New: the EU budget – it has never been so green

24 February 2012, European Energy Review

For the first time ever decarbonisation is an explicit goal of the next EU budget. And it shows: the European Commission wants to devote fully 20% of the 1 trillion budget, which runs from 2014 to 2020, to climate-related actions. The goal: to change the face of the European energy system and sow the seeds for a low-carbon economy in 2050. But it is the Member States who will ultimately have to make up their minds whether they want to make the EU’s green dream come true. Sonja van Renssen reports from Brussels.

The battle for the next EU budget, which runs from 2014 to 2020, is entering a crucial phase. The European Commission has made proposals, which the Member States will have a final say on. The European Parliament also plays a role, but it can traditionally only say “yes” or “no” to the entire package (although MEPs are trying to expand their negotiating powers under the Lisbon Treaty). A final agreement on the budget is expected by the end of this year.

The budget is a notoriously complicated affair. There are lots of parts to it, member states rather than the Commission will ultimately oversee much of how it’s spent, and it’s not really organised along themes such as energy and climate change. But one thing is clear: its goal is to support the EU 2020 strategy for growth and jobs – including the 20% targets for emission cuts, renewables and efficiency – and lay the foundations for a low-carbon economy in 2050.

For this reason, the European Commission is proposing a thorough “greening” of the budget. It wants a fifth of the €1 trillion package to be spent on climate action, i.e. projects that contribute to climate adaptation or greenhouse gas emission reductions, which may be anything from building renovations and clean energy R&D to cross-border interconnectors and greener transport.

Different circumstances

EU climate commissioner Connie Hedegaard has naturally made much of the green shift in the budget. It’s the first time a quantified goal for climate change spending has ever been proposed and it’s of significant scale. Today a mere 5% of the EU budget is estimated to go to climate-related activities. But the current budget, running from 2007-13, was decided under very different circumstances. ‘Climate was not so high on the agenda back in 2004-5,’ says Keti Medarova-Bergstrom from the Institute for European Environmental Policy (IEEP). ‘The switch to greener spending came with the economic recovery plans of 2008-9.’

These plans targeted green growth and efficiency in particular. Unspent agricultural funds and a chunk of the EU’s regional funds were redirected to energy efficiency investments. A €3.98 billion European Energy Programme for Recovery (EEPR) gave money to gas and electricity infrastructure, offshore wind, and carbon capture and storage projects; the €146 million that remained became the basis for a new European efficiency and renewables fund.

Hedegaard reportedly had to fight hard for her 20% slice of the next budget, however. The Commission is headed by 27 commissioners, each of whom wants to walk away from a budget discussion with something to show. One commissioner taking a fifth of the cake is difficult for the others to swallow, even if funds for climate action would also benefit those in charge of energy, transport, agriculture, enterprise, research, and so on. EU energy commissioner Günther Oettinger reportedly wanted no more than 10% of the budget to go to climate.

Hedegaard managed to win out because she gained the backing of Commission president José Manuel Barroso. One source suggests that Barroso saw climate change and its “mainstreaming” mission as a peg for the whole green growth agenda which might in turn function as a peg for the whole European project – justifying a sizeable budget for the bloc in the first place. But maybe the truth is simpler than that: the EU 2020 strategy has five headline targets, one of which is climate and energy related… so why not give it a fifth of the resources available?

A fifth of the budget for climate action does not mean that a fifth of the budget will go to decarbonisation or to the energy sector. Money will also need to be spent on climate adaptation for example, and climate will feature more strongly in international aid.

The two biggest parts of the EU Budget are the Common Agricultural Policy (CAP) and “cohesion policy”, which distributes funds to regions to even out development disparities. These together make up two-thirds of the budget. Much of the money reserved for climate-related activities will have to come from these two programmes, e.g. improved farming practices that also benefit the climate.

The Commission’s Energy department, headed by Commissioner Oettinger, can expect money for its priorities from the cohesion policy funds, from the so-called Connecting Europe Facility – a new €50 billion programme to fund cross-border infrastructure (energy, transport and broadband) – and from an enhanced low-carbon research, development and deployment programme.

Funding gap

For Ingrid Holmes, who leads work on low-carbon finance at think tank E3G in London, the most critical part of the EU budget proposals is the new infrastructure fund – the Connecting Europe Facility. One of the main objectives of new cross-border infrastructure is to enable decarbonisation of the energy system by adapting it to cope with the expected large-scale expansion of intermittent renewable sources. Holmes says that the most important task of the new policy must be to leverage private investments in infrastructure. ‘Last time we had a big infrastructure build-out it was publicly funded. Now we need private capital and investor preferences [for low-carbon investments].’ This is where policymakers come in: they must set incentive frameworks and take on some of the policy and technology risk of investors, says Holmes.

