Financial needs by stage of technological maturity

The concept of 'stages of technological maturity' provides a measure of the progress of a technology from the research laboratory to a widely available, commercially viable product. These stages describe a technology's progress through successive phases of technological innovation. Studies have shown that while significant abatement can be achieved through existing cost-effective technologies, new technologies will be needed and they will need to become much cheaper relative to the incumbent technologies widely used in society. The innovation process is shown in Figure 24.1.

An extensive literature suggests that the interconnections between markets, research institutions and government, united in a 'national innovation system', are essential for the success of technological development. Based on its experience with new technologies in the UK, the Carbon Trust indicates that innovation requires simultaneous progress with corporate evolution, market strategy and regulatory development because they interact with and 'feed back' on each other (OECD, 1997).

While most commentators agree that linear progression in technological innovation is rare, a practical non-linear model of technology innovation has not emerged. The literature includes many different characterizations of this process and the associated stages of technological maturity. Although an oversimplification, for convenience, this chapter characterizes technology innovation as proceeding linearly from research and development, to demonstration, to deployment, to diffusion and to commercially mature.

The stages of technological maturity adopted for the analysis of mitigation technologies - research and development, demonstration, deployment, diffusion and commercially mature - are shown in Figure 24.2. Each stage is defined by barriers that need to be overcome to develop a commercially mature technology. These barriers help to identify the financing vehicles appropriate to each stage. The financing needs of climate change mitigation technologies are determined through a detailed assessment of 165 mitigation technologies across all sectors of the economy that have been identified in 25 global technology studies, financing mechanisms and technology development programmes (UNFCCC, 2008b, 2009).

Research and development means that while the basic science is understood, the technology is at the stage of conceptual design or testing at the laboratory or at the bench scale. The unique barriers that it faces relate to the proof of concept and to technological challenges. Research and development typically occurs in only a few institutions globally for a given technology.

Demonstration involves full-scale implementation of a limited number of installations by a small number of companies or research facilities. Demonstrations provide information on the capital and operating costs and performance of the technology at full scale. This information is used to improve

Government

Policies to influence innovation activity

Funding

Incentives, standards, regulations, taxes, subsidies

Research Performers:

Business, Government, Higher Education, Non-profit Institutions

Research and Development

Technology/Product/Push

Technology/Product/Push

DemonstratiomDeployment

Consumers:

Individuals, Firms, Governments, Other entities

DemonstratiomDeployment

Consumers:

Individuals, Firms, Governments, Other entities

Funding Funding and investments

Knowledge and market spillovers

Business

Policies to influence innovation activity

Figure 24.1 The innovation process the cost, performance or other characteristics to make the technology attractive to potential consumers. Finance is often shared between the public and private sector in carefully designed partnerships and contracts; yet it is often difficult for technology developers to make the transition through the demonstration phase - the costs involved increase dramatically and because both public and private finance is difficult to obtain, this stage is often termed the 'valley of death' (US SBA, 1994; Branscomb and Auerswald, 2002; Auerswald and Branscomb, 2003; Murphy and Edwards, 2003; Williams, 2004; Auerswald et al, 2005).

A technology at the deployment stage is well understood and is available for selected commercial applications, but is more costly than the established technology, even taking into account a price for greenhouse gas emissions or equivalent policy. The buyers must pay a premium price, owners must accept a loss on each sale, or governments must provide financial or other incentives for the technology. The experience gained from additional sales usually enables the cost of the technology to be reduced.

At the diffusion stage the technology is competitive with the established technology if a price of greenhouse gas emissions or equivalent policy is taken into account. However, the technology may still face barriers relating to the economic environment, social acceptance or institutional arrangements, such

Stages barriers

Research and development

Demonstration

Deployment

Diffusion

Commercially mature

Proof of concept

Technological

Scale

Cost

Economics

Social

Institutional

Market failures and transaction costs

Source: UNFCCC (2008c)

Figure 24.2 Stages of technological maturity and barriers as access to the grid for the sale of electricity generated or the adoption of appropriate safety standards.

