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Bank Risk in ‘Clean Coal’

March 27, 2017

The Australian:

If the full-throated generation of hot air went to powering turbines, the present debate over Australia’s energy future would be moot. Instead, on it roars, with politics continuing to trump good policy.

New energy infrastructure is expensive and since most deals involve one if not all of Australia’s big four, banks have a pivotal role to play in its development.

It is no wonder that the government is looking at ways to allow the Clean Energy Finance Corporation to invest in “clean coal” – fired power stations because the banks and the local financial sector are unlikely to do so.

The simple reason for this is that investments in such technologies are too risky for any self-interested bank credit officer to give any proposed clean-coal project the thumbs up.

Just in case any credit officers were asleep at the wheel, the banking regulator has very recently provided a further strong incentive for vigilance about the risks of funding projects where climate change issues could come into play. The Australian Prudential Regulation Authority’s Geoff Summerhayes effectively put banks and other financial institutions on notice that he now expects them to take into account “transition” climate risks.

This is officialese for telling banks the regulator will jump on them if they get involved in climate change-sensitive transactions without substantial mitigation of any risks involved. Managing the risks associated with banking a clean coal power station would present insurmountable obstacles for any bank officer wishing to prolong their career.

So what are the risks for banks in contemplating funding a clean coal power plant?

Over and above the normal risks that bankers assess for everyday loan requests (such as credit risk, operational risk and trading risk), there are additional risks surrounding the funding of power stations incorporating so-called clean coal technology. First up is the project risk associated with the technology, design and construction of a clean coal-fired power plant in Australia.

Project finance proposals are often difficult to get over the line because of their lengthy gestation periods and the long lives of the assets being funded, with any new coal-fired plant to be something like 30-50 years. But for clean coal power stations, doubts over standards , budget and schedule mean these project risks are daunting.

Bankers need concrete data to test the viability of a particular proposal, often relying on the averages of many similar projects. However, at present there seems to be just one fully operational, questionably viable, small-scale , clean coal-fired project anywhere in the world: the Boundary Dam project in Canada.

The cost of the 110MW Boundary Dam retrofit of carbon capture and storage has now risen to $US1.5 billion ($2bn), after a larger project at the site was shelved when further government funds were refused following an estimated cost blowout from $1.5bn to $3.8bn. Start-up difficulties plagued the downscaled project and the owners were hit with $12m in penalties in 2014 when the CCS technology was only operational for 40 per cent of the year.

If this is the track record of a successful clean coal power plant, it would be a brave banker prepared to sign off on the project risk for construction and operation of a similar facility in Australia.

Other issues to be assessed and mitigated include the risk that coal would not be available at a reasonable price in the future, known as supply risk; off-take risk raised by the likelihood that demand could fall as household solar power, wind generation and battery storage become cheaper and more widespread; the political risk that a future government introduces a price on carbon, hitting the carbon emissions that would still occur; and reputational risk whereby banks’ credentials as good corporate citizens could be questioned — an example being protests at Westpac branches over the bank’s refusal to rule out funding for the Adani coalmine.

What other forms of funding might be available for a clean coal plant? Offshore banks are a possibility and they have backed syndicates investing in local infrastructure , particularly Chinese and Indian banks. The State Bank of India was slated as a potential provider of a $1bn loan for the Adani coalmine in Queensland, but prospects of that loan being approved dimmed when Reuters reported a bank source as saying “the credit guys are not comfortable with the project” .

This is a salient reminder that offshore banks would face the same risk hurdles as local banks.

Another possibility is that private sector superannuation funds or the federal government’s Future Fund could provide backing . But they need to confront the big stick from APRA or the Australian Securities & Investments Commission about the need to take into account climate change and associated sovereign risk.

That seems to leave only the government to finance any such projects and, hence, the idea of changing the Clean Energy Finance Corporation legislation to allow it to invest in clean coal.

But let’s take stock here: haven’t we just imposed a whole swag of new regulations on banks to stop them from getting involved in lending that is too risky? If the risks around clean coal are too daunting for those irritating banks to take on, why on earth would the taxpayer do so?

Taking into account all of these risks, coupled with the difficulty in offsetting them via the market or through portfolio diversification, and the multitude of uncertainties surrounding any proposals for a clean-coal generator, we should assume that no bank funding will be forthcoming for clean coal-fired power stations.

High-tech coal power too risky for private lenders


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