The Impact of Political Risk on the Economic Efficiency of Russian Renewable Energy Projects

Risks caused by political factors have a huge impact on the effectiveness of renewable energy (RE) projects and their value in particular. According to references [1-7], political risk in RE projects usually includes the following:

• Risks of a sudden change in the strategy for the development of RE and support schemes for the sector, such as a complete change or rejection of the existing support scheme, retroactive changes in the support scheme. This contributes to a decrease in the effectiveness of mechanisms to stimulate the development of RE [5, 7].
• Financial aspects of investors’ dependence on state programs. This is due to the instability of the volume or duration of support [1-3].
• Regulatory risk involving imperfection of legislation: the emergence of legal obstacles to the participation of independent electricity producers, the absence of an independent regulatory body, and the lack of comprehensive consideration of all risks, etc. [4-7].

In this paper, political risk is viewed as caused by the provision of state support to Russian RE projects in the form of preferentially priced capacity contracts for the wholesale market (CPS RES) [1] and is associated with the probability of its complete termination or limitation of volumes. The peculiarity of this program consists in conducting competitive selection of projects for the construction of generating facilities operating on the basis of RE, and the signing of 15-year CPS RES for selected projects [8, 9].

The main objective of this work is to study the degree of the influence of political risk on the economic efficiency of Russian RE projects in various scenario conditions during the 15-year term of the CPS RES program. In addition, the task is to systematize methodological recommendations on political risk management within the framework of state support pro- grams for the sector.

The article has the following structure. The second section presents a methodology for assessing the economic efficiency of RE projects based on classical and industry-specific tools; the author proposes an approach to assessing the value of political risk of RE projects based on rating assessment. The initial assessment of the impact of political risk on the effectiveness of projects and the relevant conclusions are presented in the third paragraph. The fourth section contains the main results of the scenario pre-default assessment of the impact of political risk on RE projects. In the conclusions part, the main results of the work are summarized, reasonable conclusions are made about the overall insignificance of the impact of political risk on the economic efficiency of the sector’s projects, and directions for adjusting the support programs for RE projects by their types are proposed.

3.1 Brief description of RE projects

For the period 2018-2020, 52 RE projects were competitively selected and approved for implementation [18], including: 34 wind power plants (WPP), 11 solar power plants (SPP), and 7 small hydroelectric power plants (SHPP). Their brief characteristics are presented in Table 1 of the article [15]. The results of the evaluation of the economic efficiency of these projects are quantitatively presented in Table 2 [15], the main conclusions - in the fourth paragraph of the work [15].

Table 1. The comparison of the international scales of four rating agencies

3.2 Assessment of the value of political risk

For the primary calculation of the value of political risk, the national ratings assigned to Russia by leading Russian and foreign rating agencies were used. Initial calculations were carried out at the beginning of December 2021. Among the Russian rating agencies accredited by the Bank of Russia, the rating assigned by the Analytical Credit Rating Agency (ACRA) is taken into account. Other domestic rating agencies are not included in this sample as they do not establish a national credit rating. Therefore, the national rating assigned to Russia by the ACRA agency at the level of ‘A’ on the international scale will be used as initial data; the forecast is ‘stable’ [19]. International rating agencies include Standard & Poor’s Global Ratings (S&P), Fitch Ratings and Moody’s, which cover 95% of the global market [20]. The ratings assigned to Russia on the international scale as of December 2021 are as follows: S&P: ‘BBB-’, Fitch: ‘BBB’; and Moody’s: ‘Baa3’, all ratings had ‘stable’ forecast.

A ‘stable’ forecast means that the assigned rating will not change with a high degree of probability. Therefore, for the purposes of testing the approach, it is conditionally assumed that the assigned ratings will not change significantly during the 15-year period.

To estimate the average probability of a default, the international scales of four rating agencies are compared in Table 1 [21-24].

As a result, the average value of ratings assigned to Russia on the international scale is ‘BBB’. The distribution of the probability of a default by a state with a ‘BBB’ rating in accordance with the calculations of the S&P agency [21] and the forecast compiled for a 15-year period is presented in Table 2.

To study the impact of the value of political risk on the economic efficiency of RE projects, the author suggested calculating economic efficiency indicators in the following three stages. The first stage is the decision on the implementation of the project (zero project period). The second stage is before the commissioning of the facility. The third stage is during the 15-year period of the facility operation.