In a new report published in February, E3G argues that many of the public funds needed to unlock private capital could come from public banks such as the European Investment Bank (EIB) rather than directly from EU or national government coffers. It suggests the EIB doubles its low-carbon investment by 2020 (to 60% of all its activity) and that the EU reviews financial regulation such as that related to the pension industry to ensure long-term investment in low-carbon infrastructure is not penalised. Public institutions must increasingly operate alongside commercial banks to help investors in low-carbon projects secure both early-stage finance and re-finance their projects once operational, Holmes says.

With the Connecting Europe Facility, the EU budget proposals take a step in the right direction, Holmes continues. The €50 billion pot of money promises €9.1 billion for cross-border energy infrastructure (as well as €31.7 billion for transport infrastructure and €9.2 billion for broadband). ‘It’s the first time the Commission is proposing real money for energy projects in a financial framework,’ points out Mark Johnston from WWF. The energy component is 58 times the Trans-European Energy (TEN-E) fund it replaces, and gas and electricity projects will be allowed to use the money for construction, not just feasibility studies. CO2 transport infrastructure projects are the exception.
Still, the Facility will not suffice to cover the €100bn funding gap identified by the Commission in its Infrastructure Package last year. According to the Commission, some €210 billion must be invested in energy infrastructure between now and 2020 (€140 billion for high voltage electricity lines, €70 billion for gas pipelines and €2.5 billion for CO2 transport), but half of it will likely not materialise because of overly lengthy permitting procedures and a weak business-case for cross-border projects. To address this gap, the Commission issued new legislative proposals last October in which it proposed special rules for infrastructure projects “of common interest”. Limiting permitting procedures to three years is expected to plug half the funding gap as delayed but viable projects get off the ground. The Connecting Europe Facility is supposed to plug the other half with the help of regulatory support such as tariff-based incentives when projects are especially risky (e.g. very complex to coordinate), a standardized cost-benefit methodology for individual projects and a process for regulators to allocate costs across borders.

Most of the Connecting Europe Facility will be distributed as grants, but €1bn of it will go to “innovative financial instruments” that are expected to leverage €20bn in private capital for commercially viable projects. So-called project bonds would replace the guarantee a company used to be able to get for its bonds on the market with a guarantee or loan from the EIB backed up by the €1bn from the EU budget. The idea is to reanimate bond markets, which experts believe will take over from bank debt in financing infrastructure. So far, MEPs like the idea but member states have mixed views. Smaller countries fear they might never have a project big enough to use project bonds, since it would only make sense for those costing at least €150m. A pilot phase is due to start this year with €230m left over from the current EU budget, but MEPs and member states first need to agree to release the money.

Gas pipelines

Aside from the question over how to fund infrastructure projects, there’s a question over exactly what projects and programmes should be funded and how much the 20% set aside for climate change in the budget will actually benefit the climate. E3G wants the Connecting Europe Facility to be ‘reoriented towards the strategic investments required for decarbonisation’. So far there is no indication about what projects might make it onto the priority list. Environmentalists fear too many gas pipelines will get built at the expense of high-voltage electricity lines to integrate renewables and smart grid projects to reduce energy consumption in the first place. ‘Decarbonisation implies a shift from gas to electricity,’ emphasises Johnston from WWF.

Commission President Barroso views the green growth agenda as vital to the entire European project (photo: Reuters/Vincent Kessler)
A similar worry hangs over funds earmarked for climate action in cohesion policy. Cohesion policy in the energy sector has always been aimed at least in part at modernising the energy systems of central and eastern European states. In the new budget, the Commission calculates it will contribute at least €17 billion to climate action through mandatory investments in efficiency and renewables. New rules for the so-called European Regional Development Fund will require rich member states to allocate at least 20% of what they get to efficiency and renewables, and poor member states 6%. Decarbonisation will also become a mandatory priority for all regions.

Even if all this investment materialises however, what good is it for the climate if the rest of cohesion policy continues to fund more traditional development such as road building? NGOs such as CEE Bankwatch and Friends of the Earth Europe have long accused the EU of supporting unsustainable development. In February this year, they unveiled fresh evidence that it is funding projects such as airports and waste incinerators that could cancel out the benefits of funds earmarked for efficiency and renewables. In theory the Commission will be able to keep tabs on the impact of its expenditure in future through another innovation in its budget proposals: a monitoring, reporting and verification (MRV) system to measure how much is spent where and with what climate impact. Tagging policies as “climate-related” or not will prove challenging however.

