⁷² Policy reforms will also be required to create incentives for new business models to emerge, for example for integration of centralised and decentralised energy, wireless platforms for customer services and payments, and connecting utilities functions with small and medium size enterprises to provide energy services including energy efficiency.

Several countries are already reforming their domestic investment policies to support low-carbon and climate-resilient investments. For example, Colombia is working to mainstream climate action across its national development plan and, amongst other proactive measures, has established a focused programme on public-private collaboration, with priority attention to investment in infrastructure and achieving environmental sustainability. It has also put a range of fiscal incentives in place for investment in low-carbon technologies.⁷³ Jordan is aggressively pursuing policy reforms to scale up clean energy investment, including in energy efficiency.⁷⁴ In the new 2015 Arab Future Energy Index, Jordan ranked second for renewable energy trends and third for energy efficiency.⁷⁵ 

However, capacities in the public sector in developing countries for sustainable energy investment planning and undertaking necessary policy reforms are often weak and urgently need to be strengthened. Even where capacity is higher, little attention may be paid to sustainability. Appropriate technical, legal and financial skills, both inside and outside government, are frequently lacking. When these skills are present, within the government or through consultants, projects are likelier to be prepared and reach financial close and implementation without costly delays.⁷⁶

Building such institutional capacity and setting in motion relevant policy reform processes has a cost, takes time and cannot succeed without high level commitment and leadership from the government. It likely entails staff training, data collection and analysis, changing legislation and regulations, and capacity for enforcement. In developing countries, external support can play a pivotal role to help deliver enabling policy reforms and to strengthen capacity to finance sustainable infrastructure. For example, ODA, particularly where it can be programmed in across multiple years to ensure continuity, can help to fill the financing gap in this area for poorer developing countries.

Meeting large sustainable energy infrastructure needs will require determined efforts to tap any available scope for additional domestic resource mobilisation through tax and expenditure policies. It will also require better use of government balance sheets. Given the significant potential for private investment in the clean energy space, a key focus of public-sector investment should be to catalyse private finance – and to fill gaps where the private sector is unlikely to step in.

There are several ways to mobilise public resources for clean energy and other purposes, including by removing excessive and regressive tax exemptions, taxing GHG emissions and other externalities, removing fossil fuel subsidies, and adjusting fuel taxes. For example, revenue from the Indian government’s Clean Environment Cess, effectively a tax on coal of about US$6 per tonne (INR 400), raised about US$1.9 billion (INR 13,000 crores) for the National Clean Energy Fund by 2015, financing research and innovation.⁷⁷ Similarly, the strain of large fossil fuel subsidies on the Nigerian budget prompted the Nigerian government to make efforts to reform electricity subsidies in 2008 (through a 15-year plan to achieve cost-reflective tariffs), followed by petrol in late 2011, thus generating a double win by aligning incentives for a low-carbon economy and creating more fiscal space for public spending.⁷⁸

Tax revenues relative to GDP are much lower in emerging and developing economies than in advanced economies, so there may be considerable scope for greater revenue mobilisation through tax reform and tighter tax administration. Improved taxation has many benefits, including establishing a revenue base for further investment and strengthening the public balance sheet.

As part of public investment management, it is in governments’ self-interest to improve procurement principles and practices, and devise means to integrate sustainability parameters, particularly at the sector level in the case of energy (see Box 20 for examples).

Strengthening local finance institutions

There is an increasing recognition of the role that local financial institutions (LFIs) play in promoting private investment in sustainable infrastructure, including energy efficiency. These can be commercial or public entities; for the latter, a key role is to catalyse engagement with commercial banks.

LFIs have unique competitive advantages for driving the uptake of sustainable investment solutions, including in-depth knowledge of local markets, a good understanding of customers’ demands, tailored product offerings for local requirements and an ability to provide financing in local currency. However, several barriers to the deployment of green finance through LFIs hold back their potential to drive investment, in particular perceived or actual high risks of sustainable low-carbon projects, low risk appetite by banks and low availability of long-term finance.⁸¹

These barriers can be addressed by building internal knowledge, awareness and capacity within local banks; fostering changes in their internal culture; sharing knowledge among LFIs; and appropriately accounting for, documenting and pricing the benefits of green investments. Governments can implement policy and regulatory reforms to support this shift. MDBs can play a role in finding solutions at the regional level, by connecting LFIs with green finance resources, providing technical assistance, raising awareness and fostering collaboration.

