Renewable energy transition and ICIEC

Oussama Kaissi CEO, ICIEC discusses the imperatives of the renewable energy transition, ICIEC’s role, the importance of partnerships and the potential of its Green Sukuk Insurance Policy.

Transition to clean energy in line with achieving the targets set by the 2015 Paris Climate Agreement of Net Zero Carbon Emissions by 2050 and the 17 UN Sustainable Development Goals (SDGs) by 2030 is a major challenge for all countries and stakeholders.

Energy transition is defined as the shift from fossil-based systems of energy production and consumption – including oil, natural gas, and coal – to renewable energy sources like wind, wave and solar, bearing in mind the essential enablers such as lithium-ion batteries.

As a multilateral credit and political risk insurer, the Islamic Corporation for the Insurance of Investment and Export Credit (ICIEC) – with its uniquely faith-based ethos in which preserving nature, promoting people-centric development, and where industrial, private sector business and investment, science and technology serve both as public goods and profit generators are intrinsic to its core mandate – has energy transition embedded as a moral, development and underwriting imperative.

In a world still reeling from the effects of the COVID-19 pandemic that have been exacerbated by the disruptions in fuel and food supplies as a result of the Ukraine conflict, and the global economic shocks that have resulted in burgeoning inflation, increased levels of sovereign debt, high energy and food prices, and a global cost-of-living crisis, the clean energy transition is compounded with a pernicious multiplier effect.

Who would have thought that a quarter of the way into the 21st Century, we would be seeing food and energy poverty in the richest economies in the economic north? While these countries have the policy, reserves and fiscal space to lessen negative impact, at least in the short term, middle-and-low-income countries (MICs and LICs) do not have the luxury of resorting to such safety nets.

The consensus led by science-based evidence and backed by empirical data from established global institutions is clear, the urgency for energy transition is overdue. But, to make impact and sense, energy transition must be procedurally just, equitable in sharing risks and opportunities, restorative, transparent, and climate and development centred. Regulatory readiness and global commitments to decarbonisation are mixed, even though the energy transition will continue to increase in importance as investors prioritise ESG factors. In the long term, accelerating clean energy transition will support energy security as it will reduce the need for fossil fuel imports and consumption.

Worldwide regulatory agencies need to harmonise disclosure standards for sustainable finance to reduce unnecessary bureaucracy and to maximise capital flows into investments countering climate change and enhancing food security. Interchangeability of terminology relating to climate action, ESG, sustainability and green finance and fragmented energy and green taxonomies make transition complex and in a world full of uncertainties, difficult.

IMF estimates suggest that insufficient action on climate change could cost the global economy US$178 trillion by 2070, around double the current global GDP [growth rate] of 4.5%. The annual flow of climate finance to developing countries is less than US$425 billion for LICs and MICs. According to the UN and IMF, the world needs some US$90 trillion worth of infrastructure investment by 2030 and US$5-7 trillion annually to meet the SDG targets by 2030 – but there is a persistent financing gap of US$2.5 trillion each year. On the social front, more than 216 million people could be pushed to migrate within their own countries by 2050 and millions of others to migrate internationally because of delayed climate action or inaction.

Creating meaningful partnerships

ICIEC is guided by the climate action and energy transition needs and agendas of its 49 member states. Governments cannot solely bear the estimated US$5-7 trillion finance required towards achieving the 2050 net zero goals, neither can Development Finance Institutions (DFIs). The private sector is expected to play a significant role in closing the financing gap but has thus far been reluctant to do so because of the huge associated risks.

The best way forward is through meaningful partnerships, which pool resources, knowledge exchange, technical expertise, capacity building, technology and stakeholder education, a trend which is progressively taking shape.

ICIEC has illustrated the importance of partnerships through its various recent MoUs with peer institutions and partners, including Afreximbank, and African Finance Corporation, in underwriting greenfield projects in Sub Saharan Africa and Asia, promoting ESG and jointly attaining climate action development goals. Similarly, ICIEC’s membership of the InsuResilience Global Partnership platform, the Arab Africa Trade Bridges Programme and the Africa Co-Guarantee Platform are all geared towards embedding just energy transition through cooperation.

The IsDB has 57 member states, of which 49 are also members of ICIEC. The fundamental dichotomy is that, on the one hand, several of them are primary producers of commodities including oil, gas, coal, and palm oil, on which their economies and development agendas are dependent, and on the other hand, several are also most vulnerable to the impacts of climate change including the Maldives, Mozambique, Bangladesh, Pakistan, and the Sahel countries.

Most ICIEC member states are MICs and LICs, including 23 from continental Africa whose governments are constrained from allocating funds from national budgets. The only policy option is to attract private capital through FDI flows which is challenging because of the hurdles of the perception of a high-risk and a lack of bankable deals. Some 15 ICIEC member states are also members of the V20 Group of Ministers of Finance of the Climate Vulnerable Forum, supported by the G20, donors, the private sector, international organisations, and civil society groups for the achievement of wider climate action, including energy transition goals.

One way to do this is through InsuResilience’s Global Shield against Climate Risks by providing and facilitating more and better prearranged protection against climate and disaster related risks, losses and damages. Transition risks are business related risks that follow societal and economic shifts toward a low carbon and more climate friendly future. These risks include policy, regulatory, technology, market, credit, reputational and legal risks.

