The International Energy Agency (IEA) estimates that investment in reducing the volume of energy wasted, commonly referred to as energy efficiency, must increase five-fold –- to more than $1 trillion a year –- to effectively contribute to limiting global warming to 2°C (and preferably to 1.5°C) by 2050 as stated in the Paris climate agreement. A recent UN report highlights the roles of policy and finance in creating a marketplace for energy efficiency and how new reporting obligations for financial institutions are likely to increase investor appetite. To unlock the global economic potential of energy efficiency, however, much more attention needs to be paid to the non-energy benefits of investments in energy savings, such as improved production efficiency and quality for businesses and cleaner air for everyone.
Published in December 2017, the report “Overcoming Barriers to Investing in Energy Efficiency” by the United Nations Economic Commission for Europe (UNECE) and the Copenhagen Centre on Energy Efficiency, a joint initiative of the Danish Government, the UN Environment and the Technical University of Denmark (DTU), brings voices from outside the energy efficiency world into the debate. A wide range of experts including financial institutions, international and intergovernmental organisations, non-profit organisations and academia, were surveyed for the report, which, in addition to citing well-documented challenges to investment in energy efficiency, such as low energy prices and a lack of understanding of the market by banks and financial institutions, includes various recommendations. These include: “Improving regulatory frameworks […] making financial institutions more aware of energy efficiency financing [and] raising awareness about the multiple benefits of energy efficiency projects.”
Key to the focus on benefits is the call to pay more attention to those that are not associated with energy savings directly, such as higher asset values, reduced climate risk and better air quality. These non-energy benefits (NEBs) of energy efficiency investments are a relatively recent topic of interest for project promoters and financiers (see box below). According to the report: “Raising awareness about the multiple benefits of energy efficiency projects can be recommended as one of the most effective measures to increase investment and financing flows to energy efficiency projects. This may require developing a system of assigning value to non-economic benefits, so that it can be properly taken into account when making investment decisions.”
To date, the top NEB is increased asset value in buildings, according to Peter Sweatman, an energy efficiency entrepreneur. He says that this is “a result of the increased rentability, lower gap periods and reduced regulatory risks attached to high performing commercial properties”. He adds: “There is work underway, for example, by non-profit Buildings 2030, to better capture health benefits and this is particularly interesting in the context of future low carbon cities and air quality concerns.”
Steve Fawkes, a senior energy efficiency expert providing consultancy services to government and industry worldwide, comments: “It is hard to establish a standardised way of assessing the different types of NEBs in many situations. I think that the real challenge is to persuade people who develop and then assess projects that NEBs can have a monetary value and often it is much more than the value of energy savings. For example, a small reduction in absenteeism because a building is greener and more pleasant to work in will be worth much more than energy cost savings that result.
Such gains have been won until now mainly because of policy drivers, including regulation related to minimum energy efficiency standards (MEES, formerly known as Minimum Energy Performance Standards or MEPS). In a January 2018 report, the High Level Expert Group (HLEG) on Sustainable Finance, established by the European Commission in 2016, gives the example of the Netherlands, where “minimum energy performance standards are proving highly effective at promoting the cost-effective upgrades of properties…and encouraging banks to review the energy performance of their asset portfolios.” It cites how Dutch bank DNB found that 46% of bank loans related to commercial real estate currently involve collateral with energy performance certificates (EPCs) at the high end of the energy wastage scale. “Starting in January 2023, however, all Dutch office buildings must have at least a level C energy label, or else be taken out of use,” prompting banks to identify ways to improve the energy efficiency of their loan book.
In some European countries, energy efficiency standards legislation makes it illegal to let energy inefficient properties. Fawkes comments: “In the UK and the Netherlands, the regulations on MEES will put a significant proportion of financed assets in the real estate sector at risk of becoming stranded and non-financeable. This is a wake-up call to investors.” Hence, making a building less energy leaky will not only benefit the occupiers of the property, but also the owners and the financiers, which will be left with a more profitable building.
Energy efficiency improvements can deliver benefits across the whole economy. In general, analysis of GDP changes due to large-scale energy efficiency policies show positive outcomes with economic growth ranging from 0.25% to 1.1% a year. The potential for job creation ranges from eight to 27 job years for each €1 million invested in energy efficiency measures.
Energy efficiency improvements can have significant impacts on public budgets, for example, by reducing fuel costs for heating, cooling and lighting, or reducing budget for unemployment payments when energy efficiency policies lead to job creation. An initial evaluation of initiatives to advance energy efficiency in buildings, for example, calculated a value of $41 billion to $55 billion to the European public budget.
Health and well-being
Energy efficiency retrofits in buildings, such as insulation, can improve occupant health and well-being, particularly among vulnerable groups such as children, the elderly and those with pre-existing illnesses. The potential benefits include improved physical health, such as reduced symptoms of respiratory and cardiovascular conditions, rheumatism, arthritis and allergies, as well as fewer injuries, and even improved mental health through reduced chronic stress and depression. Improving indoor air quality through energy efficiency measures could save the EU economy as much as $259 billion annually.
Industrial energy efficiency measures deliver substantial benefits in addition to energy cost savings, such as enhancing competitiveness, profitability, production and product quality, and improving the working environment while also reducing costs for operation and maintenance, and for environmental compliance.These benefits can be up to 2.5 times (250%) the value of energy savings.