One area in which LFIs play an increasingly active role is in financing energy efficiency investments in their own countries. They are typically active in sectors where market failures are well known and have substantially limited private sector investment. Two examples in Europe are:⁸²

• Germany’s KfW “Energy Efficient Construction and Refurbishment” programme provides concessional loans and grants for energy-efficient construction and refurbishment activities in the German residential sector. To qualify, projects must achieve greater efficiency than is required by the German Energy Savings Ordinance. In 2013, KfW invested €4.1 billion (US$4.5 billion) in residential retrofits. Between 2006 and 2013, it has provided more than €50 billion (US$55 billion) in loans and grants covering 3 million housing units.
• The European Energy Efficiency Fund (EEEF) is an innovative public-private partnership, which acts as a risk-sharing facility, working with financial institutions to provide market-based finance to local authorities and energy service companies for commercially viable energy efficiency, renewable energy and clean urban transport projects related to public-sector activities across the EU. It contributes with a layered risk-return structure to enhance energy efficiency and foster renewable energy in the form of a PPP, primarily through the provision of dedicated financing via direct finance and/or partnering with financial institutions. Deutsche Bank acts as the fund’s investment manager, sourcing, evaluating and preparing proposals, but final decisions about investments are made by the fund’s governing bodies. By the end of 2015, ten projects have received financing of almost €117 million for projects worth a total of almost €220 million. These have generated CO₂e savings of 181 Mt and primary energy savings of 20 GWh.⁸³

Catalytic use of domestic and international public development finance

Domestic and international public finance can be catalytic in attracting private finance at the scale required. Deployed at the right time, at the early stages of infrastructure projects, public investment can drive the global clean energy revolution. National or subnational planning, with clearly established priorities, can be effective in guiding such investments.

As discussed in Section 2, national development banks (NDBs) are increasingly active and have the potential to grow their activities in sustainable energy infrastructure by creating or expanding green banking “windows”. Green investment banks, essentially NDBs with a green mandate, are also increasingly being established, in particular where countries do not have an NDB (see Section 3). The creation of a green banking window or a green investment bank can signal to domestic and international markets that a country or region is seeking to become a leader in scaling up private low-carbon investments.⁸⁴

In Mexico, for example, Nacional Financiera (NAFIN) is a key local partner in the implementation of the government’s low-carbon development strategy and in accelerating private investments in low-carbon technologies. The Renewable Energy Financing Facility (REFF) was established within NAFIN to fill the financing gap for sustainable infrastructure by providing direct loans to renewable energy project developers, with maturities in the 10- to 15-year range and fixed interest rates. The fund also offers contingent credit lines to cover transitory cash-flow shortages during the project life cycle, up to the volume needed to service senior debt.⁸⁵

Recent analyses confirm the need for energy-sector investments on the scale of about US$1 trillion per year, as previously recommended by the Global Commission.⁸⁶ For energy efficiency alone, if development banks, bilateral aid organisations, and climate finance organisations dedicated US$10–15 billion a year to finance sustainability premiums for energy efficiency, this could leverage private capital that could increase the value of energy-efficient infrastructure by up to US$176 billion a year.⁸⁷ Over 15 years, that means there would be US$2.6 trillion in sustainable energy-efficient projects that would have not otherwise have been built sustainably.⁸⁸

One example of a successful partnership to promote energy efficiency is Commercialising Energy Efficiency Finance (CEEF), a risk-sharing programme of the International Finance Corporation (IFC) and the Global Environment Facility (GEF) that provided guarantees to investments in Eastern Europe.⁸⁹ Another is the China Utility-Based Energy Efficiency Program (CHUEE), which has provided US$512 million in loans to 78 companies without a default loss and is now scaling up by partnering directly with medium-sized financial institutions in China.⁹⁰ A third is the European Bank for Reconstruction and Development (EBRD) Sustainable Energy Initiative, a strong example of the role DFIs can play in promoting energy efficiency and renewables (see Box 21).⁹¹

Another potential source of innovative or catalytic climate finance is the Green Climate Fund’s (GCF) private-sector facility. Although it has not yet disbursed any funding, it has approved eight innovative projects spanning adaptation and mitigation and engaging with a variety of partners from both the public and the private sector, and more projects are expected to be approved in the coming year.⁹² One example, already approved for funding, is the KawiSafi Venture Fund for East Africa, an initiative of Acumen, a non-profit impact investment organization.⁹³ The fund will work with clean energy companies to deliver climate change mitigation, adaptation and local development benefits, starting in Rwanda and Kenya. Acumen will directly invest US$5–7 million and hopes to use seed funding from the GCF to catalyse investment to grow the fund to US$100 million.

