Three years in, the European Green Deal remains unfulfilled as a long-term vision for decarbonising Europe by 2050, says Esmeralda Colombo at EIEE. To inject new momentum, in this week’s speech at the World Economic Forum in Davos, EC President Ursula von der Leyen sketched out a Green Deal Industrial Plan to subsidise the cleantech industry and compete with the rest of the world, notably the US, and the EU Sovereignty Fund to equalise the effects of any softening of state aid rules within the EU. All this points at the EU’s lack of ability to provide green finance at the regional and community level, places where effective decarbonisation can and must take off. It’s a problem the U.S. appears to have already solved, and president Biden’s Inflation Reduction Act as well as other substantial funding instruments are using regional banks to deliver not only bottom-up funding but to meet social justice obligations. Here, Colombo describes Europe’s problems, contrasting them with the U.S., and then lays out a five year plan for a new European Regional Green Bank. The EU must respond to Biden’s IRA to remain competitive in the global green economy, let alone meet climate goals. A European green bank can be a major part of that response, says Colombo.
The European Green Deal
On the third anniversary of Europe’s landing on the moon moment—the European Green Deal (EGD)—it is crucial to examine some of the gaps that still remain to live up to the EGD’s full potential.
The EGD represents a tremendous achievement in terms of the regulatory moment that it spawned. The scope and focus of sustainability legislation has reached a new zenith in the European Union. But beyond its successes, Europe’s excruciating energy crisis is a reminder that the EGD remains unfulfilled as a long-term vision for decarbonising Europe by 2050.
The Liquidity Paradox. A stark contrast with the U.S.
Europe’s energy crisis has been dragging for over one year, laying bare several energy paradoxes within the EGD. Call it the liquidity paradox. Under the liquidity paradox, the EU’s regulatory frameworks can achieve very little to confront the whopping stash of US dollars recently injected through the 2021 Infrastructure Investment and Jobs Act (IIJA) and the 2022 Inflation Reduction Act (IRA) in the United States, as well as the CHIPS Act and Omnibus, which is a source of concern for the EU bloc’s competitiveness.
As a result, clean energy projects are taking off in the US to a higher degree than in the EU as leaders of European energy companies are prioritising the US market in the aftermath of the most renewables-friendly injection of liquidity in recent history. Again, regulation is key. Notably, the IIJA and IRA gave sufficient policy signals to reassure communities and financers of a stable legislative framework and returns on clean energy investments—something that the EU has failed to secure. Why is it so?
Simply stated, the EGD and its implementing measures are overly top-down and neglect to respond to the most pragmatic aspect of incentivising access to finance and market liquidity for clean energy, as the IEA emphasises as a crucial enabler of clean energy deployment.
In 2020, the EGD was followed by the European Green Deal Investment Plan (EGDIP), which aims to mobilise a minimum of €1 trillion of investments over the multiannual financial framework, i.e. the EU’s budget, for 2021-2027 and a variety of EU funds. But with the primary financial sources being the EU budget and the Emissions Trading System (ETS), as well as the pivotal role of the European Investment Bank (EIB) and its regional partners, the EGDIP is overly centralised. Importantly, the EGDIP is missing the bottom-up capillarity and visibility of the more than 20 state and local green banks and over 1,300 community development financial organisations (CDFIs) focused on local lending and community development in the United States that the mentioned US federal statutes are leveraging on.
Problems with Ursula von der Leyen’s new plans
In response to the IRA, EC President Ursula von der Leyen took the stage in Davos this week and delivered a programmatic speech sketching a Green Deal Industrial Plan coupled with a relatively new fund, the European Sovereignty Fund. Albeit high-level, von der Leyen’s proposal already leads to some conundrums. First, the Green Deal Industrial Plan is envisaged to be accelerated by a Net-Zero Industry Act, but the latter seems to still be revolving around the necessarily selective and limited Important Projects of Common European Interest (IPCEI), where state aid rules can be relaxed. To compensate for the different aid capability of Member States and sustain strategic innovation, in Davos von der Leyen rekindled the purposefulness of the European Sovereignty Fund, which she announced in September 2022, although the Fund’s subsidies would still be country-based instead of business-based.
The Justice Paradox
As we are now well aware, the EGD could have reduced the energy burden for low-income residents while achieving energy justice, which is “the goal of achieving equity in both the social and economic participation in the energy system, while also remediating social, economic, and health burdens on marginalised communities”. But under the justice paradox, the EGD is yet to give a voice to historically marginalised communities and gender groups in the allocation of clean energy funds in the EU.
More generally, by focusing on a top-down design for the Social Climate Fund and Just Transition Mechanism, the EU is not fully supporting civil society’s role for financing and deploying clean energy, as well as for facilitating community engagement in clean energy projects and policymaking.
The political agreement that the Council and European Parliament reached on 18 December 2022 will likely lead to the most advanced climate legislation worldwide, turning the “Fit for 55” package into a “Fit for 62” package in sectors covered by the EU’s Emissions Trading System. But the social climate plans that are meant to cushion the impacts of such aggressive mitigation targets still depend on the efforts and capabilities of Member States, as well as the approval of the Commission, rather than a more bottom-up and participatory approach.
Conversely, on the other side of the Atlantic, the IRA includes a $3 billion allocation for environmental and climate justice block grants at community level, within an allocation of over $60 billion in environmental justice priorities to drive investments into disadvantaged communities and regularly engage with environmental justice leaders. In addition, a variety of clean energy tax credits include either a bonus or set-aside structure to the same end. Such energy justice efforts cohere with the Equity and Justice 40 requirements, which is President Biden’s commitment that 40% of federal climate and clean energy investments would benefit disadvantaged communities.