Uncertainty over where exactly money ends up is high for cohesion policy because, unlike EU R&D funding for example, it is spent by national and regional governments rather than the Commission directly. There is also an issue of how much of the funding is actually taken up. Much of the money set aside for efficiency and renewables in the current budget has not been used by member states, for example because they’re not aware of it or cannot meet the co-financing requirements (there is still the crisis, after all). More general barriers to energy efficiency investments also persist and many do not believe the new EU energy efficiency directive currently being debated in Brussels will overcome them.

Technology pillar

Of all the different categories in the EU budget, none is perhaps so closely tied to Europe’s future, both at home and abroad, as its planned spending on research and innovation. One of the EU’s 2020 goals is to increase R&D spend to 3% of GDP (public and private combined). Policymakers believe this is essential if the EU is to keep alive a fighting chance of maintaining its global competitiveness. It was of course also a goal for 2010, under the Lisbon strategy, but perhaps now the EU has a better chance of making it through the green economy. The EU continues to dominate clean energy investment worldwide, although the ongoing economic crisis is shrivelling up R&D funds and the trajectory is downhill. Many industries moreover are still fighting tooth and nail to protect the status quo of a fossil-fuel based economy.
In its 2014-20 budget proposals, the Commission proposes that a third of its €80bn “Horizon 2020” R&D programme goes to climate-related activities. This will be spread out over multiple programmes, but the one that is closest to industrial hearts is without doubt the Strategic Energy Technology or SET Plan.

Called the “technology pillar” of the EU’s climate and energy policy, it was drawn up by the Commission back in 2007 to promote the research, development and deployment of low-carbon technologies. At its core is the coming together of public and private actors to launch joint initiatives in six priority areas: wind, solar, bioenergy, CCS, electricity grids and nuclear fission. The history of the SET plan has been above all one of trying to secure adequate funding. In 2009, the Commission said it needed an additional €50bn (€5bn per year over ten years, public and private combined) if the EU was to meet its 2020 climate and energy goals. This would come on top of the €3bn a year it was already investing.

The next EU budget is an opportunity for the EU to help plug this gap. Under the current proposals, the SET Plan would get part of €6.5bn set aside for all non-nuclear energy R&D. For many, this is a missed opportunity. A group of companies and other organisations that call themselves Friends of the SET Plan say the budget takes a step in the right direction but more public funds – EU and national – are needed. The public sector must contribute €37bn to the SET Plan between now and 2020, they say: “The SET-Plan is the only EU instrument which can bring forward essential European low-carbon technologies from R&D stage to market commercialization by 2020.”

These organisations like the SET Plan because it focuses on deployment rather than pure R&D. It provides funds for pilot and demonstration projects that drive technologies up the learning curve and bring down costs. They may still need deployment subsidies such as feed-in tariffs after, but these will be less. Company participation in pure R&D funded by the EU has been steadily decreasing.

With the budget proposals out, the priority for SET Plan adherents is to get them approved by member states. They may seek extra support for very large demonstration projects (e.g. for CCS) in the cohesion policy pot and call for looser co-financing rules to enable public sector contributions of more than 50%. But apart from that, the focus is shifting from the EU to the national level. Member states need to match EU funds, companies say, and the private sector will then match those. ‘Member states should be doing more and will shortly have the means at their disposal,’ says Giles Dickson from French engineering firm Alstom. ‘From January 2013 they will have a fresh and significant source of new revenue from ETS [emission trading scheme] auctions.’

All fronts

Member states are supposed to spend half the money they will earn selling carbon allowances to industry from 2013 on climate-related activities, but it remains to be seen how many will do so and what proportion will go to research and innovation. The EU ETS is already supporting low-carbon technology deployment through the “NER300”, which consists of 300 million carbon allowances currently being gradually auctioned off specifically to raise money for CCS and renewables. The carbon price is crucial in all these ETS-related funding streams and whether member states and MEPs agree on a “set-aside” of allowances to raise the future price will therefore be crucial in the coming months. For some technologies such as CCS however, projects will fail without substantially increased member state contributions.

It comes down to member states on all fronts. It is they, rather than the European Parliament, who hold most of the power when it comes to approving the budget and the Commission’s proposals have already raised eyebrows in EU capitals. Some do not want the EU to spend as much as €1 trillion and many don’t like the idea of earmarking funds, whether for climate or something else. The Commission has issued proposals for a budget that can set the scene for a decarbonised economy in 2050. But it is member states, through their support for this budget and in complementary funds of their own, who must show the world that Europe believes in its own low-carbon agenda.