What Is Clean Growth Finance? Financing a Clean Energy Growth Economy

Transcription

1 What Is Clean Growth Finance? INSIGHT BRIEFING DECEMBER 2018

2 WHAT IS CLEAN GROWTH FINANCE? This is the first briefing in a series on how the transition to a clean energy growth economy with lower greenhouse gas emissions will be financed. Financing these pathways forward is a foundational activity and core interest of the Centre for a Clean Energy Growth Economy.

3 The Conference Board of Canada. All rights reserved. Please contact cboc.ca/ip with questions or concerns about the use of this material. The Conference Board of Canada What Is Clean Growth Finance? Introduction The circulatory system of the economy is capital and credit. The availability and allocation of capital, and access to risk management tools and expertise, will be critical factors determining the economic and environmental success of the clean energy growth pathway over the coming decades a pathway that spans borders and sectors. This series of briefings on financing the transition to a clean energy growth economy is intended to provide analysis and focus on the outcome i.e., emissions reduction. Significant societal and economic transitions, such as responding to climate change, can have a variety of implications. Through this series of briefings and other research, The Conference Board of Canada is focused on providing evidence to inform the transition pathway to a clean energy growth economy. For a reasonable chance of remaining below the 2 degrees Celsius limit for temperature increase as stated in the Paris Agreement, the International Energy Agency projects that around US$3.5 trillion in global energy sector investments would be required, on average, each year between 2016 and 2050, compared with the investment of US$1.8 trillion in This massive financial mobilization poses a challenge. In principle, the global community has the financial, policy-making, and technological capacity to meet the challenge, but needs to allocate capital sufficiently and appropriately. A recent Conference Board of Canada report estimated the magnitude of investment required in Canada to successfully define a future with much lower greenhouse gas (GHG) emissions, without impairing the growth performance of the economy. 1 Using different scenarios, and based on an array of known technological options produced by the Trottier Energy Futures Project, it was projected that from $2.0 trillion to $3.4 trillion (in 2011 dollars) in new investment in low-emissions technologies would be required to These enormous sums would represent 40 per cent or more of total Canadian investment, demonstrating the scale of the task ahead if GHG emissions are to be reduced significantly. Canadians will need to fundamentally rethink how they produce and use energy if deep GHG emissions targets are to be achieved. 1 Coad, Gibbard, Macdonald, and Stewart, The Cost of a Cleaner Future. 1

4 WHAT IS CLEAN GROWTH FINANCE? If access to financing and risk management is ample and open, supported by competitive private markets and strong public policy, the clean energy transition will be eased significantly. But if access is uneven, with significant barriers and pronounced market gaps, the transition path will be much more difficult and costly. The overarching policy and business question is, how can capital be steered most effectively toward investment in an economy with reduced emissions? Financing, insurance, and risk management will all need to be readily available to achieve a successful transition to a world with much lower GHG emissions. A business as usual approach to financing and risk management is unlikely to succeed. Innovation in financing and insurance products and services will be required, additional risks will need to be assessed and managed, and new business opportunities exploited. Private capital and insurance markets and risk capacity will need to be fully engaged, and public policies designed and implemented that support the transition in the most effective way possible. Defining Clean Growth Finance To define the issue, let s first consider what a clean growth economy is, and its relationship to finance. A clean growth economy operates in a robust manner while progressively reducing the level of greenhouse gas emissions. Green finance and clean finance refer to financing and risk management services for goods, services, and processes that can help reduce pollution and other negative environmental impacts. These terms are often used interchangeably. Low-carbon finance is a subset of green or clean finance, applying specifically to financing and risk management for goods, structures, infrastructure, services, and processes that can help reduce GHG emissions. Another important consideration is the specific areas where low-carbon financing and risk management are required and can be applied. We see two specific areas. The first is the increased risk to communities, regions, sectors, infrastructure, businesses, and consumers that are being affected or threatened by the impact of climate change. The availability of insurance coverage for the consequences of extreme weather events, like flooding or wind damage, would be a pertinent example. The second area is the broad universe, where financing and risk management expertise will be required in the coming decades to facilitate the transition toward a robust and healthy economy with significantly reduced GHG emissions. This series of briefings will place added emphasis on this second area access to the kinds of financing and risk management expertise that will be needed to reduce GHG emissions, while sustaining a robust and healthy economy. 2

5 The Conference Board of Canada. All rights reserved. Please contact cboc.ca/ip with questions or concerns about the use of this material. The Conference Board of Canada The private sector should ideally be the dominant source of financial services, and its evolution will be an important driver of the GHG emissions reduction economic transition. 3

