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Latin American climate finance: How political risk insurance can help
March 17, 2020
Despite frequent bouts of economic and political volatility, investors have long viewed Latin America as offering significant opportunities for long-term growth across the economic spectrum. Most recently, we have seen: a return of the Peronists in Argentina; a turn to the right in Brazil; political protests in Bolivia, Colombia and Chile; and the continuation of more than a decade of political and economic deterioration in Venezuela. The causes are myriad – corruption, income inequality, economic mismanagement and, more recently, the impact of pandemics and low oil prices. Nevertheless, the region is an important market and will continue to attract long-term capital, with renewable energy projects becoming an increasingly important and sustainability-critical focus.
Despite an ever-changing landscape and periodic slowdowns in the global economy, however, renewable energy projects that can dramatically reduce greenhouse gas emissions will move forward in the long term. The world will need to continue to focus on sustainability and financing climate change. Opportunities for projects are ubiquitous, but often a catalyst is needed to mobilize the necessary resources – especially in emerging and developing markets.
Political risk insurance, credit insurance and bonds can be this catalyst for climate finance. Development and construction of renewable energy sources such as solar, wind and hydro pose many risks to investors, and the concomitant financing risks in emerging and developing countries are formidable. Risk mitigation tools such as political risk insurance, credit insurance and bonds are flexible and can be tailored to meet many of the risk management needs of banks, investment funds, development finance institutions, export credit agencies and multinational corporations in the financing of renewables.
Commitment to sustainability and renewables
AXA XL has long been a leading source of risk management and financial protection for political risk and credit exposures around the world. Our parent company, AXA S.A., is a leading voice in climate finance and sustainable investment and has made substantial commitments to aligning and increasing its investments in support of the Paris Agreement on climate change. These commitments include not only expanding “green” and “blue” investments but also offering innovative transition bonds to assist energy industries in moving toward a low-carbon economy. In addition, AXA is increasing its participation the parametric insurance space that offers protection to businesses and the public sector from the effects of climate change, such as increasing tropical storm frequency and shifts in historical rainfall patterns. With our parent’s strong support and encouragement, AXA XL’s Political Risk, Credit and Bond (PRCB) team is applying our deep expertise and experience in political risk, credit and bond programs to help bring renewable project finance transactions to life.
For renewable projects, our PRCB team offers protection for two main categories of risks that our clients face when financing or investing equity in these types of projects:
- Credit risks. Nonpayment of debt obligations
- Political risks. A set of different perils that includes:
- Nonpayment by public-sector entities
- Expropriation or selective governmental acts that target and impede (i.e., cause losses) a renewable project’s operations, including license cancellation, export/import embargoes or breach of contract, such as power purchase agreements
- Political violence causing physical damage to property
- Currency conversion and transfer restrictions
How could these risks affect a renewable energy project? During the planning, development or delivery phase of a wind turbine farm, for example, a host country might replace its government, change its plans for that specific development, or economic shifts might prevent a government-owned electric utility from fulfilling its power purchase agreement at an agreed tariff level. These actions could lead to contract frustration, shutdowns, violent protests that damage facilities and more – slashing the expected return for the project’s investors.
Political risk and credit insurance can respond to many such situations that result in losses that keep projects from achieving their plans. These types of coverage do exclude certain risks, however. Notably, government regulations and actions that are general in nature are typically excluded from political risk insurance coverage, but selective or discriminatory acts would be covered.
Latin America’s renewables goal
Ten years from now is the deadline for countries to meet the United Nations’ Sustainable Development Goals (SDGs), and according to the International Institute of Finance, emerging markets will require trillions of dollars in additional investment to close their SDG gaps. With high levels of public debt, non-debt financing such as foreign direct investment and equity finance will be important sources for meeting the SDGs.
During the United Nations Climate Conference COP25 in December 2019, the Latin American Energy Organization announced a renewable energy goal for 70% of the region’s electricity capacity by 2030. Colombia, which pushed for the goal, has proposed a national goal of 74% of the Colombian power generation grid to come from renewable sources, including non-conventional renewables such as biofuels. Besides Colombia, other Latin American nations signing on to the regional goal are Chile, Costa Rica, the Dominican Republic, Ecuador, Guatemala, Honduras, Paraguay and Peru. At the end of last year, Panama and Brazil were still considering their participation.
According to the International Renewable Energy Agency, an intergovernmental organization promoting renewables globally, several of Latin America’s largest countries are already generating significant amounts of electricity through multiple renewable sources. Brazil, Chile and Mexico, for example, in 2017 together generated more 500,000 gigawatt hours from renewables including hydropower, onshore wind, solid biofuels, solar and geothermal.
Building on this momentum in renewable energy generation and meeting the region’s goals will require substantial additional investments in power projects. To keep capital flowing into renewable energy projects, stakeholders will need to mitigate their risks. Political risk and credit insurance can mitigate many of these risks, and AXA XL’s PRCB team has the underwriting and analytical expertise to design bespoke coverages to meet the specific needs of a variety of renewable structures.
To make the most of business opportunities around the world, it pays to work with an expert partner in political risk, credit and bond insurance. For more information on AXA XL’s Political Risk, Credit and Bond team, please visit axaxl.com.
About the Author
Stuart Barrowcliff is Vice President and Senior Underwriter for Global Political Risk, Credit and Bond Insurance at AXA XL. He joined XL Catlin, now part of AXA, in 2011. His career experience includes various executive roles with other insurance organizations and global financial institutions. He has an M.A. degree in international economics and Latin American studies.
- About The Author
- Stuart Barrowcliff
- Vice President and Senior Underwriter, Global Political Risk, Credit and Bond Insurance, AXA XL