Offshore Wind Industrial Policy


January 31, 2012

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Jatin Sharma, Head of Offshore, GCube Insurance

Jatin Sharma

The politicisation of low carbon energy has retained its sex appeal through bull and bear markets by taking many forms: from unilateral agreements to mitigate against global warming, to reducing our addiction to imported fossil fuels, notably oil and gas. The steadily improving cost competitiveness of renewable energy is gaining prominence. Indeed, proponents of the industry have defied the recession and Eurozone crisis by promoting the potential for job creation and local economic benefit.

However, in the UK, the paradigm of a liberalized market economy, most of the evidence points to the contrary. Something that is particularly apparent in offshore wind.

For example, UK projects have typically lost 75 to 80 per cent of the supply chain value (turbines, foundations, cables, substations, installation contracts) to predominantly European neighbours. By contrast, in coordinated market economies, loosely based on Germany, the inverse is true. Government owned development banks invest in domestic supply chain and export credit agencies allow them to compete internationally. This raises two key questions: First, can a liberalized market economy compete against the industrial policy of a coordinated market? Second, is industrial policy likely to undermine offshore wind development in the long term?

Nascent markets have frequently relied on foreign investors and supply chains to stimulate new industry. From demonstration to commercial viability, some industries have frequently adopted import substitution industrialisation (ISI) to limit dependence on foreign intellectual capital, while protecting domestic supply chain development. The nature and timing of this shift to ISI is quite interesting. Ten years since the first wind turbines were installed off the coast of Northumberland and almost £5 billion spent in installed offshore wind assets, the UK has yet to develop its own supply chain. Instead, it has encouraged an environment that focuses on sharing international project development experience, cost reduction and sustaining market signals about the long term viability of Round 3.

Something very different is happening elsewhere. Germany is manufacturing its wind turbines and foundations in Bremerhaven, collecting rotor blades from Stade and placing orders for substations from Erlangen.

Not only has this coordinated market leapfrogged established offshore supply chains in other, arguably more experienced markets, it has maximised positive spillovers in heavy industry and engineering to retain local economic benefit despite limited offshore expertise. But at what cost? An inflated Project CAPEX? A looming serial defect in key equipment? Critical path interdependency on grid connection? Or all of the above? This has led to the latest renewable energy paradox: If offshore wind is about producing local economic benefit in a coordinated market, does the obsession with reducing the installation cost per MW in a liberalized market, such as the UK, really matter at all?

Unfortunately, it does. Whilst politicians cannot support a market that subsidises jobs overseas, offshore wind cannot reach the mainstream until it can significantly reduce its reliance on incentives and subsidies. Job creation may create political good will in the short term, but electricity customers will be less forgiving.

Indeed, a catastrophic serial defect in key, unproven equipment or lengthy grid connection delays may undermine investor confidence that ripples into liberalized markets in the long term. The project financing frenzy to support independent power producers in Q4 2010 and H1 2011 by major lenders on some high risk investments could undermine the financing appetite of such players in other markets and in arguably, more attractive projects.

Yet the future of offshore wind looks set to follow a coordinated market economy paradigm in new markets such as France, China and South Korea. State leadership in picking winners in the low carbon economy may, however, come at a price and increase costs as well as development, construction and operation risk. How can we follow a learning curve if each nation wants to invent its own wheel? Moreover, such coordinated markets may threaten the comparative advantage of liberalized market economies through export subsidies and trade barriers designed to promote ISI and export led growth without sufficient incentive for a more cooperative industry.

While there are no easy answers to address the deficiencies in the sector, the issue of industrial policy at the expense of better projects, cost competiveness and a cooperative, shared learning curve need to be addresses between liberalized and coordinated market economies. Particularly if the sector is to sustain the confidence it really needs in order to realise the billions in investment required in the years ahead.

When carving up the North Sea, the companies and nations that leave their mark for the next 20 years have already started to make their moves.

By Jatin Sharma, Head of Offshore, GCube Insurance

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