A commercially mature technology is competitive with the established technology even if the price of greenhouse gas emissions is not considered, but may need to overcome market failures and specific transaction costs. The market failures faced by energy-efficiency technologies are a classic example. Existing subsidies to fossil fuels and other greenhouse gas emitting technologies are another example.

The unit cost of technology typically falls as the cumulative sales increase, as shown by the experience curve in Figure 24.3. The unit cost of a mitigation technology declines as the cumulative sales increase and it moves from the demonstration to the deployment, diffusion and commercially mature stages. The effectiveness of policies to stimulate adoption of a technology and the success of the innovation effort determine how quickly it moves from one stage to the next. With increased volume, cost reductions can come from the manufacturing process, the distribution system or support services, as well as the technology itself.

The specific barriers to financing climate change technologies are summar-

ized in Table 24.1.

Cost of research and development z Effect of accelerated research and development programmes w Cost of demonstrations

\ \ / Cost of deployment support , Cost of diffusion support

-i - Incumbent technology with carbon price

-^—-^Jncumbenttechnology

Subsidized incumbent technology

Time - Cumulative experience

Source: UNFCCC (2008c)

Figure 24.3 Experience curve of technology innovation

Table 24.1 Specific financing barriers related to stage of technological maturity

Stage of technological Category of maturity barriers

Financing barriers

Public finance

Private finance

Research and development

Research and development

Proof of concept

Technical

Research and development;

demonstration

Research and development;

demonstration;

deployment

Research and development;

demonstration;

deployment; diffusion

Scale

Costs

Economic

Research and development; demonstration; deployment; diffusion

Research and development; demonstration; deployment; diffusion

Social

Institutional

Other political priorities for public finance Unclear results of fundamental research Unclear results of education and training Other political priorities for government budgets and public finance

Relatively high costs to scale up from prototype

High costs to reach significant deployment

Unwillingness to interfere in the market, especially when drastic changes harm vested interests

Inflexibility of tax policy

Vested interests in social/ consumer preferences Underinvestment in education and training

Vested interests in institutional settings Public finance policy failures

Insufficient rate of return Spill-over effects prevent private financiers from capturing benefits of investment

Lack of good technical information, resulting in high-risk profiles Spill-over effects prevent private financiers from capturing benefits of investment Lack of technological track record, resulting in high-risk profiles Lack of policy to overcome costs, leading to low internal rate of return (IRR) Energy pricing and subsidies; lack of, or insufficient, carbon price High upfront capital costs

Lack of valuation of co-benefits, leading to low IRR

Requirement of large parallel infrastructure, leading to high upfront costs

Lack of a consumer or user market Split incentives (principal-agent problem)

Lack of labour skills Lack of regulatory framework

Absence of international standards Technology lock-in Lack of match between export credit agency (ECA) conditions and local finance conditions on environmentally sound technologies

FINANCING A CLIMATE CHANGE TECHNOLOGY REVOLUTION Table 24.1 (Continued)

Stage of technological Category of Financing barriers maturity barriers -

Public finance Private finance

Commercially mature

Market failures and transaction costs

• Lack of recognition of public role in resolving market failures and transaction costs

• Vested interests in bureaucracies

• Inefficient regulatory environment and bureaucracy

• Lack of risk assessment and management tools specific to environmentally sound technologies (ESTs)

• Lack of appropriate financial packages

• Lack of awareness and information

• Imperfect markets

• Technology market failure

IEA (2007); New Energy Finance (2008); UNEP (2002);UNEP (2007)

Source: adapted from UNFCCC (2009); Haites et al (2009)

Discussion of financing for technology development is hampered by the lack of an agreed definition and a paucity of data. The definition of the financing resources needed for technology development adopted for this chapter is illustrated by the shaded area in Figure 24.3. The financing resources needed for technology development are the:

• full cost of activities during the research and development and demonstration stages; plus the

• additional cost of the new technology during the deployment and diffusion stages.

The other important cost is the public investment in programmes that develop facilitative policies and eliminate the barriers that prevent commercially mature technologies such as energy efficiency measures from widespread deployment. This cost is not factored below; but current proposals for such programmes total to US$5 billion to $10 billion per annum globally and in developing countries.

Table 24.2 summarizes the financing needs by stage of technological maturity.

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