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FINANCING MECHANISMS

The financing of the measures which have been taken and must be taken to meet the Kyoto Protocols and the greater IPCC prescriptions, are of course vital to their achievement. While many of the measures undertaken are cost-effective in the long run, the capital investments needed for their accomplishment can be very great. A brief review of available financing therefore is a necessary consideration to establish the feasibility of the accomplishment of the Kyoto and IPCC goals.

INTERNAL RESOURCES

Subsidy Removal, Pollution Taxes, Government and Utility Financing. As indicated previously, there are a number of financial resources that can be generated internally by any government. The largest of these in most countries is removal of fossil fuel subsidies. Many of the energy efficiency measures described above achieve such large savings over time as to provide very substantial revenue resources. Taxes on pollutants and fossil fuels have been used in many countries to help finance carbon reduction measures. Emission trading rights have been utilized to lower the costs of pollution reduction measures. Governments have used general tax revenues to support efficiency and renewable programs and R &D for new technologies to address climate change problems. They also have initiated programs to require purchase of energy efficient appliances, lighting and buildings for their own use. And they have required their electric utilities to do integrated resource planning which includes DSM and renewable resources and to assist customers in acquiring them.

Utility Programs Funded From Electricity Charges

As mentioned earlier, many utilities in the U.S. historically were required by state regulatory commissions to assist in the financing of energy efficiency and renewable resources for their customers. These programs were usually in the form of rebates for efficient equipment and energy audits of customers' homes or places of business. In some cases, the utilities provided loan programs repayable by a charge on customer utility bills. Similar programs persist in some states and in several countries. In a few cases, the utility may act as retailer of energy efficiency equipment. For example, Scottish Hydro-Electric offers its customers arrangements for direct purchases of energy efficient home appliances rated in the top efficiency categories of the European Union appliance label.

In many instances, clean energy measures can be funded internally by electricity charges. Thus, Japan's A10,000 Roofs@ successful solar PV program was funded by electricity surcharges to pay one-third the installation costs of household PV systems, with utilities purchasing any excess power at retail electricity prices. Most generation, transmission and distribution efficiency improvements are financed by electricity charges.

Often utilities maintain programs of rebates, customer loans and grants to encourage the purchase of energy-efficient equipment and renewable resources. Sometimes these incentives are most effectively given to the manufacturer rather than the end-user. Consumer incentives have the advantage of educating the end-user, putting the sponsor in direct contact with consumers and giving the sponsor recognition for promotion of efficient products.. Manufacturer incentives can reduce paperwork and administrative costs and assist with transformation of the market by lowering the price of efficient projects and making them more widely accepted.

An example of a successful manufacturer incentive (involving both government and utility financing) is the Poland Efficient Lighting Project, initiated to increase the use and acceptance of compact fluorescent light bulbs (CFLs) in order to reduce evening peak load demand in areas with insufficient distribution capacity. The Project included an incentive to manufacturers reducing wholesale CFL prices by $2 per CFL. The Project resulted in the sale of over 1.2 million CFLs over a 2-year period and installations of 2-9 CFLS in target neighborhoods, resulting in a 15% peak demand reduction. The program was also highly cost-effective for the utility compared with adding new generation, saving an average of 50% over 5 years and 20% over 10 years.

As described earlier, with the advent of deregulation, direct utility financing has been replaced in many jurisdictions with non-by-passable systems benefit charges placed on the distribution utility which remains a monopoly to fund public benefit programs including efficiency and renewable energy measures. The funds collected are usually placed in an independently administered trust fund which makes grants and loans for energy efficiency and renewable projects, low income programs, etc. Increasingly, Astandard offers@ are being used by these funds as a payment per unit of energy saved or standard contracts are proffered in order to reduce transaction costs.

Government Financial Assistance

The Netherlands permits accelerated depreciation of renewable energy, has tax deductions for renewable investments of between 40% and 52% of the costs, subsidized loans for green projects at 1-2% below prevailing rates, a program that authorizes the use of a Agreen label@ for renewable generation, and a temporary experimental program providing green mortgages that permit the borrower of houses costing $188,000 or less who installs renewable equipment to get a loan of up to $35,000 for 10 years at a rate roughly 20% below market prices (roughly4% instead of 5%).

In New Zealand, an Energy Saver Fund was established and funded by an $18 million 3-year appropriation, as part of restructuring legislation to support residential energy-efficiency programs. Like UK's auctions for renewables, the New Zealand law calls for bids against the Fund for efficiency programs.

