The Union budget for FY 2020-21 will be presented on the 1st of February 2020. Year on year various sectors anticipate supportive measures for their industry in the budget announcement. The proposals contained therein can have far-reaching impact, particularly for investment flows into capital intensive sectors such as infrastructure. Renewable energy (RE) in particular is one such infrastructure sector which requires flows equivalent to hundreds of billions of dollars in the coming decade. Both fiscal and non-fiscal support will be needed to ensure we meet the ambitious target of 450 GW of installed renewable energy capacity by 2030.
What specific policy proposals do we think will help accelerate flows in RE markets? While all incentives are welcome, we highlight some high impact measures that have received little, or no attention thus far. CEEW-CEF is in advanced stages of developing feasibility and design studies supporting these measures. Updates will be made available in the coming weeks.
#1 Subsidised credit enhancement for RE
Domestic bond market issuances which enable developers to attractively refinance project debt are widely recognised as being crucial to India’s RE ambitions as they also allow banks to recycle their already stretched loan books. That credit enhancement can facilitate such issuances is no great secret. Credit enhancement solutions have in fact been on offer in India for several years now, but with negligible RE uptake. Our analysis suggests that even the establishment of a dedicated credit enhancement institution, as proposed in the budget announcement of 2019, may be insufficient to alter status quo. Increased uptake of mechanisms that boost credit quality may actually require subsidization of the cost of credit enhancement. Interestingly, the funding required even under a 100 percent subsidisation scenario is surprisingly modest (~ one billion USD over a period of five years) as per our calculations. This facility is capable of recycling capital levels sufficient to double current installed solar capacity in India. Defining the facility window & issuers qualified to avail it are some additional considerations that will need to be addressed. Finally, several innovative possibilities may be explored to help defray the allocations required by Government of India to fund the same.
#2 Tax-free status to RE bonds against threshold credit rating
According tax-free status to RE bonds that achieve a threshold credit rating is another measure that could unlock much needed debt capital for clean energy projects. The reality is that there are far too few RE bonds listed on the domestic capital markets today, and this situation is not set to correct on its own anytime soon. As such, the loss to the Government of India in terms of revenue forgone by according tax-free status would be notional in nature. Importantly, it would be significantly offset by the tangible revenue recovery once self-sustaining RE bond issuances pick up pace and become the norm. The creation of a track record of RE bond credit performance will also be a significant by-product that will kickstart a virtuous cycle. Finally, according this status co-terminus with the subsidised credit enhancement window to only bonds which do not avail credit enhancement (among other qualifying criteria) will have the effect of levelling the playing field.
#3 Re-thinking RE credit rating methodology
The credit rating processes also needs a rethink. Methodologies currently employed by rating agencies in India assign credit risk to infrastructure debt instruments on the basis of the probability of default (PD). With its strong underlying fixed asset base, infrastructure debt, in general, lends itself better to loss given default (LGD) based ratings. Such ratings assign a recoverable value to the fixed asset base under a default scenario, a credit enhancing aspect that PD based ratings fail to capture. With its negligible variable cost structure and near-zero input security risk, RE is arguably best suited among all infrastructure classes to an LGD based ratings shift. There is growing recognition for the need for such a change, and in fact, internationally the shift to LGD based ratings happened as far back as the mid 2000’s. A commensurate shift is yet to happen in India, a nudge in the budget speech could ensure supportive policies are implemented.
#4 Re-thinking “Make in India” and focusing on “Recycle in India”
From oil to solar modules, our reliance on imports to meet our energy needs has only increased. With increased electrification of the economy, we must take steps to become less dependent on imports. However, revival should not happen at the cost of decreased installation, or higher costs. We recommend a three-pronged approach to ensure the above. Firstly, support only next-generation technologies that are yet to commercialised. Fiscal benefits like Viability Gap Funding (VGF) and production subsidy (for exports) and non-fiscal benefits like guaranteed offtake will help. Secondly, in short to medium-term, focus on supporting parts of the value chain that create maximum jobs (with minimum skillset requirement) and are not capex heavy or energy-intensive. Thirdly, re-evaluate the approach towards recycling and waste. Encouraging the import of recyclable e-waste will not only ensure jobs and economic growth, but it would also provide access to critical minerals, which may otherwise be difficult to procure.
#5 A national RE database
In an information vacuum, even the best policy interventions may not yield the desired results. Information drives investment, and the financial flows required to achieve the target of 450 GW by 2030 are unprecedented. The quality and nature of data made available to investors have to be of a level that is in sync with the scale of the ambitions. As pointed out by us in a recent commentary, existing databases aggregate RE data at a state, distribution company, or even developer-level based on voluntary and selective contributions. What RE requires is a custom-designed database that draws upon mandatory project SPV-level data contributions from across the country.
