FINANCING INCREASINGLY COMPLEX ENERGY MARKETS AND DECARBONIZATION CHALLENGES
Over the past two months, I have been fortunate to speak at and attend various commodity and energy conferences, and these are some resulting impressions from those as a lay person.
The challenge of trying to find a balance between boosting financing for the transition to renewable energy, while ensuring that up- and downstream investment for hydrocarbon supply remains sufficient to ensure that oil and gas prices do not spike before renewables capacity have made major inroads into the 82% of global power supplies (inter alia) which are currently hydrocarbon sourced is immense. This was never going to be easy, but with the sharp upward shift in interest rates and input costs, high levels of government debt, fracturing global trade and supply chains, allied with deepening geopolitical tensions, it has become even more complex. An evolving regulatory landscape with still many uncertainties adds a further layer of complexity, a point to which I will return after looking at some of the issues raised about financing both hydrocarbons and renewables.
But as one participant in a workshop panel noted very poignantly, the real challenge for renewables is that prior transitions from wood to coal to oil were driven (over time) by the fact of lower costs and greater reliability and efficiency, which at the current juncture is simply not the case with renewables. It was also observed that the tobacco industry has survived despite a hostile regulatory and financing environment for a number of decades. One might also add that the current ‘big oil’ M&A mania does not suggest any serious financing hurdles in the hydrocarbon sector, even if increased consolidation also implies lower Exploration & Production (E&P) in the medium-term, above all to mitigate some of the risk of ‘stranded assets’.
THE US INFLATION REDUCTION (IRA) AND INDEED THE CHIPS ACTS OFFER A LOT OF ‘CARROTS’ AND NOT ENOUGH ‘STICK’...
By contrast the task of raising finance for renewables faces a complex array of issues. Traditional bank finance typically looks for evidence of long-term contracts, and by extension cashflows on which to secure lending, or alternatively assets. But with renewable technologies either in their infancy or still in relatively early stages of development, long- term contracts are few and far between, given that longer-term pricing trends are largely unknown, as is the shelf life of any given asset, with the risk of technological developments superseding early stage projects, and the fact that such infrastructure projects are capital intensive. Therefore, there is a clear need for innovative hybrid financing to meet these challenges, but also to establish a much clearer regulatory backdrop, as well as suitable fiscal incentives. In that respect, it is generally agreed that divergent regulatory trends in Europe and North America run the risk of creating a minefield which will likely impede progress in implementing the energy transition.
In fashioning suitably balanced incentives, it can also be said that the US Inflation Reduction (IRA) and indeed the CHIPS acts offer a lot of ‘carrots’ and not enough ‘stick’, and that the EU directives have too much stick, and not enough carrots, in no small part because the latter is in the provenance of national governments. Supranational development banks are and will be critical in the provision of finance, and governments could also look to set up national energy transition and infrastructure banks, and might look to repurpose central bank QE holdings as seed capital. Central banks might also consider easing capital requirements on bank lending for the energy transition as an incentive, though this would have to be rigorously supervised.
16 | ADMISI - The Ghost In The Machine | Q4 Edition 2023
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