About Loan Guarantees
Loan guarantees provide assurance to a lender that loans will be fully or partially repaid in the event of borrower default. Therefore, through lowering lender risk, loan guarantees allow project developers to access reasonably priced debt. Governments in partnership with financial institutions, including development banks and international climate funds, are often the guarantors for loan guarantees, taking on a portion of the project risk. Similar insurance products, such as mono-line insurance, can also be procured on the private market. Through enabling the creation of tranches of debt that match lender’s requirements, loan guarantees can lower cost of capital to support expanded clean energy investment and can be one of the least cost policies to support clean energy deployment. (Stadelmann et al. 2014, Cox et al. 2015)
Good Practices to Support Effective Design of a Loan Guarantee Program
- Determine broader policy objectives – Loan guarantees may be used to support steady investment over the long term or to catalyze near term deployment that occurs rapidly. Under the former case, funding for loan guarantees may be provided over a long period of time with regularly scheduled application periods. In the latter case, a short time frame may be set to provide a large number of loan guarantees. (Cox et al. 2015).
- Mitigate risk – Various actions can be taken to mitigate loan guarantee risk. First, loan guarantors should ensure rigorous project application requirements and examination. As such, project developer and investor applicants should be required to provide robust data, analysis, and information regarding the technical, economic, and financial viability of the project to be developed. Careful attention should be given to reviewing loan guarantee applications to ensure strong performance of supported projects. This is especially true in the case of publicly funded loan guarantees, as public guarantors must be highly conscientious stewards of scarce public funding. Loan guarantors may also consider capping or mitigating risk exposure through designing a guarantee cap amount. (Cox et al. 2015, Stadelmann et al. 2014).
- Provide clear guidance to applicants – Clear and transparent guidance on eligible technologies and other technical requirements be provided to applicants. Through providing well-articulated guidance, transaction and overall costs of administering the loan guarantee (e.g., application review) can be reduced. (Cox et al. 2015, Stadelmann et al. 2014).
- Engage private sector investors – To avoid crowding out private sector investment, governments can work with banks to facilitate loan guarantee programs.
- Stadelmann, Martin, Gianleo Frisari, and Anja Rosenberg. 2014. The Role of Public Finance in CSP: Lessons Learned. San Francisco, CA: Climate Policy Initiative. http://climatepolicyinitiative.org/wpcontent/uploads/2014/06/The-Role-of....
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