In a number of countries, support for renewable projects also is available from national and local agencies. One example is India, where there is a Federal Ministry for Non-Conventional Energy Sources and state Renewable Energy Development agencies, which support renewable energy projects. In Mexico, solar homes have received government grants of 89% of total project costs, 50% from the federal government and 30% from the states.

Brazil supplies 60% of its primary energy requirements from renewable energy sources, 37% from hydro and 23% from biomass under programs sponsored by the government. The biomass figure largely results from an ethanol fuel production program started in 1975 from sugar cane crops grown specifically for fuel use, presently occupying 2.7 million hectares of land and employing about 350 distilleries. Ethanol currently provides over 40% of the fuel consumed by cars and light trucks. It is estimated to have saved Brazil over $40 billion in oil imports, excluding the costs of the program. Ethanol was heavily subsidized by the government until 1998 when it was deregulated and taxes from gasoline sales were substituted to subsidize its costs. To get the program started, the state-owned oil company guaranteed ethanol purchases on a cost plus basis and tax incentives were provided for the purchase of neat ethanol-using vehicles. 9 metric tons of carbon emissions are now being avoided annually and local emissions of lead, sulfur and carbon monoxide have been greatly reduced. In addition, the ethanol production supports about 700,000 rural jobs.

In 1985, Brazil established a national electricity conservation program known as PROCEL, housed at the national electricity utility. PROCEL funds energy efficiency projects carried out by state and local utilities, state agencies, private companies, universities and research institutes. The program's energy efficiency measures are estimated to have saved about 5.3 TWh/year in 1998, equivalent to 1.8% of Brazil's electricity use, and another 1.4 TWh due to power plant improvements. The program avoided about 1,560 MW of new capacity, saving about $3.1 billion of avoided investments in new power plants and transmission and distribution. facilities, with investments of only $260 million. It is estimated that PROCEL sponsored efficiency programs reduced greenhouse gas power plant emissions in 1997 by 30%. In addition, a number of new technologies are now manufactured in Brazil, including demand limiters, lighting controls, electronic ballasts for fluorescent lamps and solar hot water heaters

The U.S. Department of Energy has joined with top finance firms to create the International Performance Measurement and Verification Protocol. Like FHA mortgage rules, the Protocol standardizes streams of energy savings in buildings so that they can be aggregated and securitized. The Protocol as of November, 1997 had been adopted by more than 20 countries including Brazil, China, India, Mexico, Russia, the Ukraine and the U.S. The Protocol has been successful in stimulating a market in which loans to finance energy savings can be originated and can be affordably finance without use of internal capital or competition with other internal investment needs.

Commercial Loans

Renewable projects such as biomass combustion/cogeneration, geothermal, hydropower and wind farms are considered to be mature, low risk and commercially ready technologies which have a reasonably established cost basis, and thus often have access to commercial lenders. However, renewable projects tend to have higher capita to O&M cost ratios than conventional systems and require longer-term debt financing, making them harder to finance. They also have difficulty establishing project cash flow because their revenues are not secured by enforceable fuel supply or power purchase contracts. Also, it is difficult to get non-recourse financing because many of the suppliers are new and do not have extensive financial performance records.

Nevertheless, commercial banks often do make loans to finance energy efficiency and renewable installations where the projects produce sufficient net revenues to justify commercial financing. There are problems with achieving commercial loans for disbursed efficiency and renewable energy installations, however, because the projects tend to be small in scale with numerous points of sale; some of the

technologies are relatively new and unproven; and for renewables, the revenue streams may be uncertain because of the risks of unavailability of sufficient sunlight or wind.

Aggregated Loans

One way to overcome the problems with small loans for distributed resources is to aggregate the loans in various ways; examples follow:

Installment Loans. An innovative credit arrangement to overcome these problems has been adopted by several countries, to make loans to credit-worthy institutions like local utilities which set up revolving funds to manage installment loans to individual and small business basis on relatively attractive terms. Such arrangements have been adopted in Indonesia for its Solar Home Systems Project, in India for a solar photovoltaic program, in Kenya for its wood stove upgrading program and for off-grid photovoltaic systems, and in Bangladesh, the Dominican Republic and Honduras.