Mobilising private capital is key

Mobilising private capital on a large scale will be key to achieving climate objectives. Financial markets alone cannot bridge the gap, but combining public, private, and philanthropic capital offers unique advantages by reducing investment risk and attracting greater funding. Such interventions require large grants and concessional resources for projects based on their ability to reduce emissions, improve resilience to climate change and provide a just transition to lower carbon activities.

As the deliberations regarding the Loss and Damage Fund at COP27 showed, while a deal was struck in principle to set up the fund to help the most vulnerable climate affected developing countries, there were no actual commitments, and the financing structure has been left largely open-ended.

As the recent International Energy Agency (IEA) report Financing Clean Energy Transitions in Emerging and Developing Economies asserts, over 70% of clean energy investment is financed by private capital in the Net Zero Scenario and is only complemented and leveraged by the smart use of public funds. Investment in energy efficiency measures is typically made on a local level, and refinancing can be difficult in emerging and developing economies, which tend to have less mature domestic banking infrastructure and higher costs of capital than advanced markets.

The World Bank Group is also working on developing co-investment platforms through its Climate Change Action Plan with institutional investors to finance climate action, including by utilising donor support to accelerate the energy transition. The challenge is that efficient and economic clean energy transitions entail not only optimising the usage of fossil fuel infrastructure but also addressing the possibility of transforming existing assets for other uses.

Climate activists are increasingly leading social opposition to new oil and gas exploration projects, fracking, coal and other hydrocarbon projects. As such, new projects must win the support of such stakeholders from the very beginning, especially by creating added value in local communities to foster people-centred energy transitions.

The good news is that asset financing – the funding of projects and infrastructure – for renewable energy, electrified transport, and electrified heat, has set a new record at US$644 billion in 2021 – up 30% from 2020, marking the fastest year on year growth in a decade in dollar terms, according to the IEA. Renewable energy remains the single largest sector, accounting for about half the total at US$318 billion.

Renewable energy is now profitable and cheaper on a standalone basis than fossil fuels. It employs more people than the fossil fuel industry, according to the IEA. The emergence of IPPs as an accelerator of renewable energy generation is a key step in the energy transition in MICs and LICs. IPPs often are the first to embrace new technologies, taking risks away from the public sector and creating opportunities to share technical knowledge. Regulation is vital because weak policy environments attract less investment. IPPs can only sustainably operate in a market with low credit risk, where suppliers know they will receive payment for services rendered.

The role of Shariah-compliant financing

ICIEC is a signatory to the Principles for Responsible Insurance and the only Shariah-compliant multilateral insurer in the world. There is an imperative need for alternative financing, risk mitigation and credit enhancement solutions such as Islamic Green finance, Green Sukuk and de-risking products, given the estimated global financing shortfall of US$1.15 trillion for climate action, including energy transition projects.

The issuance of green, social and sustainable debt instruments has proliferated. Global green bond issuance, according to the EU, surpassed US$2 trillion by October 2022. In contrast, total green and sustainable sukuk, according to Fitch Ratings, reached a mere US$15 billion in 2021. Core Islamic finance markets have failed to capitalise, given that sukuk remain the preferred format for ESG-linked debt in these markets, and the global Islamic finance market is estimated by S&P Global to reach US$3.6 trillion by 2025.

Green sukuk have predominantly focused on renewable energy projects, but the base is very low. For a long term market to be established and for ‘greenium’ [‘green premium’] levels to develop regarding pricing, these must be accompanied by the right regulatory framework, a flow of transactions by both sovereign and corporate issuers, and increased awareness and interest by private sector investors in such instruments, according to the OECD.

ICIEC’s role and the potential of GSIP

Cumulatively, over 28 years, ICIEC has insured more than US$92.4 billion in trade and investment and US$1.3 billion in support of FDI by the end of October 2022. ICIEC’s activities were directed to specific sectors: US$37.2 billion to energy, US$26.1 billion to manufacturing, US$6.3 billion to infrastructure, US$2.3 billion to healthcare, and US$1.5 billion to agriculture. The IsDB Group’s current renewable energy financing totals around US$3.4 billion, of which ICIEC has provided US$596 million in insurance for renewable energy projects in member states. Both the IMF and OECD maintain that it will be important not to leave the important pool of capital that Islamic finance presents untapped in climate finance and energy transition.

A potential game changer could be ICIEC’s Green Sukuk Insurance Policy (GSIP), whose maiden underwriting is imminently being rolled out for a project in Sharjah. GSIP is a credit enhancement and third party guarantee aimed at promoting sovereign domestic issuances by member states, especially those rated below investment grade and consequently attract less private capital for sustainable development projects.

No energy system is without electricity leakages, losses, and wastage, which makes existing electricity networks susceptible to inefficiency. The pressure to improve energy efficiency is constant and intense. Digital technologies, including smart connected equipment and software, and smart meters are essential to a cleaner future of electricity. Governments, utilities, donors, DFIs, underwriters and investors must factor in decarbonising smart technology when they finance energy transition transactions.

A move towards the eventual phasing out of fossil fuels and the rising adoption of renewable energy must integrate a similar move towards sustainable green grid technology.