6 WHAT IS CLEAN GROWTH FINANCE? Sources of Clean Growth Finance What are the expected sources of clean growth finance? The private sector should ideally be the dominant source of financial services, and its evolution will be an important driver of the GHG emissions reduction economic transition. Financing will also be required from governments and the wider public sector to support the expansion of private sector capacity. 1. Equity Financing Equity providers are the ultimate risk-takers in any new or existing business venture. They provide the financial foundation for business development, growth, and ongoing operations. For the sake of clarity and simplicity, we will use three broad phases to describe equity investment in firms that operate with low-carbon emissions business objectives, or that provide low-carbon emissions technology and services. Start-Up Phase Launching a new firm or venture is complex, even with adequate and appropriate access to early-stage equity. Fundamental business issues at the start-up stage include: the quality and distinctiveness of the product and service offering; identifying early buyers for the firm s goods and services; market potential; scaling-up capacity; the managerial and leadership capacity of the venture s creators; finding staff with requisite expertise. In the initial phase, basic equity is likely to come from the entity s creators, drawing upon their own efforts, assets, savings, and access to credit. Capital can be raised from family and friends. Arms-length angel investors, and earlystage partners like investment incubators, can be attracted to invest in the venture. Venture capital is a further form of early-stage equity, providing larger amounts of capital that support the development and expansion of a firm s business plan and operating model. It should be recognized that most start-ups never grow beyond this stage. Firms may eventually fail, be wound down, or its intellectual property might be acquired by another firm or investors. This reality argues for the creation of early-stage investment portfolios where losses can be offset by successes. 4

7 The Conference Board of Canada. All rights reserved. Please contact cboc.ca/ip with questions or concerns about the use of this material. The Conference Board of Canada Growth Phase As clean growth firms solidify their business model and begin to build sales opportunities and generate revenue, they migrate into the growth stage of equity investment. Expanding access to equity investment from the private investor market should be a central objective. An initial public offering (IPO) may be made to become a publicly traded firm, with launched firms having shares sold and traded on an exchange. Mature Phase Clean growth firms and assets that have demonstrated their capacity to generate recurring profits enter a mature phase, with the expectation of dividends being paid to shareholders or owners, and rising share prices over time. This phase would include institutional investors acquiring and managing equity investment in firms engaged in the clean growth economy. Institutional investors include mutual funds, pension funds, or even sovereign wealth funds. Capital market institutions will be more able to absorb clean growth assets as they produce well-defined asset quality and returns. 2. Debt Financing Debt financing for the clean growth economy is beginning to advance. It comes in two dominant forms via bond markets, and through lending from commercial financial institutions. Green Bonds Bond markets with a clean growth dimension are developing steadily. Green bonds link access to private capital (directly or indirectly) to emission reduction or clean growth activities. First issued in 2007, they provide a targeted instrument for raising debt financing that will be used to fund the efforts of businesses and governments to reduce GHG emissions and to seize new clean growth business opportunities. Global aggregate issuance of green bonds reached $190 billion in the first quarter of Volumes are progressively rising as the green bond market deepens. 2 According to RBC Capital, green bond issuance will be driven by the nearly $500 billion per year in investment that will be required to achieve greenhouse gas emissions targets laid out in the 2015 Paris Agreement. 3 Canadian government sales of green bonds are already helping to build overall domestic green bond market capacity. Ontario is the first Canadian province to issue green bonds, raising over $2 billion in funding so far. On the federal side, Economic Development Canada (EDC) issues green bonds to reinforce its commitment to the environment and to respond to investor demand. So far, EDC has raised $1.1 billion in green bond 2 RBC Capital Markets, Green Bonds: Green Is the New Black. (Note: Currency unspecified, but presumably U.S. dollars.) 3 Ibid. 5

