Policy instrument design

Main Report

Annexes

The project “Policy instrument design to reduce financing costs in RE technology projects” aims to provide a better insight into the key elements of best practice policy design for renewable energy technologies which altogether will result in lower financing costs.
Well designed policies, aimed at reducing the financing costs for renewable electricity projects, can reduce costs of renewable electricity by up to 30%. Policies influence the risks of financing renewable energy projects. If debt/equity providers consider these risks to be too high, the cost of the project – and hence the required policy support – will increase.
In a study for IEA-RETD, Ecofys addressed this impact of policy design on costs of renewable electricity. A detailed assessment was made for four technologies (on- and offshore wind, large-scale solar-PV, and biomass-CHP) and six countries.

Summary

The study identifies policy design elements that reduce perceived policy risks and provides best practice examples of implemented international, national or regional policy designs that reduce perceived risks. Amongst others, policy makers can reduce the cost of renewable electricity in the following ways:

  • Ensure a long-term political and societal commitment towards renewable energy. Commitment, stability, reliability and predictability are all elements that increase confidence of market actors, reduce regulatory risks, and hence significantly reduce cost of capital. A proper translation of this commitment in the design and timeframe of the support instruments can have a significant impact on the costs of electricity: as compared to a situation with no particular support scheme in place, the levelised cost of electricity can be reduced by 10 to 30%, with different values for different technologies.
  • Remove risks by removing barriers. Policies that improve the success rate of the project development phase will reduce the project investment and hence levelised energy costs of renewable energy technologies.
  • Remove risk by sharing risk. Government loan guarantees, government project participation, and investments in infrastructure can significantly reduce the cost of capital. By underwriting all or part of the debt for a project, lenders have significantly lower risk in case of default of underperformance of the project. This risk reduction is translated in lower interest rates (e.g. 1-2%, resulting in reductions up to 5-10% in the levelised cost of electricity), but potentially also in longer debt terms and more favourable debt service requirements with even higher reductions in the cost of capital. Government project participation, for instance by investing in large-scale electrical infrastructure solutions for offshore wind energy, can reduce levelised cost of electricity by for instance 15% or more (with about one third as a direct effect of a reduction in the cost of capital).
  • Influence the economic lifetime by a correct policy design. The period of support offered in main policy support schemes (such as feed-in tariff (FIT) and feed-ion premium (FIP) schemes), as well as the debt term applied in government loans, have a direct impact on the economic lifetime that is used by investors and lenders. The closer the economic lifetime is to the technical lifetime, the lower the required level of support.
  • Policies that reduce the required return on equity by investors potentially have significant cost reduction implications. Improved design of existing policy support schemes may be more effective in this respect, than a switch to a different policy scheme. Reducing the required return on equity encompasses a wide range of measures that create stability and predictability of markets, amongst others:
    • long-term and sufficiently ambitious targets should be set,
    • the policy instrument should remain active long enough to provide stable planning horizons and for a given project, the support scheme should not change during its lifetime,
    • stop-and go policies are not suitable and a country’s ‘track record’ in renewable energy policies probably massively influences perceived stability.

It is recommended that the financing of the support scheme is kept outside the government budget. Furthermore, in designing new policy instruments and schemes, the changing landscape of renewable energy financing solutions should be closely monitored and incorporated into this design. In designing support schemes, all market actors should be involved. Investment funds and banks, in particular, will be able to provide feedback on the risks related to the design of these instruments.

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