Trust deficit in renewable energy markets

Pakistan faces numerous challenges to secure financing for its nascent but growing industry of renewables, a vital ingredient for steering the country away from an import-dependent energy sector.

In light of its international climate commitments and growing need for secure and affordable energy, Pakistan will need to invest heavily in indigenous renewable sources like wind and solar to cut down on its emissions and achieve its desired share of clean energy.

A robust and inclusive financial policy that improves the investment outlook of the country would be important for locking in the required capital.

Due to the prevalent political and economic crisis that has engulfed the country, local and foreign investors seem reluctant to take their chances.

The unceasing political instability followed by the vote of no confidence saw a reduced flow of $737.6 million in net foreign direct investment (FDI) in the power sector for FY2021-22.

The average project development time for a utility-scale Solar PV plant is set around 2 years, almost the same time in which a government is sent packing. The quick change in the government adds to the incredulity of the investors, who view it as a potential risk for project continuation threatening the security of investment that is enough to drive them away.

Moreover, the absence of local manufacturing creates the need for importing equipment (solar panels, inverters, wind turbines etc.), further denting the already plummeting foreign reserves.

With the Russia-Ukraine conflict putting energy security back on the agenda, these imports will be crucial for Pakistan to achieve its targets of increasing renewables share to 30% by 2030 requiring a gigantic sum of $101 billion according to the Nationally Determined Contributions (NDCs).

Price volatility in the international markets over the last two years has led to consistent defaults on LNG orders for Pakistan.

Oil prices have become unaffordable prompting a shift in technology, consequently increasing Pakistan’s solar PV imports. The country has imported 5,000 MW of solar PVs in the last 5 years with 2,380 MW of imports in 2021 alone.

Since renewables are still a fledgling industry, the reliance on expensive imported oil-based power has escalated the nationwide electricity tariffs to more than PKR 27/unit, pushing consumers to switch to solar solutions for power consumption.

The cost volatility of fossil fuels has intensified the global urgency to decarbonize and increase reliance on indigenous resources.

Consequently, Pakistan’s imports of clean technologies are expected to climb over the next decade, putting serious strain on the country’s already limited foreign reserves.

The Chinese imports remaining relatively cost-effective to local production have consequently catapulted Pakistan into an import-driven energy transition, pricing out the small-medium scale market players.

The State Bank of Pakistan’s (SBP) finance facility for renewable energy is the only local concessionary financing scheme available, however, import restrictions by the central bank and private banks limiting funds to the collected repayments make it a difficult ordeal for the new applicants.

Also, the scheme is limited to a plant size of up to 50 MW, compelling the developers to explore foreign financing options.

Securing foreign lending though is almost as laborious as local, given the fragile economy, low credit rating and political uncertainty.

The growing speculation over a possible ‘default’ has exposed international commercial banks and lenders to additional risks. These lenders who were already hesitant to lend now offer terms that are not financially viable for running a project.

The previous financing rates of 4.25% over LIBOR have now incremented significantly as lending entities look to secure themselves against all possible risks. Even with the projects going through, the tariff requires to be indexed heavily against dollar parity which shoots up the energy prices.

Taxation is another frequent source of ire for investors.

The developers express reservations over divulging financial details to the FBR and instead prefer settling taxation through invoices to Central Power Purchasing Agency Guarantee (CPPA-G).

Sudden revisions in tax policies create an environment of uncertainty, promoting mistrust between investors and the authorities.

The intricacies of tax laws and lengthy bureaucratic processes make it difficult to provide a clear understanding for market participants to plan and prepare for the future. For example, a common concern raised by the developers is the tax authority’s abrupt revision of income tax provisions/exemptions.

These abrupt revisions create a bureaucratic back and forth leading to unnecessary delays and appeals in the courts incurring additional costs for the developers.

The delay in payments by CPPA-G to Independent Power Producers (IPPs) is also a major cause of concern among investors and discourages potential future market players.

At present, the receivables from CPPA-G are already 7 months overdue. Several investors complain about their trade debt swelling due to uncleared dues by CPPA-G which they have to cover through short-term finance arrangements.

Additionally, the State Bank of Pakistan (SBP) restricts IPPs from converting their received payments into dollars which can be utilized for debt repayments at a later stage. As a result, the exchange rate fluctuation during this period creates a financial gap, putting an unfair liability on the IPPs.

The authorities in Pakistan need to consider these predicaments as issues of paramount importance. Investor confidence is only a fine margin.

The key to earning their trust is to ensure adequate protection for them against all possible risks. As far as investor facilitation and foreign reserve problem are concerned, the central bank can for the time being permit the RE imports that are self-funded by the investors in all major currencies like RMB, USD, AED, EURO etc. Establishing robust RE markets will require back-to-back investments in the future and long-term continuation of policies is vital for securing that capital.

The examples of our neighbours, China and India are worth looking into where such measures played a key role in securing the much-needed capital for advancing RE share in their respective energy profiles.

A level playing field for all stakeholders, removal of bureaucratic hurdles as well as the continuation of policies will alleviate investor concerns and help develop a self-evolving ecosystem of RE in Pakistan.

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