Overcoming the energy transition investment gap

Dri­ven by the urgent need to com­bat cli­mate change, the world com­mit­ted more than $500bn (£363bn) to decar­bon­i­sa­tion projects for the first time last year, accord­ing to BloombergNEF. Well over half of this total was invest­ed in renew­able ener­gy gen­er­a­tion, but sig­nif­i­cant sums were also spent on domes­tic heat pumps, elec­tric vehi­cles, hydro­gen tech­nol­o­gy and sys­tems enabling car­bon cap­ture and stor­age (CCS). 

While this news appears encour­ag­ing, the num­bers are still far below what is required, accord­ing to the Inter­na­tion­al Ener­gy Agency’s World Ener­gy Invest­ment 2021 report. It notes that, although $750bn is expect­ed to be spent on clean ener­gy projects in 2021, “invest­ment would need to dou­ble in the 2020s to main­tain tem­per­a­tures well below a 2°C rise and more than triple in order to keep the door open for a 1.5°C sta­bil­i­sa­tion”.

Part of the prob­lem is that finance is flow­ing faster than actu­al cap­i­tal expen­di­ture, accord­ing to Seb Henbest, BloombergNEF’s chief econ­o­mist and lead author of its New Ener­gy Out­look 2021 report. 

“There is a rate-of-change prob­lem,” he explains. “Get­ting the tech­nol­o­gy cheap is one thing, but then you have to deploy it through the glob­al econ­o­my to dis­place the car­bon-inten­sive gen­er­a­tion infra­struc­ture. That takes time.” 

The report argues that invest­ment in wind and solar gen­er­a­tion alone needs to increase to between $760bn and $1.8tn annu­al­ly between 2021 and 2030 to get on track for net zero. 

Price uncer­tain­ty is also hold­ing back the renew­able ener­gy mar­ket. Ener­gy prices are typ­i­cal­ly set by the mar­gin­al cost of oper­a­tion, which is very small for renew­ables.

“In oth­er words, there’s a miss­ing-mon­ey prob­lem,” Henbest says. “As the lev­el of renew­ables in the sys­tem increas­es over time, the whole­sale pow­er price falls and rev­enues start to look less good. To mobilise cap­i­tal, there needs to be more cer­tain­ty about future price sig­nals.” 

Building completely new markets 

Thanks to falling costs and ris­ing elec­tric­i­ty demand, renew­able ener­gy is the low-hang­ing fruit for investors. Oth­er low-car­bon tech­nolo­gies, such as hydro­gen, CCS, heat pumps and large-scale bat­tery stor­age, are much fur­ther away from matu­ri­ty and com­mer­cial­i­sa­tion. 

“Just as renew­ables have had over the past 10 to 15 years, these mar­kets will need robust pol­i­cy and sup­port mech­a­nisms, as well as col­lab­o­ra­tion between the pub­lic and pri­vate sec­tors,” says Dr Edurne Zoco, exec­u­tive direc­tor for clean tech­nol­o­gy and renew­ables at IHS Mark­it.

This is start­ing to hap­pen. Con­sid­er hydro­gen: the Euro­pean Com­mis­sion and six Euro­pean coun­tries pub­lished hydro­gen strate­gies in 2020, fol­lowed by the UK this year. Through var­i­ous fund­ing mech­a­nisms, $44bn has been made avail­able for hydro­gen projects in Ger­many, France, Italy, Spain and Por­tu­gal up to 2030, accord­ing to IHS Mark­it. 

Zoco believes that such ini­tia­tives, along with pol­i­cy mea­sures such as Canada’s clean fuel stan­dard, are incen­tivis­ing and de-risk­ing invest­ment, but she adds that there are still like­ly to be win­ners and losers as the tech­nol­o­gy devel­ops. 

“While the over­all mar­ket might boom, there will be some spec­tac­u­lar busts,” she pre­dicts. “We’re expect­ing to see joint ven­tures and strate­gic part­ner­ships to defray those risks.”

Hydro­gen tech­nol­o­gy alone will require a total invest­ment of almost $15tn between now and 2050, accord­ing to the Ener­gy Tran­si­tions Com­mis­sion, a think-tank fund­ed by a range of organ­i­sa­tions, includ­ing oil and gas com­pa­nies. It esti­mates that 85% of this total would need to be allo­cat­ed to elec­tric­i­ty gen­er­a­tion. The rest would need to be spent on aspects such as hydro­gen pro­duc­tion, stor­age and trans­port.

Decarbonising heating 

Along­side hydro­gen, elec­tric heat pumps will play a big role in decar­bon­is­ing heat­ing. Accord­ing to New Ener­gy Out­look 2021, an aver­age of 18 mil­lion new heat pumps need to be installed each year to 2030. 

Along with finan­cial incen­tives, cus­tomer edu­ca­tion is cru­cial in achiev­ing this rate of uptake, says Ben Hertz-Shargel, glob­al head of grid edge at the Wood Macken­zie ener­gy con­sul­tan­cy. 

“A lack of under­stand­ing about the total cost of own­er­ship and the impor­tance of clean heat­ing, along with insuf­fi­cient­ly trained con­trac­tors, is hold­ing back deploy­ment,” he says. 

Each tech­nol­o­gy in the low-car­bon field has its own bar­ri­ers to over­come. For instance, to sup­port the devel­op­ment of large-scale bat­tery stor­age, there are plans to intro­duce 500GWh of new cell man­u­fac­tur­ing capac­i­ty across Europe and North Amer­i­ca, accord­ing to IHS Mark­it, but lim­it­ed access to raw mate­ri­als is cre­at­ing ner­vous­ness in this sec­tor. 

For tech­nolo­gies such as CCS, which is need­ed to off­set emis­sions from the fos­sil fuels that remain in the mix, nation­al gov­ern­ments are try­ing to bring down costs through region­al hubs. IHS Mark­it esti­mates that annu­al invest­ments in CCS would need to dou­ble every five years in order for the tech­nol­o­gy to hit its car­bon reduc­tion tar­gets. 

David Elmes is pro­fes­sor of man­age­ment prac­tice and head of War­wick Busi­ness School’s Glob­al Ener­gy Research Net­work. He believes that an increase in invest­ment in ener­gy effi­cien­cy for build­ings and trans­port, which in recent years has been flat, would go some way to bridg­ing the fund­ing gap.

“We need to talk about con­sump­tion with the same lev­el of empha­sis as we do sup­ply,” he says. “We must have seri­ous dis­cus­sions about build­ing stan­dards and local ener­gy sys­tems.” 

Hedging their bets

Part of the ener­gy tran­si­tion chal­lenge is that gov­ern­ments aren’t sure what the mar­ket will look like and are yet to make firm deci­sions on its tech­no­log­i­cal com­po­si­tion. It’s also unclear how they plan to man­age, mea­sure and reg­u­late report­ing on emis­sions, as well as whether there will be oppor­tu­ni­ties to trade them (as is out­lined in arti­cle 6 of the UN’s Paris accord on cli­mate change). 

“More clar­i­ty on these issues can lead to a pret­ty pro­found growth in mar­ket oppor­tu­ni­ties, but mist­im­ing it could also mean some pret­ty heavy loss­es,” Zoco warns.

Despite the risks and uncer­tain­ties, Henbest believes that all play­ers in the ener­gy econ­o­my reck­on that the tran­si­tion will hap­pen and all are bet­ting in the glob­al mar­ket­place in the hope that they have a win­ning strat­e­gy. 

“They know that this huge shift is cre­at­ing a big mar­ket oppor­tu­ni­ty,” he says. “It’s sim­ply a mat­ter of how fast it’s going to hap­pen.”