Why is low-carbon investment dropping in the UK?

Wind Farm in the Solway Firth.

Wind Farm in the Solway Firth. (Credit: nailzchap/istock)

A new report from the UK’s Environmental Audit Committee (EAC) warns of a ‘dramatic and worrying collapse’ in green investment in the UK, which is at a 10-year low.

This is concerning, since meeting the UK’s emissions reductions targets under the 4th and 5th carbon budgets will require a significant amount of financing. The Committee on Climate Change (CCC) estimated in 2015 that meeting our carbon budgets up to 2032 could require investment of up to 1% of GDP per year.

But instead of increasing, investment in the UK has dropped significantly: a 56% decrease from 2016 to 2017. Whether this ‘collapse’ is a temporary dip or part of a longer-term trend is unclear.

The EAC point out some possible reasons for the drop in investment – in particular, policy uncertainty, the privatisation of the GIB, and the uncertainty around the UK’s relationship with the EIB – but it is not easy to definitively identify the cause of the decline, or how large the investment gap could be in the future.

A series of policy reversals could have fuelled the drop in green investment

The EAC point out that in 2015 the government reversed a number of low-carbon policies and posit that this ‘harmed confidence in low-carbon projects’.

The government closed the ‘Renewables Obligation’ to onshore wind one year earlier than had previously been announced, removing the obligation for energy suppliers to source some of their energy from onshore wind. They also removed the Climate Change Levy exemption for renewables, which meant that businesses started having to pay the tax on renewable energy.  The government also reduced Feed-In-Tariffs for small scale renewable generation – these are payments to households and businesses who generate their own green energy, for example using solar panels. The government have also excluded onshore wind and solar from Contracts for Differences (CfD) Auctions, which provide a fixed price for low-carbon electricity over a specified time period.

In addition to cutting these renewable energy incentives, the EAC highlight that the government cancelled the Zero Carbon Homes policy which was due to come into force in 2016 and £1 billion promised for Carbon Capture and Storage was scrapped.

Weak or shifting climate policies can erode investor confidence

Investors look for government policy that is clear and credible, especially when the rate of return on their investment could drop because of a change in government policy, such as the removal of a guaranteed price (for example through a price contract) or guaranteed quantity (such as a quota) for renewable energy.

Policy uncertainty is, generally, bad news for investor confidence. However, the policy reversals the EAC point are relatively recent and might have varying effects on different technologies and investors. For example, offshore wind developers can still get guaranteed price contracts through CfDs, but onshore wind and solar developers were excluded from the most recent CfD auction round.

Looking at the low-carbon transition as a whole, an analysis we carried out on the government’s plans for achieving clean growth–the Clean Growth Strategy published last October–finds that the policies and proposals of the government so far are not sufficient to meeting the UK’s legally binding carbon budgets.

It is not clear whether investors are paying close attention to the Clean Growth Strategy itself, but it could send a signal about the government’s commitment to meeting the carbon budgets. The lack of specificity in key areas (such as energy efficiency) raises questions about how exactly these emissions reductions will be financed.

The privatisation of the Green Investment Bank could cause a drop in funding

Another factor the EAC point out is the privatisation of the Green Investment Bank (GIB), a government-backed bank with a mission to boost green investment. The government sold it to a consortium led by Macquarie Group Limited for £2.3 billion last summer.

In evidence to the EAC in January, we noted concern about how the privatisation of the GIB could affect investment in the UK.

The GIB had a two-fold role: providing direct funding for green projects and crowding in private sector investment by providing reassurance that the projects have been vetted. So far the bank has provided £3.4 billion in direct funding for projects in energy efficiency, waste and bioenergy, offshore wind, and onshore renewables and for every £1 the GIB has invested, it mobilised another £3 in private sector investment. (PDF)

The Bank’s green mission is meant to be safeguarded post-privatisation by a ‘special share’ arrangement, in which five trustees will have special voting powers to ensure that “the Green Investment Bank remains permanently under a legally enforceable obligation to invest exclusively in accordance with its green purposes.” However, there is dispute over whether this will be practically enforceable.

Even if the bank did stick to its mission it might focus on more profitable projects rather than ones that might otherwise have a hard time attracting investors. It could also shift its focus internationally and away from the UK.

A year after privatisation, it is likely too early to draw firm conclusions.

Brexit might mean a reduction in European Investment Bank Funding too

The European Investment Bank (EIB), which is the EU’s development bank, also contributes significantly to UK green projects. In 2016 the EIB committed £5.5 billion to UK projects including more than £1.2 billion in renewable energy investment alone. For comparison, the Green Investment Bank invested £700 million.

The UK’s relationship with the EIB after Brexit is not yet clear but must be clarified as soon as possible. From 2016 to 2017, EIB funding to the UK fell from £5.5bn to £1.8bn, attributed in part to uncertainty around Brexit.

The EAC recommend that the government “negotiate to maintain our relationship with the EIB”. However, reports say that the European Commission has already said that the UK will lose access to the EIB after Brexit.

If it is not possible to maintain a relationship with the EIB, the government will need a contingency plan to plug the gap in funding.

The drop in UK green investment is likely due to a mix of factors – but the government must find a way to reverse it

The EAC have drawn out some of the possible causes of the recent drop in green investment in the UK. It is likely that this ‘collapse’ has been caused by a confluence of factors but unpicking the impacts of each is not easy.

What we do know is that to drive the UK’s low-carbon transition green investment needs to increase significantly – and a big chunk of this will need to come from private finance. The government can help plug the gap by ensuring climate policy is credible and ambitious enough to mobilise the investment needed.

Sini Matikainen is a policy analyst at the Grantham Research Institute on Climate Change and the Environment. The views expressed in this commentary are those of the authors and not necessarily those of the Grantham Research Institute.