Financing the Energy Transition in a Post Covid-19 India

The World Health Organisation has categorised Covid-19 as a pandemic. A once-in-a-generation type of economic disruption is unfolding, and no country or industry can hope to withstand its repercussions. In this context, the power sector in India is also facing adverse circumstances, and will have to evolve and learn to function in a new post-Covid-19 reality.

The onset of the disruption began in India with a voluntary one-day nationwide curfew on March 22, 2020, which was soon followed by a mandatory 21-day nationwide lockdown ending on April 14. The lockdown has since been extended to May 3. An analysis of electricity generation before and after the onset of the disruption (Figure 1), reconfirms the well-established interdependency between economic activity and demand for power.

Figure 1: Total Electricity Generation

Source: CEEW-CEF analysis based on daily generation reports published by POSOCO

However, this disruption did not impact all generation sources equally. This, too, is perhaps to be expected. The magnitude of the decrease in power demand meant that coal, with its c.70 per cent share of total electricity generation in the country, bore the bulk of the brunt (Figure 2). Disproportionately so, Renewable energy (RE), primarily wind and solar, since hydro being a distinct category, appears to have weathered the storm far better. There is evidence emerging that RE’s “must-run” status¹ may have also played a part in shielding it somewhat from curtailment.

Figure 2: Change in Average Daily Generation (Post vs Pre-Disruption)

Source: CEEW-CEF analysis based on daily generation reports published by POSOCO

Whatever the reasons, it would be premature to conclude on RE’s resilience to weather severe demand-side disruptions based on just a few weeks of data. It is, however, an opportune moment to pause and reflect on what the electricity mix of the future will look like. With dampened demand, one could argue that there will be less space for new renewables capacity. However, the strain being felt by thermal power projects in these difficult times may make them unviable sooner than anticipated, thus presenting an opportunity to scale back the share of thermal power in our electricity mix.

Where the balance lands will also be a function of investor and financier interest in new RE in this post-Covid reality. In this respect, the cost and availability of capital are two key considerations.

Let us begin with the cost aspect. CEEW-CEF has previously analysed how the cost of debt, accounting for up to a third of power purchase agreement (PPA) tariffs quoted by RE developers in India, is also its single largest component. From this perspective, one of the most notable policy responses in recent days has been RBI’s move to sharply reduce the Repo rate by 75bps. At 4.40 per cent, it now stands even lower than the post-global financial crisis rate of 4.75 per cent set in early 2009, and further reductions are still possible. Transmission of the cut by banks on the retail loan (linked to the EBR and RLLR benchmarks) front has been swift and full². However, its reduction is yet to be reflected in lenders’ MCLR benchmarks, which eventually determine effective cost of project debt.

Even an eventual reduction in the effective cost of project debt may not amount to much in case there is overall resistance against extending credit to RE. It is worth pointing out here that despite what many headlines tended to convey, RE loan books have held up remarkably well. Some lenders with sizeable RE exposures were even reporting zero non-performing loans³ before the disruption set in. In fact, most lenders to the sector are well aware of RE’s superior track record. The question is, how will they view increasing exposure to a generation source operating in a segment facing a near, and possibly even medium-term, supply glut? 

Policymakers will be grappling with tough choices in the coming days. Aspects such as future RE pipelines, incentives, and duties will all come under review. Whatever the decisions made on the scale and trajectory of future deployments, incremental capacity will still require funding. In our view, a two-pronged approach that addresses this challenge at a fundamental level is best suited to ensure that capital continues to flow.

First, the sanctity of RE’s must-run status needs to be rigorously upheld. If evidence mounts of RE being increasingly curtailed, one can expect the credit taps for new capacity, whatever its scale, to run dry very quickly. In this regard, it is as essential to effectively communicate evidence of must-run enforcement, as it is to uphold it. A dedicated national RE database, as previously proposed by CEEW-CEF, will go a long way in this respect. To this end, we are currently expediting the operationalization of precisely such a database jointly with the Central Electricity Authority (CEA).

Second, even if there were a flood of liquidity in the banking system, it will be subject to heightened disruption driven demands from multiple fronts. It is, therefore, more important than ever to facilitate the recycling of lenders’ RE loan books, allowing them to extend credit without inordinately increasing power sector exposure. In this regard, CEEW-CEF had proposed the idea of a limited period credit enhancement subsidy for domestic RE bond issuances in its wish list for the 2020-21 union budget. The cost-impact economics of such a subsidy are compelling. We estimate an annual subsidy value equivalent to less than 5 per cent of the 2020-21 budget allocation to the power sector will be able to mobilize bond market debt flows sufficient to finance a doubling of solar capacity from its present 32GW to 64GW over a five-year period.

The Covid-19 driven economic disruption has brought the energy transition into sharp focus. Measures that maintain the flow of finance for RE should be an integral part of any broader policy response. And if doubts exist on the necessity of persisting with the transition itself, one only needs to reflect on the events of recent weeks and appreciate that the next global economic disruption may just as well have its origins in a climate change rather than a public health crisis.