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The post-fossil subsidy age of the United Arab Emirates

BY CHUN YU JONATHAN POON

With subsidies for oil and gas coming to an end in the United Arab Emirates, Chun Yu Jonathan Poon assesses the likely impact for renewable energy development in the country and around the world.

The deregulation of the fossil market in the United Arab Emirates (UAE) from August marked the end of an annual budget of US$29 billion to subsidise oil and gas in one of the most emitting economies. While the abandonment has long been advocated by the World Bank, a paradigm shift in the nation’s energy mix appears distant considering that renewable sources contribute less than 1% toward UAE’s total energy consumption today. Yet, the policy adjustment might yield a global impact on renewable development.

Basic economic theory suggests that the removal of any fossil subsidies induces users to shift to alternative fuels. Nevertheless, the causal effect is based on many assumptions; including, importantly, the competitiveness or simply the availability of substitutable renewable sources. And this is the case for natural gas in the UAE, which represents almost 80% of the domestic energy supply. Among which, over half, or 29 million tonnes of oil equivalent (mtoe), are used in industry, where existing renewable technologies cannot take over the role of gas in heat generation, a critical industrial process.

The same applies to the country’s oil demand. Three quarters of the domestically-consumed oil is used for moving people and freight. Reducing transportation sector’s dependence on oil is constrained by current technology. Rather, the higher fuel price might only jeopardise the bottom line of the two national airlines, which have been expanding exponentially by waiving fuel surcharges to their passengers. This could explain Ethiad Airway’s commitment to algae fuel, although commercialisation of the fuel is still preliminary.

What about electricity? With the prevailing technologies, renewable energy has almost been confined to power generation. Could the UAE move forward by advancing its generation fleet? First, it has to be acknowledged that UAE’s electricity market consumes less than 15% of the nation’s total energy, compared to over 22% in the US. This is largely due to differences in economic structures – industry consumes 64% of UAE’s total energy, almost four times that of the US. Hence, until a more diversified economy is built, the impact from renewable power generation would be limited.

Notwithstanding the fact that the emirates has been transforming its economy - which now depends less on extraction than many other hydrocarbon-rich countries, such as Russia - a higher fuel price might not necessarily induce capital reallocation by utilities into solar or wind farms. The sun does shines every day in the UAE; yet it does not solve the problem after sunset when air-con is still switched on. The variability of power output from solar panels, especially under extreme heat, still restrains their ability to reliably meet base load requirements, which can be perfectly serviced by gas plants. Batteries could help but would worsen the economics significantly.

Moreover, the dynamics is different for the UAE. While renewable pioneers such as Germany or Denmark are still struggling to phase out their coal plants, the UAE does not burn any coal for electricity. Its dependence on natural gas, which has been commonly deemed as a transition fuel to a carbon-free future, gives the nation minimal diplomatic pressure to go greener now.

After all, despite the oil price plunge, removing subsidies on fossil fuels would not be the most popular policy in the UAE due to the expected inflationary pressure. The decision to deregulate should therefore be the first step taken by the Gulf country to accumulate competitive advantage for the future. After the nation demonstrated its ambition as a regional hub for finance, healthcare, technology, and many more; it might just be the right time to check clean energy off its to-do list.

Masdar, the renewable developer under Abu Dhabi’s government investment vehicle, invests over US$1.7 billion on 1 GW clean power capacity worldwide. The fact that only 11% of the capacity is installed in the UAE illustrates the nation’s strong commitment on its ‘go-out’ strategy. A key constraint for the growth is, however, the high financing cost, which constitutes a considerable portion of the soft costs – or non-hardware costs – of renewable projects.

The US experience in the past decade reveals how a lower cost of capital – through investment tax credit, power purchase agreement, and then third-part financiers – has fostered industry advancement. The removal of fossil subsidies, despite not altering the economics immediately, is crucial in impacting the status-quo and influencing the risk assessment of capital providers. A 200 MW solar park in Dubai has recently received a 27-year loan from banks at 4% interest rate, while SolarCity is paying 5.45% for a 15-year bond issued earlier this month. The long-term change in risk appetite would be a prerequisite for establishing the country as a global powerhouse for renewable development.

While the private sector is mustering capital for renewable energy projects worldwide, the UAE government can also assume a proactive role. The emirates currently run several sovereign wealth funds with an estimated aggregate size of over US$1,000 billion. While its US$870 billion Norwegian counterpart has pledged to double its investments in green technologies, the UAE funds have remained quiet so far. An identical commitment from the nation would have easily equaled 6% of all global new asset finance in renewable energy last year.

UAE’s renewable energy policies are never domestic. They are key determinants of whether the country could maintain its significance in the international energy market as the world is moving toward the sustainable era. The country has been tactful by assigning its Ministry of Foreign Affairs, instead of the Ministry of Energy, to work on its renewable energy roadmap. But it is more than that. The nation ought to leverage on its wealth to gather private sector support in building a welcoming business environment for renewable finance in the OPEC state.

ABOUT THE AUTHOR

Chun Yu Jonathan Poon is Master Candidate, School of International and Public Affairs, Columbia University, and Summer Researcher, Centre for Environment and Development for the Arab Region and Europe.

FURTHER INFORMATION

http://cgsd.columbia.edu
 

Posted 01/09/2015 by Libi Israeli

Tagged under: renewable energy

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