New guidelines address the risks of financing coal plant retirement.
Since COP26—which included the announcement of the USD 8.5 billion South Africa Just Energy Transition Partnership (JETP) and the first time “phasing down” unabated coal was included in an international climate agreement—we’ve witnessed slow but steady progress on global coal phaseout efforts. The November 2022 announcement of the USD 20 billion Indonesia JETP was the culmination of a year-long negotiation, and other country JETPs, as well as additional efforts to address the finance of coal phaseout, are in the works or expected to be announced soon. These announcements, alongside recent pilots, are positioning blended finance as a promising tool to help the public and private sector collaborate on an accelerated transition from coal to clean energy.
Achieving a managed and just coal transition will require a significant mobilization of capital. However, reputational risks surrounding coal deals of any kind threaten to dampen momentum. To address these risks and provide clear guidance on how such coal transition deals can be developed and implemented with integrity, Climate Bonds Initiative (CBI), Climate Policy Initiative (CPI), and RMI, with input from finance, energy and policy experts across developed and emerging markets, have developed an initial set of guidelines to help financiers, policy makers, coal plant owners, and civil society navigate the possible pitfalls.
A Growing Role for Finance in the Coal-to-Clean Transition
We propose that financing mechanisms which enable an early and equitable retirement of coal production while expanding renewable energy (often called Coal Transition Mechanisms, or CTMs) can play a major role in translating ambition into action, if they are structured properly and implemented transparently. Especially in emerging markets.
While market forces will continue to push out existing coal in competitive markets, 93% of coal capacity remains shielded from market pressure by electricity regulation or long-term contracts. High-integrity CTMs have the potential to mobilize finance in a way that address multiple risks: mitigating the short-term losses associated with early retirement, expanding financing sources for energy transition efforts, and helping to preserve the economic, regulatory, and social stability that is crucial for achieving long-term climate goals
This is already occurring. In the Philippines, utility ACEN recently approved a deal to sell its remaining coal plant through the first market-based ETM transaction for retirement on an accelerated timeline. Indonesia’s utility agreed to a similar structure for one of its plants, leveraging concessional funding to support the deal. The Indonesia JETP, where coal provides over 60% of electricity generation today, will certainly accelerate the need for well-structured CTMs.
Mobilizing Capital for the Coal-to-Clean Transition: Tackling Reputational Risks
Though a few pilot deals are moving forward, by and large CTMs remain relatively unexplored territory. In addition to the financial risks CTMs face as innovative tools, they also carry reputational risks that, left unaddressed, could make financial institutions wary. For example, even if they ultimately result in emissions savings, funding CTMs looks like financing coal plants, and will add emissions in the near term to investment portfolios. This challenge is magnified if CTMs fail to deliver emissions savings or undermine long-term climate goals, or if they do not ensure protection for workers and communities that may be negatively impacted by a coal transition.
The Way Forward: A Framework for Credible Coal Transition Financing
CBI, CPI, and RMI developed a set of initial guidelines to help navigate these reputational risks (see graphic below). These guidelines provide a framework to mitigate the largest risks of CTMs, demonstrate positive outcomes, and drive the transparency needed to inform financial institutions’ decisions on whether to engage in a transaction.
The guidelines provide recommendations across critical issues to ensure that CTM transactions:
- Demonstrate the need and value of transition finance by assessing coal plants against major risks—moral hazard, non-additionality—as well as optics and other significant risks of providing financing to coal plant owners who are actively operating multiple plants or proposing to build new coal plants.
- Result in positive climate impacts in support of Paris-aligned goals by demonstrating credible long-term emissions savings and managing backsliding, emissions leakage, and emissions lock-in risks of deals.
- Support a just transition to clean energy by establishing provisions and plans to protect coal workers, communities, local entities, and other stakeholders from the possible negative impacts of an accelerated coal transition.
- Provide transparency and accountability to nonfinancial outcomes, such as emissions reductions and inclusion of other SDG-aligned goals, by ensuring public disclosures about transition deals build the trust and confidence in a CTM’s ability to deliver on its intended outcomes.
While these guidelines put forward a set of minimum recommendations for CTM credibility, we expect the guidelines to evolve with community input, CTM experience, stakeholder needs, and climate ambition. We approached this work with a view that enabling initial CTMs can create necessary proof points and demonstrate that capital can be mobilized and deployed credibly.
As these proof points are established, many of the guidelines will need to ratchet up their ambition to ultimately support achievement of 1.5°C temperature goals. Credible financial mechanisms, including those that access capital and carbon markets, can build momentum behind the coal-to-clean transition, ensuring that public funds are used wisely and private finance is mobilized at scale.
We look forward to your input, and to many more exciting announcements in the global effort to phase out coal that result in positive climate and social outcomes.