Emerging role for philanthropic and impact investors particularly in off-grid solutions

Philanthropic and impact investors help bridge the gap between patient capital and venture capital, and can be transformative in scaling up sustainable energy investments, especially in low-income countries. This is where equity impact investments play a key role, especially with off-grid technologies. Not only are impact investors usually more patient with capital, but equity investments do not require collateral.

For example, several impact investors have funded Fenix International, a venture-backed California company focused on expanding energy access in developing countries through renewable technologies. The company’s ReadyPay Power enables customers to purchase the system in micro-installments that fit their income, using their mobile phones to pay as little as US$0.25 per day. ReadyPay helps low-income people overcome financial barriers to access to clean energy, and enables them to power lights, phones, radios and appliances. The programme recently won the Development Assistance Committee Prize for Taking Development Innovation to Scale after providing paid power to more than 22,000 households in Uganda, benefitting over 136,000 people.⁹⁵

In rural Kenya, Vulcan Impact Investing owns 10 solar-powered micro-grids that serve 21,000 people, operated in partnership with SteamaCo.⁹⁶ Not only does this replace energy from harmful sources such as kerosene and diesel, but it also provides a sustainable energy source to drive economic activity. Several off-grid companies that started with impact investing have attracted larger-scale commercial investment, such as M-KOPA in Kenya and Mobisol in Tanzania. Through M-KOPA, nearly 400,000 customers in Western Africa have made a small deposit for a home solar system, then paid the rest of the balance back through a widely used mobile banking service based on the amount of energy they use.⁹⁷ Mobisol, a Berlin-based company offering customers in low-income countries solar home systems via affordable installments made from mobile phones, has installed 50,000 solar home systems to date in households and businesses in East Africa, which have allowed its 250,000 beneficiaries to access clean, affordable energy.⁹⁸ These examples confirm the role of philanthropic and impact investors as those who can help catalyse investment, not just in off-grid renewables, but in new sustainable technologies more generally.

In India, where access to debt capital is generally low, off-grid companies face prohibitively high interest rates of 13–18% in the domestic market. Local banks are usually unwilling to lend to them, as the loans are too small, and international debt is also out of reach due to regulatory requirements. Therefore, most investments in off-grid energy – ranging from US$100,000 to US$5 million – have been from equity impact investors and development banks.⁹⁹ Examples include Firstlight Ventures investment in Promethean Power Systems, Anthro Power and Excellent Renewable, and Ennovent’s investment in Barefoot Power. However, impact investors can find it difficult to access the Indian market, especially as they may have a hard time approval from the Reserve Bank of India to lend in the Indian market. 

Tailored instruments to attract private investment: project preparation and construction

Private finance is best suited to the operational phase of sustainable infrastructure investment, but there are good opportunities to bring in private finance during project preparation and construction as well. Tailored instruments that manage the challenges of this phase, especially those related to risk-return profiles, are critical. Options include turnkey contracts, construction guarantees, targeted credit enhancements, availability payments, mezzanine financing to first-loss protection, partial risk guarantees against policy risk and exemptions from reserve requirements.

Public finance can also be used to blend concessional and non-concessional finance from public and private sources for project preparation or construction. Blended finance is the strategic use of official development finance to mobilise additional public or private finance. This may be needed to finance the upfront premium for sustainable infrastructure projects and to draw in private finance and investors.

DFIs can play a pivotal role here in pioneering and scaling up use of blended finance creating viable and replicable financing models. In addition to use of official finance for guarantees or insurance, syndicated loans or project bonds also provide a means for co-investing across public entities, such as local banks, NDBs or MDBs, and can also attract private investors to the early project stages.

