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South East Asia is missing Renewable Opportunities

Southeast Asian governments should review their policies to mobilize private investment in renewable energy.

The International Energy Agency has projected in its World Energy Investment Outlook that $7.7 trillion of investment is required in renewable energy and energy efficiency projects in China, India, Japan and Southeast Asia by 2035 to keep the rise in global temperatures below 2C this century — the target set under United Nations auspices in the Paris Agreement last December.

While this sum is significant, so too is investor appetite, and there is a pool of available funds looking for the stable long-term returns that infrastructure can deliver in the right policy environment. Global green bond issuances have grown from $41 billion in 2015 to between $55 billion and $80 billion in 2016, with exponential growth in Asia — largely in China. In addition, government agencies and commercial banks have been restricting funding for carbon-intensive power projects to redirect support to renewable energy projects.

This presents an incredible opportunity for countries in the region, particularly those in Southeast Asia with growing electricity needs, to tap this pool of funds and facilitate investment with clear and stable policy frameworks. Teams of developers and private equity funds are searching for commercially sound, climate-aligned investment opportunities. However, patchy policy and regulatory frameworks in the region are unable to support the full investment that might otherwise be made.

One of the key barriers remains price. While the cost of generating electricity from renewable sources is becoming increasingly competitive with electricity from conventional sources, it remains higher, with exceptions including some large-scale hydro and onshore wind power. Renewables in Southeast Asia have also had to compete with heavy subsidies for fossil fuels and weak commodity prices on the back of slow global economic growth.

To encourage investment in renewable energy projects many countries in Southeast Asia have introduced subsidies over the past decade in the form of higher and additional payments for electricity from renewable sources. These payments are known as feed-in tariffs. However, with the exception of Thailand, the pricing of feed-in tariffs has been perceived as too low or uncertain by investors, and has not addressed the risk of currency fluctuations and inflationary factors that could wipe out investors’ anticipated returns.

Governments have faced two major challenges in setting feed-in tariffs. First, a limited ability to pass on higher tariffs to consumers, even though electricity shortages impede economic growth and leave many individuals and industrial consumers relying on more expensive off-grid solutions. Second, the potential for political backlashes over perceived “windfall” profits to project developers.

Adder spurs growth

Thailand has demonstrated how a higher feed-in tariff at the outset allows investors to become comfortable with the costs of doing business. Under Thailand’s “Adder” program, one of the earliest subsidy plans in the region, costs have been driven down by economies of scale and successful projects have acted as templates for others.

Under this program, renewables’ share of the energy mix in Thailand grew from 0.5% in 2006 to approximately 8.5% by September 2015. A premium price was paid in addition to the underlying wholesale electricity tariff. While the base tariff was volatile and the Adder element was only payable for seven to 10 years, the premium was generous enough to attract investment. The mechanism was funded by a combination of higher costs for customers and fossil fuel levies, and the program also streamlined interconnection arrangements and used standardized documentation.

In contrast, when the Philippines established guidelines for a feed-in tariff program in 2013, the charge was lower than expected and eligibility for the plan could be confirmed only when commercial operations began. The program became a race to complete and qualify for the feed-in tariff. For solar energy projects, only the first 250 megawatts of installed capacity (subsequently extended to 500MW) were eligible.

The lack of certainty about the potential returns on investments deterred many would-be investors, who had to grapple with a new market and uncertainty about the final costs of development as well as with national ownership restrictions requiring local control of the majority of such projects.

Malaysia is another market that requires majority local ownership and has struggled with low feed-in tariffs — to the extent that the development of projects has been far below initial government targets.

Setting aside the adequacy of base subsidy levels, a positive design feature of both the Malaysian and Philippine feed-in tariffs is the application of regression to manage the issue of “windfall” profits. This means that as the discrepancy in the costs of generation from renewables and non-renewables technologies decreases, the feed-in tariffs will fall. In a similar vein, a promising new framework for the development of solar projects in Indonesia grants the regulatory authority the discretion to adjust pricing between rounds of projects.

The new Indonesian solar program will entail the allocation of solar capacity to pre-approved developers with tariffs of 14.5 U.S. cents to 25 U.S. cents per kilowatt hour, depending on the location of each project. The first allocation will be for 250MW of capacity across different regions of Indonesia. With the feed-in tariff priced at an acceptable level, in a reserve currency, and with eligibility and offtake confirmed before investment, developers are gearing up for the opportunity.

Subject to the program generating a pipeline of opportunities, it will mark a further break with some of the issues that have inhibited development of renewables in Indonesia.

Other non-pricing barriers are also holding back investment across the region, including lengthy approvals processes and the overlapping authority of various government bodies. A new “single-window” approval system introduced in Indonesia is credited with encouraging a sharp increase in investment in renewables over the last 12 months. This is a feature that could be replicated with much success in neighboring countries.

There have been promising developments across the region, but these may prove self-limiting if feed-in tariffs remain restricted to only a few initial projects and do not achieve the scale of Thailand’s Adder program.

The certainty of return on investment also remains challenging for international investors where payment for electricity generation is in local currency without indexation to a reserve currency, especially where key equipment and inputs are priced or financed in U.S. dollars or another reserve currency. Limits on foreign investment create further funding challenges and hesitation on the part of potential investors.

Investment will only be accelerated in the region if countries commit to achieving their U.N. climate change commitments through clear and sustainable policies. The funds and investor appetite are there for the taking.

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