Why the EU needs a Regional Green Bank
If happening, the European Sovereignty Fund that von der Leyen recently proposed in Davos will take at least one year to be set up and will hardly support cleantech across the board, both in terms of simple tax-break models at the business level and capillarity across the continent, as the IRA does. As an alternative, we could look at the EIB, which is seen as the EU’s Climate Bank, but its traditional set-up and way of operating are yet to assure the success rate of a well-designed green bank.
Green banks are public lending institutions designed to help finance private clean energy projects and react to slow government innovation in private-public financing relationships. The IRA leverages on US state and local green banks, and also establishes the Greenhouse Gas Reduction Fund – a $27 billion green bank providing funding to support rapid deployment of low- to zero-emission technologies, including rooftop solar and air-pollution abatement technologies in disadvantaged communities.
A regional green bank in the EU could spur the work of CDFIs, local, and regional banks, as well as create a stable market for EU-made clean technologies in the fashion of the IRA’s over $9 billion support for federal procurement of US-made clean technologies.
Would a subsidy support scheme be a blatant breach of WTO rules? With the WTO at a deadlock, a critical legislative gap in EU trade and competition rules, and national subsidy support schemes across countries and regions, notably in the US and China, “Buy European” seems the least problem that EU trade lawyers and diplomats would be called to solve during the current energy and inflation crisis, beyond the IPCEI. To this end, the recently agreed EU Carbon Border Adjustment Mechanism is a positive advancement to facilitate a level playing field and minimise carbon leakage from non-EU countries.
Is an EU Regional Green Bank ready to be born?
A well-designed regional green bank would be able to tackle the liquidity and justice paradoxes of the European Green Deal, among other achievements, while partaking in a European IRA response, as President von der Leyen has wished. A focus on renewables is key to bridging the climate financing gap and deliver on EU targets. While the IEA’s analysis on the share of renewables in electricity expands to almost 55% by 2027 in the EU, this achievement would be well below the 69% set for the REPowerEU plan.
A foreseeable REG-Bank would increase the availability of capital rather than subsidise projects. Among medium-term goals, the Bank can aggregate smaller projects, such as in the community solar space, to make them palatable to traditional financiers. Among long-term goals, having built credibility through a successful portfolio, the Bank would support the financing of the most promising, but still risky, clean energy technologies (e.g., green hydrogen) in light of their contribution to energy justice. My recommendation is to pursue self-sufficiency immediately, after the initial access to capital at zero cost. The Green Bank would thus charge for loans as opposed to providing 0% interest loans even when access to capital for the REG-Bank is free. Accordingly, the Bank can finance, rather than subsidise, clean energy projects and lever more funds to be able to keep its programs running for several years and crowd in private capital.
Priorities for its first five years
Among priorities in its first five years, the Bank should focus on residential and commercial programs, which are often smaller and less palatable to traditional financers than utility scale projects. Moreover, utility scale projects may fall short of providing energy justice because their benefits are reaped only by customers connected to the centralised grid. Conversely, there is growing evidence that high levels of renewable energy penetration in micro, decentralised grids are technically feasible, and needed for the attainment of a cost-efficient energy system able to meet the ambitious climate mitigation goals in line with the Paris Agreement and the EU regulatory frameworks, notably on prosumers and renewable energy communities.
In terms of the lifecycle of the Green Bank, notably deal structure, the measures of financial support that the Bank offers can be: credit enhancement, project aggregation, and securitisation. Credit enhancement can be provided, among other forms, through debt service reserves to cover potential delayed or defaulted payments on a debt instrument (e.g., a loan). In this way, households and firms in underserved communities, which often have a low credit profile, may be eligible to participate in programs funded by the Green Bank and be part of energy justice solutions.
Because the Green Bank would support projects that bring some types of environmental benefits to the EU, the Green Bank would work especially with CDFIs (Community Development Finance Institutions) and local banks, which usually have an advanced understanding of the local entrepreneurial ecosystem and can weave synergies with national financiers, nonprofits, and foundations. The Green Bank can work with municipalities for the required energy transitions in cities. Green bonds, such as the EU green bonds, provide another source of new clean energy funding.
Where can the REG Bank be established? Two success cases suggest this can happen within an energy and environment authority. The US first-in-the-nation green bank, the Connecticut (CT)’s Green Bank, was established in 2011 in the CT Department of Energy and Environmental Protection and the New York Green Bank was established in the NY State Energy Research and Development Authority. Rather than duplicating the efforts and workings of the EU’s financial arms, notably the EIB, the REG Bank could be established within authorities that are already concerned with environmental, energy, and justice considerations, such as the European Environmental Agency in Copenhagen, with a strengthening of personnel’s skills in clean energy, including gender-lens financing.
With a properly designed green bank, the EU can be able to spur and take advantage of clean energy investments to accomplish its aggressive climate and energy goals, including the EGD. The chosen approach is from below, taking account of community-based clean energy projects and access to finance. The ultimate goal for the EU is to create a scalable financing model to aggregate a larger, diversified portfolio and catalyse synergies for bridging the climate financing gap and bringing down energy prices within an entrepreneurial state, while stimulating sustainable development and supporting energy justice.
Esmeralda Colombo is the Marie Skłodowska-Curie Postdoctoral Fellow at RE-DESIGN, RFF-CMCC European Institute on Economics and the Environment (EIEE)