DFIs – multilateral, bilateral and national – can come in at the early stage to help with project preparation and construction and draw down the costs for the private sector. A few examples of such strategies include:

• The Central Bank of Lebanon (BDL) reduces the cost of financing investments in specific economic sectors by exempting banks from part of the required reserve requirement. BDL is working with the Ministry of Power, the United Nations Development Programme (UNDP), the EU, and the Lebanese Center for Energy Conservation (LCEC) to provide low-cost finance and medium- to long-term maturities to potential investors in green technology, specifically in energy efficiency and renewables. BDL, UNDP and LCEC have agreed to develop a vehicle to finance energy efficiency and renewable energy, called NEEREA (National Energy Efficiency and Renewable Energy Action), and will work with international donors and organisations to support NEEREA, and to raise awareness and build capacity among Lebanese commercial banks and consumers.¹⁰⁰
• The Clean Energy Investment Accelerator (CEIA) seeks to develop a network of blended capital facilities that will provide early-stage working capital to renewable energy and energy efficiency project developers in emerging markets, at below-market interest rates. The CEIA is a revolving loan facility developed by Alotrope Partners that leverages philanthropic and other sources of concessionary capital (government and multilateral), alongside private equity and debt, to fill critical gaps in clean energy finance. It targets early-stage project preparation, clean energy business development and the demonstration of new low-carbon technologies.¹⁰¹
• MDB guarantees: The targeted application of MDB guarantees can make or break large-scale infrastructure projects. Such was the case with the €625 million (US$685 million) Lake Turkana Wind Power Project (LTWP), whose success depended on a €20 million (US$22 million) guarantee from the African Development Bank (AfDB) and Standard Chartered Bank. LTWP aims to provide 310MW of reliable, low-cost wind power, around a 10-15% increase in Kenya’s total installed capacity of around 2,300 MW. The LTWP site is more than 428 km away from the nearest substation, so a transmission line must be built to deliver the power to the national grid. The state owned Kenya Electricity Transmission Company (KETRACO) agreed in 2013 take responsibility for the US$185 million transmission line, which was critical to the success of the wind farm. After the World Bank withdrew its partial risk guarantee in late 2012, the project was delayed for more than two years—a real-life demonstration of the integral role of guarantees in bringing projects to completion. At the end of 2014, the AfDB and Standard Chartered stepped in with guarantees to cover loss of revenue attributable to transmission line delays. Construction began in 2015 and is expected to finish in 2018. “By reducing the risk profile,” noted the AfDB, “the partial risk guarantee will accelerate financial closure and reduce the overall cost of capital to the project.” In effect, by reassuring investors, this €20 million guarantee is helping the project reach its €625 million financing target.¹⁰²
• The UNDP has created a de-risking renewable energy investment methodology to reduce and, where possible, remove a range of policy, legislative, regulatory, institutional, financial, and awareness barriers that inhibit investments in sustainable energy at national and local levels. Together with technical assistance associated with financial instruments, these public de-risking instruments create favorable conditions for private sector involvement and are able to catalyze large-scale investments. Early results are promising. In Tunisia, for example, UNDP, with financing from the Global Environment Facility, is supporting de-risking measures that are predicted to leverage US$1 billion (€935 million) in private sector investment, and to significantly lower the cost of solar power for consumers.

Given the increasingly commercial viability of solar technologies, it is also now possible to attract private capital on its own to eary stages of project development in some markets. Wunder Capital is an innovative example of this for small solar projects in the US. It is a financial technology company that develops and manages solar energy investment funds. There was a gap in the market for smaller project funding, as transaction costs are prohibitively high for lenders; any deal under US$2 million can cost more to prepare than the expected loan revenue. To overcome this, Wunder is structuring diversified funds that hold solar project assets, then marketing them to specific institutional investor classes, thus accessing private capital for early stages of solar projects.¹⁰³ Wunder just launched a bridge fund that issues asset-backed project loans to the US solar industry and is expecting to deliver a return of up to 11%. As the minimum threshold for investment is low, there is also potential for crowdfunding with this type of business model.

Tailored instruments to attract private investment: operating phase

The generation of more certain cash flows in the operating phase opens up the prospect of replacing bank debt with bond finance that can be held by both domestic and foreign institutional investors: pension funds, insurance companies, private equity and sovereign wealth funds. This refinancing allows for a recycling of equity and bank finance that can be used for new investments (see Figure 10). In the operational phase, a key approach is securitisation of infrastructure loans once there are reliable, operating revenue streams, where the use of labelled green bonds or YieldCos provides a way to achieve this. Both green bonds and YieldCos can be used to develop infrastructure as an asset class to attract institutional investors (see discussion in Section 3).

