Financing the green energy transition

Report 1 - A $50 trillion catch:

This report, the first in the series, provides clarity on why the cost of capital is high for green projects, reducing the attractiveness of projects, and explains the varying impacts of these risks which translate into higher financing costs. It also highlights the benefits of taking action – the projected savings of US$50 trillion through 2050 could reduce the annual investment needed in the energy transition by over 25%.

Report 2 – Innovative financing for a just transition:

This report, the second in the series, details how to de-risk and lower financing costs for green projects, to enable private capital flows and establish a truly dynamic project finance environment. One that can accelerate the investments in green energy technologies, fuel innovation and enable a more equitable and affordable energy transition, particularly in developing economies.

Better financial solutions to better our world

Key decarbonization solutions – including large-scale renewable development, electrification of end-uses, green hydrogen uses in hard-to-abate sectors and energy efficiency improvements – are generally highly capital intensive and require significant investment. Yet funding levels remain below what’s needed to help meet 2050 net-zero goals.

Climate finance can fuel and power a just energy transition, but the race to achieve net-zero greenhouse gas emissions by 2050 will likely require an annual global investment in the energy sector ranging from US$5 trillion to more than US$7 trillion – yet less than US$2 trillion is currently being invested on a yearly basis.

Deloitte’s economic analysis goes beyond finance to help provide a holistic overview, employing analysis and economic and financial modeling to consider the technology landscape, policy environment, and a matrixed vision of financing challenges, identifying and detailing what is needed to allow capital to flow, how finance can fuel innovation and power a just energy transition.

Failure to close the financing gap could be costly – especially for the Global South

Financing structures can add extra cost to green investments based on risks from political, market and transformation barriers for a specific geography and project.

• As capital providers expect more return to compensate for risk, the riskier the project, the higher the cost of capital.
• Financing costs, stemming from the cost of capital, can account for as much as half of the investments required to fuel the transition.
• Developing economies that should receive a significant portion of investments (70%), often face greater investment risks and projects in these areas tend to be less bankable, i.e., their risk-return profiles likely do not meet the investors’ criteria to mobilize sufficient capital, driving up the costs, and reducing the available capital.

Focus areas to help leapfrog the barriers on investments in green projects:

Reducing the risks of green projects

The key risks can be grouped as macro risks, market risks, technical risks and financial risks:

1. Macro risks: Political and regulatory risks which stem from a lack of political visibility and stability, incomplete or inadequate regulatory frameworks, or poor administrative procedures, as well as currency risks.
2. Market risks: All commercial and economic risks such as revenue, liquidity, missing market, commercial track record and economic competitiveness risks.
3. Technical risks: Underperformance, missing infrastructure, construction delays and cost overrun risks.
4. Financial risks: All the risks that make it difficult for projects to access capital, mainly stemming from the limitations of the current project finance environment and of underdeveloped financial markets.

De-risking tools such as climate policies, guarantee mechanisms, offtake reliability, the development of domestic capital markets, and leveraging blended finance can mitigate the risks of green projects and reduce financing costs.

Bridging the cost gap between fossil-based GHG-intensive products

Bridging the cost gap between fossil-based greenhouse gas (GHG)-intensive products and their green counterparts through research and development, upfront investment support schemes, the addition of operating premiums to renewable energy systems and penalization of GHG-intensive assets.

Transitioning away from fossil fuels

Phasing out fossil subsidies, compensating for the early phase-out of some of the fossil assets and facilitating the job transition of people employed in GHG-intensive industries to clean ones can facilitate the transition both socially and economically, preparing the groundwork for cutting fossil assets.

Innovative financing can drive down costs through an efficient, effective, and timely combination of de-risking instruments. These instruments, which deal with market information asymmetries and regulatory framework adjustments, can drastically reduce systemic and project-specific risks, bringing as much as US$40 trillion of savings.

Through financial learning effects, as investors and lenders improve their risk perception of green projects over time, and markets and regulatory environments mature, the cost of capital can decrease even further.

As interest rates for sustainable projects are expected to decline over time, projects can benefit from the financial learning, and continued cost reduction can occur even after construction is complete. The cost of debt and equity of completed projects can be designed to be reviewed each year and modified based on the market rates for new projects. Enabling the refinancing of long-term green projects can help make the transition more affordable by allowing projects to lower their financing costs as capital markets mature. Refinancing debt and equity can unlock as much as US$10 trillion of savings cumulatively through 2050.

Together, de-risking instruments and innovative finance mechanisms can significantly reduce the cost of capital, making the green transition both possible and affordable. Deloitte’s detailed analysis suggests that these strategies could save US$50 trillion globally through 2050.

Policymakers, investors and lenders, development financial institutions, and international organizations should work together to help reshape the current project finance environment.

To make the green energy transition affordable, stakeholders must fully incorporate the green energy transition in their capital provision strategies, adapt to new ways of assessing and quantifying green energy and fossil-based projects, manage systemic risks, and set up adequate instruments to support the first waves of green energy projects, to activate and maintain both techno-economic learning to cut upfront costs and financial learning to minimize financial hurdles.

The window to bring the world on course for net-zero targets for an affordable and just energy transition is closing fast. Policymakers, investors, lenders, and international organizations must work together to reshape the current project finance environment into a functional green finance ecosystem. These reports deliver the steps, the mechanisms, and stakeholder solutions to foster an affordable transition, turning urgency into action.

Also read our point of view "When Green Energy Meets Geopolitics – How to Achieve Energy Security in a Polarized World":

To achieve global climate goals, the world must transform from a fossil fuel-based economy to a fully renewable energy system. This energy transition is a global imperative. It will be mainly up to businesses, investors and public actors of the industrialized world – where demand for green energy is highest – to make this happen.

Ensuring a secure supply of green energy in Europe is much more than an extremely capital-intensive enterprise. It also faces immense strategic challenges. Recent wars and structural changes to the global order make it imperative to analyse the geopolitical context of green energy supply chains and must form an integral part of any transition strategy.

This point of view explores today’s geopolitical context and derives strategic options for policymakers. It has been published and presented at the Munich Security Conference 2024.

>> Download the point of view "When Green Energy Meets Geopolitics – How to Achieve Energy Security in a Polarized World" here