Can Emerging Economies Afford a “Green” Recovery from COVID-19?
The dramatic slowdown in industrial production, energy demand and transport activity in the first quarter of 2020 has led to significantly lower levels of air pollution, sparking debate over whether the coronavirus outbreak will lead to long-term shifts in consumer and industrial behaviours that could reorient economic policy towards sustainable development goals.
However, rising public debt, combined with significant capital outflows and reduced exports, will make financing green investments a challenge for many emerging markets as their governments seek viable strategies for kick-starting their economies once the disruption from the pandemic subsides.
A report by the International Renewable Energy Agency (IRENA) projected that accelerating investment in renewable energy could underpin the global economy’s COVID-19 recovery by adding almost $100trn to GDP by 2050.
In addition to helping curb the rise in global temperatures, the IRENA report claims that ramping up investment in renewable energy would effectively pay for itself over the long term, by returning between $3 and $8 for every $1 invested, and quadrupling the number of jobs in the sector to 42m over the next three decades.
While welcoming direct spending on infrastructure as a tool for stimulating economic growth after the coronavirus crisis, Thura Ko, managing director of Myanmar-based YGA Capital, cautioned that green energy projects should still be vetted carefully to ensure they are well planned and cost-effective.
“This is particularly important if the government has had to resort to emergency sources of funding, such as borrowing, grants or even quantitative easing. Certainly, if a green energy initiative makes sense and is efficient, then the government should initiate investment there – but not all green energy initiatives are efficient,” Ko told OBG.
As governments consider the role that investment-linked to sustainable development goals could play in post-pandemic stimulus measures, recent polling data indicates that voters across emerging and developed economies are broadly supportive of a “green” economic recovery from COVID-19.
In a survey conducted by Ipsos across 14 countries in April, 65% of respondents said it was important for their government to prioritize climate change mitigation actions in their post-COVID-19 recovery strategies. The figure was as high as 81% in India and 80% in China and Mexico, and fell as low as 57% in the US, Germany and Australia.
Green commitments in the “yellow slice”
Almost all countries globally have ratified the 2015 Paris Agreement, committing them to reduce carbon emissions with the aim of ensuring that global temperatures do not rise more than 2°C above pre-industrial levels.
This includes all countries in the “yellow slice” of the global economic pie: those high-potential emerging markets that makeup Oxford Business Group’s portfolio.
The 10 countries of the ASEAN bloc are committed to collectively meeting 23% of their primary energy needs from renewable sources by 2025.
However, the transition towards renewables in South-east Asia is complicated to some extent by the region’s plentiful reserves of coal, which are viewed by some policymakers as a reliable and cost-effective option for quickly scaling up generation capacity to meet domestic power demand.
Prior to the outbreak of COVID-19, China and Japan were ready sources of finance for coal-powered energy projects in the region, but there are some indications that this is changing.
In April, two of Japan’s largest banks – Sumitomo Mitsui Banking Corporation (SMBC) and Mizuho – announced commitments to curb their financing of new coal power projects under renewed pressure from environmental groups.
Since January 2017 Mizuho, SMBC and fellow Japanese bank Mitsubishi UFJ Financial Group have accounted for 32% of direct lending to coal power plant developers, so Japanese banks’ decisions to rein in lending to the segment will create a significant gap in the financing ecosystem for such projects.
Elsewhere, GCC countries have made steady progress in adding to their renewable energy capacities, in tandem with efforts to diversify their economies away from dependence on hydrocarbons.
The UAE has been at the forefront of this transition and is now home to approximately 79% of installed solar photovoltaic capacity across the GCC’s six members. The country aims to generate 44% of its domestic power needs from renewable sources by 2050, the highest proportion in the region.
Meanwhile, 10 countries in Latin America and the Caribbean – led by Colombia – have set a regional goal of meeting at least 70% of electricity needs from renewable sources by 2030.
In Africa, where 600m people still do not have access to electricity, IRENA has proposed grid interconnections and the development of regional energy corridors as viable mechanisms for extending low-cost wind and solar energy to all countries, as well as enabling cross-border access to hydropower and geothermal energy.
Funding the transition
While climate change can be viewed as a systemic risk to the long-term development of emerging economies, it remains to be seen if governments in such countries will go beyond prior commitments to incorporate large-scale investments in green energy and infrastructure into their post-COVID-19 recovery strategies.
With business and household demand expected to remain depressed for some time after the worst health effects of the crisis subside, policymakers will be required to enact further policy measures to stimulate economic activity.
“If stimulus packages simply return countries to where they were before COVID-19, we will face the same problems tomorrow that we faced yesterday: low productivity, high pollution, and locked-in, carbon-intense economic structures,” Stéphane Hallegatte, lead economist of the World Bank’s Climate Change Group, told OBG.
“The most efficient stimulus packages will be the ones that are designed to create many jobs and support economic activity over the short term, but also get economies on track for rapid and sustainable growth post-COVID-19. Countries can use this spending to make them 21st century-ready by investing in developing the skills of their population, but also in a modern, zero-carbon infrastructure system and a healthy environment.”
If required investments can be catalyzed, green energy and infrastructure development can be particularly effective at addressing depressed demand because they can create a relatively high amount of jobs while also laying the foundations for sustainable long-term growth.
World Bank data indicates that mass transit projects, building retrofits to enhance energy efficiency and renewable energy plants are much more effective at job creation than fossil fuel projects. Looking further ahead, such projects should contribute to lower air pollution, which should simultaneously help to lower mortality rates and boost labor productivity.
Unlike the situation after the 2008-09 financial crisis, the cost of renewable energy generation is now competitive with fossil fuels, meaning fewer trade-offs between short-term pains and long-term gains when evaluating renewable energy investment decisions.
However, Hallegatte recognizes that many energy and public transport projects take a long time to prepare, and argues that they should be added to stimulus packages now – possibly by reviewing and updating existing plans – for the benefits to start being felt in six to 12 months.
He added that emerging economies could explore various avenues for financing such projects, including the state budget, offering attractive incentives to private firms and requesting support from multilateral finance institutions.
Looking further ahead, redirecting fossil fuel subsidies towards more productive and sustainable areas of the economy, as well as introducing energy or carbon taxes, could become part of the tool kit for channeling investment towards green infrastructure.
Private equity (PE) could also prove to be an effective alternative source of funding for green infrastructure projects, as many funds are now assessing new strategies for the recovery phase, but they are likely to become more discerning about where to allocate capital.
“PE funds will be even more selective and scrutinous than before. Underlying business prospects in a post-COVID-19 environment must be clear and visible. A link to sustainable development goals can add to the investment appeal – particularly in relation to an eventual exit – but this does not detract from the need for a business model to be robust and clear,” YGA Capital’s Ko told OBG.
For Ulrich Volz, director of the SOAS Centre for Sustainable Finance, emerging economies should also look at developing their domestic capital markets in order to become less reliant on foreign portfolio investment, which tends to migrate quickly towards developed market assets at the first hint of a crisis.
By doing so, they would be better placed to fund domestic investments through domestic savings, which in the past have predominantly been invested in advanced countries for relatively low returns.
“Some will claim that, in times of crisis, developing and emerging economies won’t be able to afford the ‘luxury’ of green or sustainable investments, but this is a very short-sighted view,” Volz told OBG.
“Growth that is not sustainable undermines long-term development. The COVID-19 crisis shows how risks that seem very far away and abstract can hit us with a vengeance. I would hope that sustainability risks will receive even more attention because of the current crisis.”
This article originally appeared on oxfordbusinessgroup.com. Republished with permission.
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