Green bonds can be used to attract private capital and, in particular, long-term finance to sustainable infrastructure markets. They are especially attractive once the investment is operating, hence avoiding risks associated with preparation and construction phases. Green bond markets are expanding and diversifying rapidly. The amount of green bonds for sustainable infrastructure has quadrupled or more since 2012, reaching US$42 billion in 2015.¹⁰⁴ The Climate Bonds Initiative and HSBC expect the labelled green bond market to rise to US$100 billion of green bond issuance in 2016, and estimate the total market currently at US$118 billion outstanding.¹⁰⁵

Bonds are familiar instruments for the investment community, but there are concerns around the credibility of green bonds. Measures to tackle these issues need further coordination and work (see Section 3). Several factors are likely to drive continued rapid growth of green bond markets, but government policy is needed to ensure the potential of this market is fully realised and barriers do not get in the way.¹⁰⁶

There is a role for the public sector to create and develop a market for green bonds to tap into investor demand and ensure the market meets its potential.¹⁰⁹ To facilitate the market, common standards for green bonds should be agreed internationally.

In addition to stronger and uniform standards (see Section 3), a number of factors could help to drive future growth of green bonds markets: successful implementation of the Paris Agreement, the success of green bond issues to date, tighter spreads compared to other bonds, and growing interest from emerging markets keen to grow local green bond markets.¹¹⁰ Green bonds could also benefit from investors’ growing desire to publicly demonstrate a commitment to the environment. There is potential as well for issuers in the US$600 billion unlabelled “green” bond market (where bond proceeds are invested in green projects but are not labelled green) to shift to issuing explicitly labelled green bonds. Integrating credit ratings and third-party “green” ratings could be a way to streamline the market and facilitate mainstreaming of green aspects in bond markets based on tools that private investors are familiar with.

YieldCos, which own portfolios of low-risk, long-term projects, are equity vehicles that can go a step further than bonds by effectively bundling equity and debt together in one package. By bundling projects together, the project finance premium for single projects can be avoided or reduced. The first renewables-focused YieldCos went public in 2013, though similar funds have existed for longer; in 2015 there were 15 renewables-focused YieldCos in the US, Canada and Europe, with a total market capitalisation of well over US$20 billion.¹¹¹ The solar company SunEdison has also announced plans for a YieldCo focused on projects in emerging economy markets, with an initial portfolio consisting of solar, wind and hydropower projects, among others.

YieldCos and similar closed-end investment funds (the terminology varies across countries) are publicly-traded companies that own portfolios of operational renewable energy projects, paying dividends to shareholders from the projects’ revenues. Most funds aggregate solar and wind assets. Some also include hydropower, biomass and cogeneration assets. Most YieldCos have been created by renewable energy developers, selling their projects into the YieldCo upon completion. For an investor, a YieldCo or similar pooled investment vehicle can be a way to achieve the same cash flow that would come from directly owning a renewable energy project, but through a liquid, publicly traded instrument.

Because these instruments are exchange-traded, they avoid some of the liquidity risk and transaction costs associated with direct clean energy investments; they therefore have the potential to open up clean energy infrastructure investments to a wider range of investors, increasing the supply and reducing the cost of capital.

However, neither green bonds nor YieldCos are without drawbacks: as noted in Section 3, there are some questions about the extent of emission reductions from green bonds backed by larger institutions, and YieldCos do not yet have a long track record from which to judge their performance. Some of the larger YieldCos have developed an expectation of rapid future growth, making them possibly riskier investments. Still, the growing market for these instruments shows there is high demand among private investors for liquid investment opportunities in clean energy. Scaling up the use of pooled investment vehicles and extending their use across different markets and technologies appears to be a promising strategy to draw more private investment into clean energy.¹¹²

Investment in research, development and demonstration (RD&D) can encourage innovation, help to overcome incumbent technology advantage, and lower financial risks associated with investment in existing or new clean technology, thus reducing the upfront costs of energy infrastructure.¹¹³ Over the next 15 years, when key infrastructure systems will be built and locked in for decades, a pressing challenge is to rapidly deploy existing state-of-the-art technologies and business models or those that can rapidly be demonstrated at commercial scale, even as we also invest in next-generation technologies for the longer term.

There is an urgent need to scale up RD&D investment and create a culture of innovation across the energy system. Energy-sector public RD&D is less than half what it was in the late 1970s in real terms, and still often goes to fossil fuel exploration and production.¹¹⁴ Previous recommendations from the Global Commission were that R&D for clean energy should be tripled to well over US$100 billion a year by the mid-2020s.¹¹⁵ To be effective, a scaling up of R&D spending on clean energy should be accompanied by a phase-out of public R&D spending on fossil fuels.

