What?

Emerging economies need $1 trillion per year of investment into clean energy

Why?

Without this, the developed world will account for the bulk of emissions by 2030

What next?

New investment vehicles are needed to attract private investment and loans to the developing world

The cost of reaching net zero will require significantly more expenditures by emerging and developing economies (EMDEs), the International Energy Agency (IEA) has warned, potentially reducing the whole world’s chances of decarbonising the global economy.

Without a seven-fold increase in green investment in EMDEs, up from $150bn per year to $1 trillion per year by 2030, developing economies could be emitting the majority of the world’s greenhouse gas (GHG) emissions in future, a report from the IEA, called Financing Clean Energy Transitions in EMDEs, found.

The report forecasts that emissions from EMDEs are projected to grow by 5bn tonnes per year (tpy) by 2040, compared with a projected 2bn tonne fall in advanced economies and a levelling off in China.

The report warned that urgent action was needed to kick-start investment in EMDEs.

"Clean energy investment in emerging and developing economies declined by 8% to less than $150bn in 2020, with only a slight rebound expected in 2021," the IEA said.

“The race to net zero is one that nobody wins unless everyone finishes,” said IEA Executive Director Fatih Birol, who is calling on governments to create a “strategic imperative” for international financial institutions (IFIs), including the IMF and the European Bank for Reconstruction and Development (EBRD), to play a key role in reducing investment risk and unlocking finance.

Emerging and developing economies currently account for two-thirds of the world’s population, but only one-fifth of global investment in clean energy, and one-tenth of global financial wealth, the IEA said.

Annual investments across all parts of the energy sector in emerging and developing markets have fallen by around 20% since 2016, and they face debt and equity costs that are up to seven times higher than those in the United States or Europe.

The report covers developing economies in Africa, Europe, Latin America, the Middle East and Asia, although it excludes China.

Sources of finance

The report stressed that avoiding a tonne of CO2 emissions in emerging and developing economies costs about half as much on average as in advanced economies.

That is partly because developing economies can often jump straight to cleaner and more efficient technologies without having to phase out or refit polluting energy projects that are already underway.

But emerging market and developing economies seeking to increase clean energy investment face a range of difficulties, which can undermine risk-adjusted returns for investors and the availability of bankable projects.

Challenges involve the availability of commercial arrangements that support predictable revenues for capital-intensive investments, the creditworthiness of counterparties and the availability of enabling infrastructure, among other project-level factors.

Broader issues, including depleted public finances, currency instability and weaknesses in local banking and capital markets, also raise challenges to attracting investment.

The report calls for a major increase in private investment in clean energy in emerging economies, but only if it is supported and leveraged by the public sector.

“There is no shortage of money worldwide, but it is not finding its way to the countries, sectors and projects where it is most needed,” Birol said. “Governments need to give international public finance institutions a strong strategic mandate to finance clean energy transitions in the developing world.”

Put simply, while more cash from the private sector is needed, the public sector, in the form of multinational development banks (MDBs) and DFIs, has to reduce risk and create new innovative financing instruments.  

While today EMDEs rely heavily on public sources of finance, the IEA found that if the 2050 global net-zero target is to be met, then 70% of clean energy investments, mostly renewables and efficiency, must be privately financed.

Public actors have a role in developing less attractive areas such as transmission grids and emissions-intensive industries.

For emerging economies alone, the IEA calls for the private sector to account for 59% of energy investments. Meanwhile, domestic sources of financing must account for 75% of total investment, while 54% should be equity investment and 46% debt.

DFIs’ ability to act as catalysts, for example through blended finance, will be critical to attracting capital to emerging markets and sectors at early stages of readiness, or with hard-to-mitigate risks.

For the moment, capital is significantly more expensive in emerging and developing economies than in advanced economies. Nominal financing costs are up to seven times higher than in the United States and Europe, with higher levels in riskier segments. This points to a relatively high bar for projects to raise debt finance and offer sufficient returns on equity, the IEA said.

Electrification

The best way to decarbonise the energy sector in EDMEs is to push forward electrification.

The report forecasts that electricity consumption in EDMEs will grow at three times the rate of advanced economies, although of course starting at a far lower level.

Here the falling cost of renewable technology, such as solar panels, battery storage capacity and wind turbines, will play a crucial role.

The report also calls for innovative technology to retrofit and indeed replace ageing fossil fuels plants across the developing world, especially carbon capture and underground storage (CCUS) and hydrogen.

"Societies can reap multiple benefits from investment in clean power and modern digitalised electricity networks, as well as spending on energy efficiency and electrification via greener buildings, appliances and electric vehicles [EVs]," the report said.

In order to meet the Paris 1.5 °C climate change temperature target, investment in power must increase in EMDEs in the 2020s five times from $45 per person today to $240 per person by 2030.

This spending would cover clean power and electricity networks, as well as spending on energy efficiency and electrification via greener buildings, appliances and EVs.

This would equate to at least 1,600 GW of renewable capacity being added by 2030, increasing the share of renewables in total installed capacity to well above half by 2030, from 30% today.

The report follows on from the IEA’s May report that called for an immediate end to the financing of new coal-fired power plants.

The report also gave a date of 2040 for a total phase-out of coal generation in developing economies, 10 years later than a target date of 2030 for advanced economies.

Conclusion

The report warns that while aligning capital markets with net-zero goals is possible for developed economies, such a development risks excluding EMDEs, leaving them with higher-carbon footprints or a more challenging road towards cleaner energy.

The call for more clean energy in developing markets comes as the cost of renewables is falling, and, for example, solar prices are at their lowest ever level. At recent auctions, the cost of solar has fallen to $0.035 or even $0.015 per kWh.

While there is plenty of solar, wind and distributed energy capacity in emerging markets in Asia and Africa, what is lagging behind the falling cost of renewables is government support, often in the form of support for investment and risk mitigation, and the lack of appropriate finance.

Across the developing world, the European model of universal grid access, guaranteed power supplies for major industrial customers, regular maintenance, cross-border trading and more competition, especially in the generating and retail ends of the market, is not an immediately usable solution. It is also not attractive to investors.

The IEA stressed that time is of the essence and that current trends in investment volumes must be reversed quickly.