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Private investments essential for the success of the green finance concept

Central and Eastern European countries still face a complex set of environmental challenges such as poor waste management, low energy efficiency, urban air pollution and deficient wastewater treatment. While some of the countries have already embarked on a path towards carbon neutrality, more investments are needed.

But the upcoming months won’t be easy for banks. According to the CESEE Bank Lending Survey published by the European Investment Bank (EIB), the banking sector in the region is likely to face one of its worst years since the global financial crisis in 2007 and 2008 due to the coronavirus pandemic.

“In light of the grim expectations by the banking sector in the region and an increased likelihood of declining financing opportunities, we are particularly glad to have approved the pan-European Guarantee Fund [which will provide finance to companies that are viable in the long-term, but are struggling in the current crisis],” said EIB Vice-President Lilyana Pavlova. “It is a timely and targeted response to alleviate the hardship endured, especially by entrepreneurs and smaller companies.”

However, sustainable finance showed surprising resilience in the wake of the current unprecedented crisis and could step in as an opportunity to rebuild national economies and help the transition into a greener and low-carbon future.

“Sustainable investments gained momentum and there is an overwhelming interest in finding green projects,” said Ákos Lukács, Senior Manager of Environment, Sustainability, Climate Change at Deloitte Hungary in a discussion organised by the NGO Visegrad for Sustainability (V4SDG). “This is demonstrated by the success of green bonds designed specifically to support climate-related or environmental projects.”

The EU plan and the public sector

The significance of mobilising the public and private sector to finance the investment challenges is emphasised in the European Green Deal. The Sustainable Europe Investment Plan published by the European Commission at the beginning of the year is expected to play a key role as it “will mobilise at least 1 trillion euros of sustainable investments over the next decade through the EU budget.”

“The EU recovery plan proposed by the Commission is in essence based on the sustainable finance principle,” says Michał Motylewski, Managing Counsel at Dentons Warsaw. “The Commission expects to raise  750 billion euros under the Next Generation EU financing and make it available in the form of non-refundable grants and other refundable instruments. The focus will be on boosting urgent investments, in particular in the green and digital transitions.”

He underlines that the key novelty is that funding would be borrowed by the Commission and the repayment would be based on EU’s resources to relieve the pressure on national budgets.

“The Commission outlined this proposal pretty clearly,” he tells CEENERGYNEWS. “Now it is for the Member States to agree on the eventual shape of the Next Generation EU and seek consensus on how these funds should be redirected to leverage private investment.”

The European Environment Agency (EEA) report The sustainability transition in Europe in an age of demographic and technological change shows that the amounts allocated to the environment from the public budget are low and have not increased in recent years.

In 2017, environmental protection expenditure accounted for only about 1.6 per cent of total government expenditure or about 0.8  per cent of the EU’s GDP. By broadening the scope to other government spending areas closely related to the environment, such as fuel and energy, transport and water supply, the share of total government expenditure in the EU was roughly 7 per cent in 2017, but there were large differences between countries with steep increases in Greece and Hungary and the largest decreases reported for Croatia (more than 5  per cent).

Furthermore, the EU high-level expert group on sustainable finance underlined that the EU is not on track to deliver the 11.2 trillion euros required to meet its broader 2030 energy policy targets. The biggest gaps relate to investment in energy efficiency in buildings (74  per cent) and transport (17  per cent).

In this regard, the EIB argued that “investment in energy efficiency needs to be increased dramatically to meet EU targets for 2030 and beyond”. To achieve this objective, the EIB itself will gradually increase the share of its financing dedicated to climate action and environmental sustainability to reach 50 per cent by 2025.

On the other hand, the European Bank for Reconstruction and Development (EBRD) said that it will continue to invest in fossil fuels where this is consistent with a low carbon transition.

“The best approach would be to look at the energy system as a whole, be open-minded to all possible solutions and structure the regulatory framework so that costs (especially carbon costs) and benefits (such as security) are properly priced and imposed,” Harry Boyd-Carpenter, Director, Head of Energy EMEA at the EBRD, said in a recent interview with CEENERGYNEWS.

Private investments are key

The International Energy Agency (IEA) noted that, despite the growing roles of renewables, where private entities own nearly three-quarters of investments, the share of investment from national oil companies and state-owned enterprise (SOE) thermal generators has risen by more. In terms of financing, public financial institutions underpin the largest thermal power investments in emerging economies and nearly all nuclear investments rely on state-backed finance.

CEE countries are particularly reluctant to cease supports harmful projects. Serbia, for example, is still holding on to coal as a strategic pillar of its energy mix. In Poland, the share of coal and lignite in electricity generation still amounts to almost 80 per cent.

“It is indeed the private investment that is essential for the success of the sustainable finance concept,” says Mr Motylewski. “Many investors and financial institutions repeatedly express their major concern, which is stability and predictability of the investment conditions in particular in respect of the regulatory environment.”

According to him, the Next Generation EU would surely relieve some of the risk pressure on the envisaged energy transition investment. However, the key regulatory risks remain, the reason why the Second Renewables Directive of 2018 (RED II) includes the financial stability clause.

“This measure has arguably limited application, but Dentons found it is one of the most significant regulatory developments since the Commission put a question mark on intra-EU bilateral investment treaties (BITs),” he highlights. “In some respects, the financial stability clause fills the gap resulting out of concerns caused by dilution of investment protection under BITs in Europe.”

However, on the occasion of the 2020 Dentons’ European Renewables Workshop which took place on February in Frankfurt, it was noted how the majority of market players are not aware of the financial stability clause’s existence or the scope of protection provided by it.

“From the perspective of sustainable finance, we find that the financial stability principle could be a fundamental element required for the Next Generation EU to fully succeed and boost private investment as expected,” emphasises Mr Motylewski. “It would be essential for adjusting the risk assessment policies of financial institutions and improving how investors facilitate funding. It is time to bring this issue into the main discourse on the energy transition policy.”

The challenges of financing the transition to a low-carbon economy

Whether public or private, green investments could also be a challenge in the face of other arising challenges. The EEA noted how the fiscal and financial systems could potentially face significant difficulties due to the social and economic changes brought by changing demographics and new technologies.

The ageing of Europe’s population will lead to changes in the level and composition of consumption. For example, an older population is expected to consume more house- and home-related services, but less transport-related services. This will result in changes in energy consumption and emissions. Public finances will play a major role in enabling sustainability transitions through investments in innovation, infrastructure and ecosystems but these will compete with expanding demand for spending on areas such as pensions and health.

Again, the role of the private sector will be crucial. As the EEA said, the key criteria for success will be the financial sector’s attitudes to and the economic attractiveness of investing in the sustainability transition.

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