Sustainable energy innovation requires significant expenditures and a wide variety of expertise, so investments here are particularly conducive to collaborative governance. Indeed, over the last two decades, the number of global public-private partnerships for energy RD&D has grown exponentially.¹¹⁶

Smart and collaborative R&D investments can be particularly powerful at the multi-country or global level. A long-standing example is the IEA’s Technology Collaboration Programmes (TCPs, also formerly called Implementing Agreements). There are now 39 TCPs, involving about 6,000 experts from government, industry and research organisations in 51 countries, covering a wide range of clean energy technologies and practices, including energy efficiency, renewable energy and energy storage or battery technologies as well as state-of-the-art fossil fuel and nuclear technologies.¹¹⁷ They develop and share knowledge across borders and identify and build on synergies in their research. Since 2007, non-IEA member countries, including China and India, have increased their participation.¹¹⁸

TCPs help achieve economies of scale and promote knowledge diffusion and collaboration.¹¹⁹ A recent analysis using nearly 40 years of patent data from 33 OECD countries found that bringing researchers together through TCPs boosts co-invention on wind and fuel cells, and especially on biofuels, solar photovoltaics and carbon capture and storage. What kinds of environmental policies are in place can also matter. Key features include stringency, predictability as well as flexibility – that is, policies that are not prescriptive but give firms incentives to look for the best technology solutions. 

Several other multi-partner, public-private global initiatives have recently launched and are working to boost R&D and deployment with climate change as a central theme. Examples include:

• Mission Innovation, with 21 members (including Australia, the US, the UK, Brazil, Chile, China, the EU, Indonesia, India, Japan and Mexico) committing to doubling public investments in clean energy research and development over the next five years.¹²⁰
• Bill Gates’ Breakthrough Energy Coalition, which brings together 28 major individual investors from 10 countries, with a collective net worth of more than US$350 billion, to provide capital for research on high-risk but promising clean energy technologies.
• The Global Innovation Lab for Climate Finance supports the identification and piloting of cutting-edge climate finance instruments that can drive investment and unlock new opportunities for renewable energy, energy efficiency, and adaptation efforts in developing countries. In just over a year of operation, it has already directed more than US$500 million to these areas in developing countries,and its model has been replicated to India with the India Innovation Lab for Green Finance.
• Finance for Resilience (FiRe), managed by the Climate Policy Initiative, is a platform used to crowdsource funding for ideas that accelerate finance for clean energy, low-carbon infrastructure and sustainable cities. The platform targets large-scale ideas which aim to generate investment of over US$1 billion per year.

Bilateral collaborations are also making an impact. The US-China Renewable Energy Partnership, for example, was launched in 2009 to increase the deployment of renewable energy technologies, improve energy security, and expand business opportunities in both countries. Similarly, the US-India Partnership to Advance Clean Energy (PACE), also launched in 2009, has worked to decrease barriers to the deployment of wind and solar power, thus growing the Indian market for clean technologies and services. ¹²¹Building on this experience, in June 2016 the US and India announced a strengthened and expanded partnership to advance clean energy, including access to off-grid solar energy.¹²²

In developing countries, decentralised renewable energy systems can far more rapidly bring modern energy services to rural areas and even to the urban poor than investment in a central grid. Efforts are needed to test and disseminate different business and finance models, such as pay-as-you-go solar, to learn what works best in each setting (see discussion in Section 4.2). Companies such as Tesla continue to push new clean technologies forward while social enterprises such as Mobisol, M-KOPA, Solar Now and Greenlight Planet¹²³ accelerate rapid diffusion of new technologies and business models to finance them. Greater public-private collaboration can accelerate investments and diffusion, particularly in lower-income countries (see also discussion on impact investors below). The expanded use of patent pools, including financing and technical support for these, can also help to make low-carbon and climate-resilient energy technologies available to lower-income countries, and ensure they have the capacity to adopt and adapt them.¹²⁴ Rather than belatedly adopting technologies developed elsewhere, often at significant expense, emerging and developing countries can seize the opportunity to develop their own, locally-adapted solutions, which can in turn help lower emissions, improve resilience and overcome poverty. As a form of South-South cooperation, solutions like mini-grid systems can be developed, exported, and shared with other developing countries.¹²⁵

Leadership and investment from infrastructure corporations will also be essential to drive innovation, including in business models that can drive breakthroughs for rapid dissemination of new products and technologies and create new markets. Some emerging initiatives offer promise (see Box 23 below).