Micro Utilities. Another innovative mechanism is financing service providers with the creation of renewable energy micro utilities which sell energy services, permitting financing to be aggregated to the service provider, the end-user being required to make payments based on the level of energy services received. This approach has been successfully demonstrated in the Dominican Republic and is now being implemented in a 10,000 solar home system program by a rural electric cooperative in Bolivia; and mortgage financing, allowing homeowners to incorporate the costs of installing renewable systems into the overall costs of their homes through mortgage financing B this approach is being tested in a rural housing/electrification program in South Africa.

Grameen Bank. A particularly fascinating development is the creation of micro lending organizations in some of the poorest countries for their most impoverished populations. Thus, Grameen Bank ("village bank@ in Bengali) in Bangladesh has started a lending program for people earning on average less than $1 a day. Today, Grameen is established in nearly 39,000 villages in Bangladesh, lending to approximately 2.4 million borrowers. Established in 1986, it reached its first $1 billion cumulative loans in 1995. It took only two more years to reach $2 billion. The repayment rate hovers between 96 and 100%. In a typical year, 5% of Grameen borrowers, representing 125,000 families, rise above the poverty level. The Grameen model has now been applied in 40 countries. In all, about 22 million poor people around the world now have access to small loans. Grameen has now established more than a dozen enterprises, often in partnership with other entrepreneurs. One such enterprise is Grameen Skakti (Energy), which has been helping to install solar energy systems into village households.

Leasing Programs

Leasing equipment is an innovative approach to overcoming the financing problems for small systems and to make them affordable. For example, the French government and France's largest utility developed the largest leasing program for CLF/s on the island of Guadeloupe, seeking to reduce evening peak electricity demand. The leasing program's incentive was a coupon allowing customers to lease CFLs at no initial cost, the lease payments being identical to the electric bill savings. 34% of all households redeemed the coupons for an average of 7.8 CFLs each. This success stimulated an identical program for Martinique, which resulted in distribution of 345,000 CLFs in just a few months. The two programs resulted in 7 MW of peak demand savings on each island and 29-33 GWh of annual electricity savings. Also, In the Dominican Republic, the U.S. company, Soluz operates a photovoltaic leasing program.

Several companies have also innovated with the leasing of services rather than of the equipment. The Carrier Corporation in the U.S. has a program to lease "comfort services," the Schindler elevator company leases vertical transportation services and Dow leases solvent services. Service leasing improves not only energy efficiency, but also incentives; the more efficient Carrier's air conditioning systems become, the greater its profits and the better service it provides at lower cost to more customers. Service leasing aligns the provider's incentive with the customer's needs.

Vendor Financing

Sometimes equipment suppliers will not only construct, install and operate systems, but also offer equipment financing, sometimes on favorable financing terms. A vendor may be the manufacturer, the wholesaler or retail distributor or a contractor. The vendor is motivated to offer financing in order to sell the more efficient equipment. The vendor often becomes the aggregator of capital demand for individual installations and may provide maintenance or warranty support, particularly with equipment leases, to assure the equipment remains in good working order.

Performance Contracting

Performance contracting, involving third party financing, has been widely used to finance energy efficiency projects in the U.S. and Europe. The customer contracts with an Energy Service Company (ESCO) to provide the desired energy efficiency improvements, its financing, and often other related services like operations and maintenance. The financing is repaid, at least in part, from savings achieved by the efficiency measures or equipment installed; often, the ESCO also participates in the savings. To date, ESCOs have not been very successful in the U.S., however, filling only niche efficiency applications for large industrial, commercial and institutional customers. Adequate long-term financing for ESCO operations is critical, since the ESCO must put up initial capital that may not be paid off from savings for several years. ESCO financing is particularly important to establish ESCOs in developing countries.

EXTERNAL RESOURCES

In the past few years, the international lending organizations: the World Bank, regional banks, the International Financing Corporation (IFC), the UN Development Program (UNDP) and the UN Global Environmental Facility (GEF) have started major programs of financing energy efficiency and renewable projects in developing countries. They must do more, but their resources will never be sufficient to meet developing country requirements. The capital requirements of electric power growth in developing countries (projected at 5% to 7.5% per year) has been estimated to be $1.4 to $4 trillion over the next two decades. Unfortunately, the World Bank currently lends less than $4 billion per year to the energy sector, while commercial lending stands at about $16 billion per year (as of 1991). It is clear that private and public internal sources will be required if the need is to be met.

