This is an extract from a recent finance paper ‘Financing Offshore Wind in APAC” by GWEC. This extract explores the drivers of offshore wind costs, exploring the impact of economic and regulatory challenges on the levelised cost of electricity (LCOE).
As the Asia-Pacific (APAC) region ramps up its shift towards renewable energy, countries are committing to carbon neutrality by 2050 and aiming to triple renewables by 2030. Offshore wind energy is becoming a key component of this transition, helping the region move closer to the 1.5°C pathway. While APAC represents the new wave of offshore wind markets, the global offshore wind industry in 2023 saw remarkable growth, connecting 11 GW of new capacity to the grid, representing a 24% increase from the previous year and bringing the worldwide total of offshore wind capacity to 75 GW. Despite this success, the sector has faced significant economic challenges due to the macroeconomic environment over recent years. 2024 has seen a declining inflation and interest rate environment, although inflation and costs of lending remain elevated compared to pre-2022.
Drivers Affecting LCOE
LCOE is driven by a range of factors including macroeconomic conditions, supply chains, market maturity as well as technological advancements and innovation. For example, the development of larger turbines has been a major factor in driving down the per megawatt (MW) cost of offshore wind. Larger turbines reduce the cost of foundations, installation, and maintenance per MW, while capturing more energy by reaching higher into the wind field. This increased efficiency per MW installed lowers the overall LCOE.
Macroeconomic Conditions:Monetary policy across the APAC region has been significantly influenced by the global economic fallout from the Russia-Ukraine war. Central banks faced the dual challenge of managing rising consumer inflation driven by surging energy and commodity prices, while also supporting economic recovery from the COVID-19 pandemic. Monetary tightening, following the US Federal Reserve’s repeated increases of interest rates, took place in major APAC economies such as South Korea, India, Singapore and Thailand. This resulted in increased costs of borrowing, which directly impacted the LCOE by raising overall financing costs. Macroeconomic trends over the past four years-such as rising inflation, increasing interest rates, and supply chain disruptions-caused volatility and price increases in all technologies in the power sector. However, the offshore wind industry (and all RE), with the upfront nature of its costs was particularly hard hit. Despite recent market fluctuations, there are signs of stabilisation as central banks ease inflation-control measures and governments introduce supportive policies. Notably, initiatives such as the U.S. Inflation Reduction Act have helped to reduce risks and enhance the financial viability of projects. With these policies in place, investor confidence should remain strong, as the long-term growth outlook for offshore wind remains positive. However, supply chain costs, inflation and interest rates have declined since their peaks over the last few years, but still remain high compared to history. In addition, governments have implemented many supportive policies like the USA’s Inflation Reduction Act, the European Union’s REPower EU plan, and others.
Offshore wind is a highly capital-intensive industry. Projects are typically financed with a 70%/30% split between debt and equity. For individual 1 GW projects, this translates to approximately USD $2 or more billion in debt financing. A risk premium is typically added to cover the elevated real and perceived risks of emerging markets like Vietnam and the Philippines. The rise of interest rates, and the up-front nature of costs in the offshore wind industry, makes such large-scale borrowing significantly more expensive than in the earlier lower interest rate environment. In the US markets offshore wind costs are estimated to be 30-50% higher than in 2021. In the UK market, costs are around 40% higher than pre-Ukraine War. A general rule is that a 1% increase in interest rates increases LCOE by 8%. Various commodity price indices track the price movements of various commodities, including energy, metals, and agricultural products. When commodity prices increase, costs of raw materials rise, which leads to increased expenditures for projects. The war caused the skyrocketing of energy and commodity prices, especially of natural gas and oil, as well as agricultural products such as wheat and corn due to supply disruptions, all of which contributed to increased inflation. By H2 of 2023, the index cooled, demonstrating signs of stabilisation, although commodity prices remained higher than pre-pandemic levels. Lingering effects of the war and continued supply chain disruptions contributed to this. The volatility of commodity prices directly affects offshore wind capital and operational expenditures, given commodities like steel, copper, and rare-earth minerals are essential components for the construction of wind turbines, foundations, and cabling, among other items.
Market Maturity: National offshore wind policies and regulation, including market design and level of market maturity (policies, supply chain, workforce, etc.), affect LCOE. In countries where prescriptive local content requirements are implemented, developers may face high costs if the local supply chain is not mature and well established. Requirements on a high percentage of materials sourced locally typically raise CapEx if the country lacks existing manufacturing capabilities or has not yet developed a skilled workforce specific to offshore wind. These requirements may also be perceived as additional risks to investors and make projects less attractive, which could drive up the risk premiums and cost of financing. In emerging markets for offshore wind where supply chain gaps still persist and infrastructure is limited, benefits that could be accrued through economies of scale, industrialisation and economic clustering can also prove to be more challenging.
Unclear, inefficient or the lack of policy and regulatory frameworks, as well as policy support mechanisms (often the case in emerging markets), can also push up risk premiums. For example, if permitting and leasing regimes are not streamlined, project delays may occur and drive-up costs. To mitigate the ‘emerging market’ challenges related to policy and regulation, many options exist to incubate the capabilities required to reduce risks (or perceived risks). These options include pilot mechanisms to facilitate the commercialisation of offshore wind projects, accelerating their development prior to, or concurrently to that establishment of a comprehensive two-stage process in the market. An incubation of the first few GW of projects could allow for a stark decrease of LCOE after the first few GW.
In new markets LCOE is typically higher, where early projects build in-market technical, regulatory, legal and financial capabilities and begin to build the supply chain. As the market develops and gains experience, costs typically fall. A phase change often occurs as market confidence builds, full competition occurs and lower-cost financing is achieved by reduced real and perceived risk perceptions.
Offshore Wind LCOE Comparison
The LCOE for offshore wind farms in the United Kingdom, Germany and the Netherlands from 2014 to 2024 have similar capacity factors at 50%, 46% and 46% respectively. There is steady decline in LCOE in all of the sample countries with two significant cost reduction shifts highlighted. The United Kingdom experienced the most significant drop in LCOE of 61.9% during this period, from USD 294 / MWh in early 2014 to USD 112 / MWh by the second half of 2021. The first shift occurred by 2016, where a substantial reduction of 42.2% occurred and LCOE reduced to USD 170/MWh after just 5 GW of new offshore wind installation capacity. A further reduction of 60% in LCOE occurred by 2020, bringing it down to USD 68 / MWh. This coincided with another 5 GW of new installations, largely supported by cohesive offshore wind policy. Similar trends are shown in the Netherlands as well as Germany, where the first shift is likely attributed to leveraging economies of scale in supply chains, and the second shift for further advancements in technology, larger turbines and improved project management to reduce installation and operation costs. Further, effective auction designs through competitive bidding processes had also contributed to driving down costs and delivering volume, for example the separation of technologies in the UK government’s Contract for Difference (CfD) auctions.
Conclusion
In conclusion, while offshore wind LCOEs have faced considerable pressure over the past three years due to rising raw material costs, inflation, higher financing expenses, and supply chain disruptions, the worst of these macroeconomic headwinds now appears to be behind us. Policymakers are increasingly attuned to market conditions and are actively crafting solutions to support the industry. In mature markets like the UK, Germany, and China, offshore wind continues to demonstrate strong cost competitiveness relative to other energy technologies. Although the sector remains capital-intensive and sensitive to economic fluctuations, emerging APAC markets are poised to replicate the cost reduction trajectories seen in more established regions. This will be driven by expanding installed capacity, economies of scale, enhanced supply chain efficiencies, and the implementation of supportive regulatory frameworks, all of which will play a pivotal role in sustaining the industry’s growth and resilience.
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