Power to the People :
The World Outlook for Electricity Investment

by Fatih Birol

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Market liberalisation has created new challenges and uncertainties in OECD countries. There is new concern about the adequacy of investment as markets adapt to the new conditions. Investors in liberalised markets are more exposed to risk than they were in regulated markets and in different ways.

A number of market and regulatory imperfections may lead to under-investment in some electricity markets. Prices may be distorted, for example, by government policies to protect small consumers. And concerns are growing about whether competitive markets adequately remunerate investment in peak capacity. Policymakers in most OECD countries appear to believe that current market designs do not guarantee an adequate level of security of supply, and are considering how to intervene to address this issue.

Environmental regulations, requiring power plants and other industrial facilities to reduce their emissions, are becoming tighter. Uncertainty about future environmental legislation increases investor risk. Existing legislation is directed principally at emissions that have a local or regional impact, such as sulphur dioxide, nitrogen oxides and particulate matter. These emissions depend on the fuel mix used in power generation and tend to be higher in countries where the share of coal in the generation-fuel mix is high. Emission standards for these pollutants are tight and are becoming tighter in many OECD countries, which will significantly increase investment requirements.

Challenges in Developing Countries

Investment in Electicity

Capital flows to the power sector will need to rise substantially over the coming decades to meet rapidly rising demand (see Figure 4). Mobilising the capital to build new power stations and add sufficient transmission and distribution capacity may prove an insurmountable challenge for some developing countries. The risk of underinvestment is perhaps greatest in many African countries and India. Public utilities are often not profitable and are, therefore, not able to finance new projects themselves. The poor financial health of utilities often results from low electricity tariffs or under-collection due to non-payment or theft.

Investment in power sector infrastructure in developing countries has traditionally been the responsibility of governments, though the 1990s saw an increasing number of countries turning to the private sector for part of the investment needed to finance the electricity sector. Direct government- funded investment in the power sector is likely to continue to decline, due to competing demands on government tax revenues and structural reforms aimed at promoting private participation. Government are, in many cases, also seeking to encourage competition.

But attracting private capital is enormously challenging. Private investment in the power sector in developing countries has fallen sharply since the late 1990s, due to badly designed market reforms, economic crisis or poor returns on earlier investments (see Figure 5).

Poorly developed domestic financial markets are often a major barrier to domestic investment. Another handicap is growing constraints on their ability to borrow money in international markets. Funds from international lending institutions and export-credit agencies have diminished in recent years. Exchange rate risk can also limit access to international financial markets.

Private Investment in Electricity

Overcoming these obstacles will not be easy. It will require significant improvements in governance and deeper market reforms. A key challenge will be to reform tariff structures to make prices cost-reflective and improve revenue collection in a way that does not unduly hurt poor consumers who are not able to afford even basic electricity services. Even if the huge electricity investment needs which arise in developing countries in the IEA's reference scenario are met in a timely fashion, there will still be 1.4 billion people without access to electricity in 2030. It is not that no one is trying. The proportion of the population without electricity will fall by a third in that timescale - but population growth will maintain the absolute numbers very close to their present level. This is morally and economically unacceptable and signals the need for action by industrialised countries to reduce such extremes of wealth and deprivation.

Fatih Birol is Chief Economist at the International Energy Agency of the Organisation for Economic Cooperation and Development (www.iea.org) in Paris, France. E-mail: Fatih.Birol@iea.org

1 Total cumulative investment divided by cumulative world GDP (in year 2000 dollars at market exchange rate) between 2001 and 2030.

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