8 WHAT IS CLEAN GROWTH FINANCE? funding. Sophisticated management capacity for bond issuance is likely required to access the green bond market, which may limit the ability of many jurisdictions to tap into this emerging market. Or perhaps a role will develop for the use of financial aggregators that engage a new set of requisite underwriting skills to address demand for green bonds. Retail green bonds are emerging as an investment option for individuals. They are usually backed by diversified portfolios of senior, secured loans to clean energy projects and energy-efficiency projects that reduce carbon and are expected to generate steady revenues. 4 There is considerable scope for further innovation in green bond markets to raise targeted debt financing for energy and the clean growth transition. Green Banking Some commercial banks are developing their business strategies and activities for extending credit toward the clean growth economy. A recent survey of 59 global banks indicates that almost all are involved in knowledge-sharing and have adopted specific climate governance practices, including providing some disclosure on loweremission products and services. While 71.0 per cent of the banks surveyed have adopted public exclusion practices linked to carbon-intensive activities, fewer than half have set explicit objectives or targets to increase or promote loweremission products and services. The six largest Canadian banks were engaged in the survey. 5 Recent statements indicate that the Canadian market for green banking is developing. For example, TD Bank Group announced in late 2017 a target of C$100 billion in clean growth lending, financing, assets management, and other programs by It plans to work with companies and projects that are driving emissions innovation, to provide financial services that accelerate lean growth activities, to develop its role in the green bond market, and to foster dialogue and understanding. 6 Banks overarching financial objective is to earn strong market-based returns for shareholders, and their general operating objective is to serve a diverse client base of depositors, borrowers, and investors. This business reality will define and guide their appetite to provide clean growth lending and risk management capacity to business ventures. The obvious challenge and opportunity will be to reposition the business portfolio at Canadian and other banks toward clean growth financing activities, without sacrificing overall financial performance. 3. Public Sector Financing Governments will also have a central role to play, both to help build capacity for clean growth finance and risk management within the overall financial system, and to fill gaps in the marketplace. A separate briefing will consider the options for public sector financing and risk management. 4 CoPower, How It Works. 5 Compere, Banking on a Low-Carbon Future. 6 TD Bank Group Newsroom, TD Bank Launches New Initiative. 6

9 The Conference Board of Canada. All rights reserved. Please contact cboc.ca/ip with questions or concerns about the use of this material. The Conference Board of Canada A Brief Takeaway These are still early days for clean growth finance, but the conditions for, and availability of, financing and risk management services are evolving quickly. Private capital markets and financial institutions are becoming more comfortable with the concept of clean growth financing and risk management, and products and practices are emerging in a number of areas. 7

10 WHAT IS CLEAN GROWTH FINANCE? Acknowledgements The author of this briefing thanks Michael Burt, Executive Director, Global, Industrial, and Education Economics at The Conference Board of Canada, for providing an internal review. Roger Francis directed the project and provided additional writing and review. This work was funded by members of the Centre for a Clean Energy Growth Economy. About the Centre for a Clean Energy Growth Economy (CEGE) Various factors have buffeted the Canadian economy during the past decades. The result has been that many sectors are forced to operate within uncertain climate change policy frameworks. Energy and energy systems play a critical role, directly and indirectly, in Canada s economy. The concept of a centre focused solely on a clean growth economy for Canada recognizes that our economy needs to proceed in the context of this longer-term, multi-generational transformation. The aim of the Centre for a Clean Energy Growth Economy (CEGE) is to bring together diverse funders to develop a road map for Canada as we progress toward a clean energy growth future. The Centre uses research and dialogue to inform effective and efficient movement toward a clean energy growth economy in Canada. CEGE is focused on providing evidence that frames the journey forward, but that builds on Canada s economic and intellectual strengths without sacrificing economic growth, wealth creation, sustainability, and social well-being. 8

11 The Conference Board of Canada. All rights reserved. Please contact cboc.ca/ip with questions or concerns about the use of this material. The Conference Board of Canada APPENDIX A Bibliography Coad, Len, Robyn Gibbard, Alicia Macdonald, and Matthew Stewart. The Cost of a Cleaner Future: Examining the Economic Impacts of Reducing GHG Emission. Ottawa: The Conference Board of Canada, e-library/abstract.aspx?did=9021. Compere, Lauren. Banking on a Low-Carbon Future: Are the World s Largest Banks Stepping Up to the Risks & Opportunities of Climate Change? Boston: Boston Common Asset Management, banking-on-a-low-carbon-future/. CoPower. How It Works. Accessed December 18, en/investing. RBC Capital Markets. Green Bonds: Green Is the New Black. Toronto: Royal Bank of Canada, TD Bank Group Newsroom. TD Bank Group Launches New Initiatives to Support a Sustainable and Prosperous Future. Media release, December 8,

12 Insights. Understanding. Impact. What Is Clean Growth Finance? Glen Hodgson To cite this briefing: Hodgson, Glen. What Is Clean Growth Finance? Ottawa: The Conference Board of Canada, The Conference Board of Canada* Published in Canada All rights reserved Agreement No *Incorporated as AERIC Inc. An accessible version of this document for the visually impaired is available upon request. Accessibility Officer, The Conference Board of Canada Tel.: or The Conference Board of Canada and the torch logo are registered trademarks of The Conference Board, Inc. Forecasts and research often involve numerous assumptions and data sources, and are subject to inherent risks and uncertainties. This information is not intended as specific investment, accounting, legal, or tax advice. The findings and conclusions of this report do not necessarily reflect the views of the external reviewers, advisors, or investors. Any errors or omissions in fact or interpretation remain the sole responsibility of The Conference Board of Canada. 255 Smyth Road, Ottawa ON K1H 8M7 Canada Tel Fax Inquiries conferenceboard.ca PUBLICATION PRICE: Complimentary