The World Bank and its sister international lending institutions, which had for many years made wasteful investments in highly capital-intensive energy inefficient technologies, have changed direction and are now making major funding available for energy efficiency and renewable technologies. For example, the World Bank has established the Asia Alternative Energy Unit (ASTAE) to develop only renewable and energy efficiency projects; ASTAE has helped the Bank to lend over $500 million for renewable projects in the Asia region. The World Bank also financed a Renewable Energy Small Power Project in Indonesia, a component of which funds medium-scale/isolated grid systems there. A World Bank Market Transformation Initiative loan of $5 million fosters a photovoltaic industry in Kenya that is selling over 20,000 systems annually with a 300kW capacity, and has already sold over 80,000 systems providing electricity for some 250,000 rural dwellers.

Recent examples in other international financing institutions: The International Finance Corporation has recently launched a $100 million Renewable Energy and Energy Efficiency Fund. And the Asian Development Bank approved a $100 million loan to the Indian Renewable Energy Development Agency for biomass cogeneration projects in India. The Global Environmental Facility (GEF) donated $10 million to Argentina to assist Argentinean cooperatives in the removal of barriers to installation of windpower and solar photovoltaic development, including subsidies for equipment investment and technical assistance and studies.

A problem that these international lending facilities have had to overcome is administering small loans because of the small size of many efficiency and renewable projects. They have started to assist in the creation of local and regional lending institutions to manage the smaller loans on their behalf.

Emerging from the negotiations of the conferences of the parties to the Kyoto Protocol are a number of mechanisms to promote the investment by companies in the industrial countries in carbon mitigation in the developing countries. Thus, a Joint Implementation Program has been instituted by which developed and developing countries can collaborate on carbon mitigation projects. Canada, Japan, Norway and Germany have very active Joint Implementation Programs that include support for renewable programs. Costa Rica has an extensive pilot Joint Implementation Program, with ten projects thus far accepted, including three windpower developments, four forestry projects and water treatment projects. In Central America, similar Joint Implementation Projects have been approved in Mexico (including lighting and forestry carbon sequestration projects); Honduras (a solar electrification program, lighting and biomass project); Bolivia (solar electrification); Ecuador (forest conservation); and Belize (forest conservation). The Business Council for Sustainable Development B Latin America has been active in these endeavors.

As another example, the Czech Republic has three registered Joint Implementation Projects covering forestry rehabilitation, coat-to-gas conversion and upgrading of a cement factory. Indonesia has four joint implementation projects, one with Tokyo Electric Power for renewable rural electrification and others for efficient logging, recycling of paper sludge and solid waste and installing an improved cooling system for cement clinker production.

Article 12 of the Kyoto Protocol provides for Emissions Trading, Joint Implementation Measures and a new Clean Development Mechanism (CDM) for encouraging industrial countries and companies to invest in greenhouse gas emission reductions in developing countries. By participating in these measures that generate greenhouse gas reductions in a developing country, an industrialized country or its companies could earn carbon emission reduction credits to meet the country's Kyoto protocol obligations. In the U.S., legislation has been proposed to give companies credit now against future carbon reduction requirements for the climate mitigation measures that they finance now in developing countries. Some companies have made such investments already in anticipation of credit legislation. International emission trading allowances also have been proposed to reduce the costs of carbon mitigation measures.

However, while these measures are strongly supported by the U.S. and some other industrialized countries, they are highly controversial with many developing countries and environmental organizations. This is so because of doubts about their reliability and enforceability and because of the belief that they are just escape valves by which these industrialized countries can avoid reducing their own emissions. The extent to which these measures may be used to meet the Kyoto Protocol carbon emission goals and the rules under which the measures will operate are key among the issues being negotiated by the Conferences of the Parties.

Nevertheless, these trading measures offer great promise of providing the means by which developing countries can acquire the resources needed by them to cover the up front costs of instituting clean energy solutions. Whatever compromise may be adopted by the Conference of the Parties, some provision is sure to be made for the use of such measures. Care will have to be exercised to assure that the industrial country investments in developing country projects, to be eligible for credits, provide real and sustained carbon dioxide emission reductions. Provision also will have to be made to assure that there will be no backsliding and that the measures protect biodiversity. Since the developing countries are projected to produce the majority of future carbon dioxide emissions, however, these or other measures are vital to assure that these countries can acquire the necessary capital, information and training to permit them to participate fully in global warming solutions.

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