Lessons on the Role of Public Finance in Deploying Geothermal Energy in Developing Countries
Published: August, 2015
Geothermal energy has the potential to provide significant amounts of low-carbon, low-cost electricity in many developing countries. It is broadly cost competitive with fossil fuel alternatives across the world and is the cheapest source of available power in some developing countries with rapidly growing energy demand. It can also provide a clean, reliable and flexible power source that could directly replace coal or gas in the electricity mix and complement higher penetrations of other, intermittent, renewable sources on the grid.
Over the last year, CPI has conducted analysis on behalf of the Climate Investment Funds with the aim of helping policymakers and development finance institutions understand which policy and financing tools to use in order to enable fast and cost-effective deployment of geothermal for electricity. The research involved high-level dialogues between public and private sector stakeholders to share findings and promote discussion, and three case studies on geothermal projects in Turkey, Kenya and Indonesia. The projects studied varied in size (ranging from 13MW to 330MW – the largest in the world), and in terms of the public-private development models used.
Our case studies show that the increase in tariffs needed to provide sufficient returns to incentivize private investment can be entirely offset by public measures addressing specific risks. As a result, by enabling private investment, governments can achieve the same amount of electricity generation while providing only 15-35% of the financial resources they would have spent had they built and operated projects themselves. In our three case studies we also observed:
- The private sector’s requirements for higher returns can lead to increased levelized cost of electricity (LCOE), and could require a tariff increase of more than 60% if the private investor were to bear all project-related risks
- LCOEs were reduced by 35-48% due to a combination of public policy and finance measures that mitigated specific risks such as resource exploration, political instability and currency fluctuation, and provided access to longer-term, lower-cost debt than available on the commercial market. Reductions in the LCOE varied depending on the amount of risk that the private sector was comfortable taking on.
- The savings that the public sector made by engaging the private sector freed up resources to invest in additional projects to scale up the sector.
We estimate that public finance for geothermal needs to increase 7-10 fold (from USD 7.4 billion currently to USD 56-73 billion) in order to drive enough private investment to meet developing countries’ deployment targets of 23GW out to 2030. Governments and DFIs will need to provide 42-55% of the total additional financing of approximately USD 133 billion in the form of low-cost, long-term loans and equity for exploration, drilling, steamfield development and power plant construction. Most of this public finance is needed in countries with some experience with geothermal but challenging private investment markets such as Indonesia and Kenya.
We have identified the following recommendations for policymakers and development finance providers aiming to drive private investment in geothermal deployment:
Recommendations for policymakers
- Set ambitious deployment targets that recognize the potential of geothermal to contribute to stability in a future low carbon electricity system. Targets can act as a signal to international private developers, investors and technology providers. Countries such as Kenya and Indonesia have set ambitious deployment targets but many others fail to recognize potential in policy plans.
- Feed-in tariffs (FiTs) should balance the need to reduce private sector risks and incentivize investment while minimizing excessive costs to the public sector. Monitoring available debt financing conditions and investment return requirements in the country can help governments to set FiTs at an appropriate level. Tariff floors may also be applied to take account of exploration costs to developers.
- Facilitate centralized data-sharing on geothermal resources between public agencies and fee-paying private developers through a closed database system to reduce exploration risks. In markets starting to exploit geothermal for the first time, accurate survey data can help attract developers. Once governments start to offer concessions for private exploration, a centralized system can also help identify resource overlaps between fields and prevent costly and lengthy legal disputes on ownership (Çıngıloğlu, 2015; Oliver & Stadelmann, 2015)
Recommendations for development finance institutions
- Increase both concessional finance and grant support. Until recent years, much development finance was provided in the form of concessional loans for commercial drilling operations and power plant construction (Audinet & Fridriksson 2015). Developing countries will need more of this finance if they are to meet deployment targets of 23GW by 2030, particularly in countries with high costs of debt finance. In these countries, concessional loans can reduce the power tariff by up to 25%.
- Continue to rebalance support towards earlier, riskier stages of project development. DFIs have made significant efforts to shift the distribution of their finance from the construction stage to the early stages of project development and they now account for 11% of commitments. But such commitment should increase to 17% of public finance distributed, The Climate Investment Funds (CIF) have provided up to 55% of public finance currently flowing to the earliest, riskier stages of geothermal projects. With the future of the CIF uncertain, such funds need to be replicated and scaled up in a coordinated manner with other DFIs to maximize private investment.
- Develop standardized political risk guarantees and partial-risk guarantees in exchange for letters of credit from host-country governments. Guarantees have played an important role in projects financed by the private sector, however, they do not represent a significant portion of current amount of finance allocated to geothermal by DFIs. DFIs could coordinate on replicable and timely provision of political and off-taker risk guarantees that are specific for geothermal.
- Consider directing support to countries where geothermal has the greatest potential to increase energy supply at low cost and can achieve most emissions reductions. In Papua New Guinea and countries along the East African Rift Valley including Kenya, geothermal has the potential to significantly reduce emissions and make a major contribution to the national energy system. In Indonesia, geothermal development has the potential to reduce emissions very significantly (54MtCO2e/year). Carbon leakage risks that may be prevalent in some locations (e.g. Eastern Turkey) where the carbon content of non-condensable gases in geothermal fluids are high should be taken into account and may be also be mitigated through technology choices.
- climate finance
- climate funds
- climate investment
- climate policy
- developing economies
- energy finance
- private climate finance
- project finance
- public climate finance
- renewable energy
- risk mitigation