Table 2. Probability of default with a ‘BBB’ rating by period, %

It should be noted that the fourth stage of the project, lasting up to the full planned life, is not taken into account in this study, since the period of the CPS RES program, and, consequently, the influence of political risk ceases at the end of the third stage.

Then the distribution of the value of political risk calculated according to the Eq. (1) and the indicators of economic efficiency (initial NPV and NPV taking into account risk) by stages are presented in Tables 3-5. Calculations show that the dynamics of changes in the value of political risk in all projects for all types of RE are similar: a gradual increase in the value of risk by the end of the CPS RES program. This is naturally due to a gradual increase in the probability of termination of state support closer to the completion of the CPS RES (Table 2) and the absolute value of support for the project in the form of capacity revenue.

3.3 The impact of the value of political risk on the effectiveness of projects (‘BBB’ rating)

Calculations shown that the value of political risk at the level of the ‘BBB’ rating do not significantly affect the economic efficiency of Russian RE projects.

Table 3. The value of political risk and NPV in wind energy projects (‘BBB’ rating)

*N/A - not achieved

Table 4. The value of political risk and NPV in the solar energy projects (‘BBB’ rating)

Table 5. The value of political risk and NPV in the small hydropower projects (‘BBB’ rating)

3.3.1 Wind energy projects

In wind energy projects, the share of political risk in the initial NPV increases from 0.04% and 0.07% in the first and second stages, respectively, to 32% in the third stage. It is by this amount that the NPV, which was calculated taking into account the cost of risk, is reduced (Table 3). However, such an increasing negative impact of political risk does not reduce the current ability of the projects to achieve economic results at the previous stage. As shown in Table 3, all projects retain the initial stage of achieving a positive economic effect.

3.3.2 Solar energy projects

In solar energy projects, the impact of political risk on the NPV indicator is significantly lower compared to wind energy - with a similar value in the first two stages, the average risk share is 16.3% in the third stage (Table 4). The stages of achieving a positive economic result also remained unchanged.

3.3.3 Small hydropower projects

In the presented hydropower projects, the average share of political risk is the lowest among all the studied cases: 0.03%, 0.06%, and 0.87% at each stage, respectively. This is due to higher specific investments in hydropower projects. Nevertheless, the submitted projects are initially economically inefficient (Table 5), and additional consideration of the value of political risk further reduces this indicator.

The calculations have shown that under basic conditions, when the national rating is fixed at the average level of ‘BBB’, the economic efficiency of Russian RE projects decreases. Thus, by the end of the CPS RES program, the NPV of wind projects may decrease by up to 32%, solar energy - 16%, and hydropower - less than 1% under the influence of political risk. However, in such external conditions, Russian projects have enough resilience to maintain the initial stages of payback at the same level, including a third of projects within the frame- work of the CPS RES program.

In stressful conditions, when the national rating is reduced to the critical level of ‘CC’, due to individual projects, the impact of political risk on NPV can reach 236% in wind energy projects, 121% - in solar energy and up to 6% - in small hydropower. Nevertheless, calculations have shown that the margin of safety is also sufficient and the breakeven point of only four of the 52 projects (two each in wind and solar energy) migrated from the third to the fourth stage of project implementation. The other projects remained at the previous payback stages and none of the previously effective projects entered the default zone.

As a result, this means that at the present moment the necessary conditions have been created in the Russian energy market not only to achieve a positive economic result by RE projects, but also to create the necessary margin of safety in case of adverse foreign economic and political changes.

The calculations carried out allow us to offer the following recommendations for the development of state programs to support the sector in the event of the impact of exclusively political risks. Limitation of terms and/or volumes of support for wind and solar energy projects. These projects, especially in the 2019-2020 selection years, demonstrate excellent performance indicators and high reserves of economic strength. Consequently, WPP and SPP can become pilot projects in a transition to predominantly private rather than public investments in the sector that is planned to happen in the Russian energy market after 2035 [26, 27]. Extension of the terms and/or volumes of support for small hydro- power projects. These projects are initially characterized by a high degree of economic inefficiency, which increases in the case of additional consideration of the impact of political risk. Along with economic incentives, an important step for SHPP is the development of appropriate technologies, which will reduce the amount of specific investments in such RE facilities.

The results obtained will be used to producing more specific recommendations in terms of the timing and volume of reduction/extension of state support for RE projects. This requires additional research related to the study of the impact of a set of specific risks of the sector (political, social, and economic) on the implementation of RE projects and the preliminary development of appropriate tools.