Utilities and energy providers gain in a variety of ways from energy efficiency measures. Direct benefits include lower costs for energy generation, transmission and distribution, improved system reliability, dampened price volatility in wholesale markets and the possibility of delaying or deferring costly system upgrades. Providers can also benefit indirectly through benefits that accrue to customers, which in turn can reduce arrears and administrative costs for utilities.
Efforts to boost energy efficiency through policy have experienced some success. Globally, energy efficiency investment grew 9% in 2016, despite lower energy prices, and in the EU policy measures have led to an emerging energy efficiency market in the buildings sector. This was estimated in 2015 at €109 billion. Yamina Saheb, senior climate and energy policy analyst at OpenExp, a think tank working on energy and climate change based in Paris, France, says: “This market has resulted from the implementation of measures aimed at meeting the EU target of 20% energy savings by 2020 and from the recovery measures implemented in the building sector as a response of member states to the 2008 financial and economic crisis, such as support for maintaining jobs in small and medium sized businesses.”
However, current policies fall short of what is needed, says Saheb, as most retrofits are not “deep” renovations (to low or zero energy consumption level). More ambitious policy goals, combined with public finance to significantly reduce payback times for investment in building materials that reduce energy use, will transform this market and significantly lower costs, she says.
Fawkes insists that getting a conversation going now on the issue is vital. “The key thing here is to continue to talk about the existence of NEBs and get project developers and investors to include them in economic assessments.” The HLFG recommends that the European Commission draw up a process to show financial institutions how to better identify and measure “these multiple value streams to…help de-risk energy efficiency investments.”
At a global level, outputs from the Task Force on Climate-related Financial Disclosures (TCFD), set up by the Financial Stability Board of the G20 countries to help companies improve their ability to assess and price climate-related risk and opportunities, are going some way towards responding to one of the main recommendations from the UN report, namely: “To make financial institutions more aware of energy efficiency financing.” Fawkes says that: “The types of policies that will really affect financial institutions are very much linked to the recommendations from the TCFD. These would be banking regulations that require financial institutions to assess and report climate-related risks.”
He highlights that France, the Bank of England and others are already “heading this way”. Introduced in August 2015, Article 173 of France’s law on “energy transition for green growth” requires investors to report on how their activities contribute to the energy transition and the fight against climate change. The UK government has indicated too that it could be willing to force companies to disclose the financial risks that they face from the effects of climate change and the move away from fossil fuels to cleaner sources of energy, potentially motivating investors and financial institutions to acquire “green” or energy efficient assets that have lower risk.
This, in turn, is also likely to increase demand for energy efficiency investment opportunities as part of a greener financial system. The DEEP database, the biggest database of energy efficiency projects in Europe: “Shows the continued cost competitiveness of energy efficiency investments and reveals gaps in the data in multiple non-energy benefits that could drive many more similar projects if factored into investment decisions,” says Sweatman.
According to Fawkes, there are four key elements if energy efficiency is to attract increased investor appetite and transitioning to mass-scale investment, namely standardisation in the way that projects are developed and documented, finance, large-scale project pipelines and supply-side capacity. He explains: “Along with standardisation, we need finance for projects and for development, which is a completely different type of funding: a high-risk equity-type investment. Project pipelines must be at the scale that investors need, in the order of hundreds of millions of euros. And as well as building capacity on the supply side, on the demand side, more people need to know about the benefits of energy efficiency investment, especially the more strategic and more attractive non-energy benefits.”
HLEG also underlines the need to continue to dismantle regulatory barriers that it says have impeded the flow of private capital to the energy efficiency sector. Its report highlights how until last year, Eurostat, the part of the Commission responsible for harmonising statistical methods across the EU, was applying an overly strict interpretation of international financial rules to EPCs in government accounts. “This led to some local authorities being unable to invest in much needed energy saving measures… because of uncertainty as to whether these would be on or off government balance sheets.” Clarification of the rules since September 2017 means that local authorities and governments can now invest in energy savings while complying with the EU treaties and: “Opens the way for billions of new investments to make European buildings more energy efficient.”
A second constraint stressed in the report is the: “Lack of systematic tagging by financial institutions of loans to the building sector with energy performance and wider environmental data.” Green tagging requires banks to identify the environmental attributes of their loans and underlying asset collateral as a way of scaling up sustainable finance. “Without this information, banks are unable to price loans effectively or generate a pipeline of energy efficient mortgage assets that comply with the criteria for access to the growing green bond market.” But it adds that this is changing, noting that the European Mortgage Federation is developing a standardised energy efficient mortgage, which will enable a correlation to be made between efficiency improvements and the lower probability of borrowers defaulting on their loans. Likewise: “A growing number of European banks are also starting to tag their commercial and real estate loans.”
“To create a market place for energy efficiency, we need to have demand and supply,” concludes Fawkes. “We have both, but we need to accelerate the growth of this market and work to improve the quality of supply and demand,” he says. “On the demand side, it’s clear that the financial community is making efforts to better understand the nature of energy efficiency, how to make it financeable and how to assess value and risk. But to ramp up demand from the market, more people need to know the benefits of energy efficiency, especially the more strategic and more attractive non-energy benefits. Mere energy cost savings is not enough.”
Text: Clare Taylor
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