The EU has a renovation problem. If its net-zero emissions goals are to be met, it needs to dramatically increase the energy efficiency of tens of millions of homes over the coming decades. That will require an investment approaching €1trn ($976.99bn), at least a doubling of the current renovation rate of 1% each year and an increase in the rate of deep renovations by a factor of 10.
There are numerous reasons why it is proving challenging to persuade homeowners to invest in improving the energy efficiency of their homes, but, as with so many things, it comes down to money.
“People aren’t crazy,” says Peter Sweatman, CEO of Climate Strategy & Partners, a Madrid-based consultancy with particular expertise in energy efficiency. “When they are offered a loan at 7–10% [interest] for a deep renovation, and they look at the energy savings they can get… the numbers just don’t add up.” Homeowners, he argues, “need access to super-low and attractive funding to save serious amounts of energy”.
Climate Strategy, with funding from the European Climate Foundation, has developed a novel financial instrument, the EU Renovation Loan (ERL), which could provide that access. The idea is to tap into trillions of euros of equity locked up in the EU’s residential housing stock.
In other words, with support from EU policymakers and the European Central Bank (ECB), the deep renovation market could be turbocharged – creating jobs, helping to green the finance sector, and slashing energy use, consumer bills and carbon emissions on the path to net-zero emissions.
The €900bn challenge
According to research by Climate Strategy, there are around 50 million homes in the EU that could benefit from deep renovation to dramatically improve their energy efficiency. The EU Renovation Wave Strategy proposed by the European Commission in 2020 aims to renovate 35 million buildings by 2030 – an effort that would require investment of €900bn.
As Sweatman argues, that funding can be found in the stored equity in residential properties. European residential buildings are estimated to be worth €17trn, against which €7trn in mortgages are outstanding – leaving €10trn of home equity against which owners can borrow to fund deep renovation work.
However, existing financing products are unattractive to many homeowners for a number of reasons. The first is cost, Sweatman says, in that they are often short-term (around seven years) and carry high interest rates. The second is that, for many new homeowners, additional mortgage borrowing would exceed the multiples of earnings that lenders are prepared to lend against.
The proposed ERL would carry a long tenor of 30 years and have a zero-coupon structure, which means the borrower would make no cash interest payments over the course of the loan. Instead, the loan principal and interest would be repaid together at maturity. They would charge interest at the EU’s 30-year borrowing costs, currently 2.2%. As an indication, a €20,000 loan would be repaid as €38,400 at maturity in 30 years, Sweatman says.
The benefit to the homeowner would be immediate energy savings, as well as a “green premium” on the value of the property. Studies by the EU's Joint Research Centre and the Energy Efficiency Financial Institutions Group have pegged this premium at between 3 and 8%, Sweatman says. This premium would, in principle, cover the repayment of the loan when the home is sold.
The ERL’s low interest rate is critical, he adds. “The whole premise of the ERL is that it can provide really attractive funding to help save energy [without homeowners needing to dip into their savings],” he explains.
An EU renovation loan needs guarantees and liquidity
Achieving the low rate depends upon two elements. The first is an EU guarantee against non-repayment of the loans at maturity, removing the need for lenders (retail banks) to make a charge for credit risk. A template exists for such a guarantee in the InvestEU programme, which among other things underwrites financial institutions to lend to support Covid recovery. An ERL guarantee would be low-risk for the EU as property prices have, on average, risen by 5% annually. Over any given 30-year period, property prices have never fallen since records began in 1839, Sweatman says.
The second is the provision, by the ECB, of refinancing for the banks originating the ERLs. The ECB could adapt its targeted longer-term refinancing operation (TLTRO), which provides liquidity for EU banks that offer credit to the real economy, by allowing them to fund ERL portfolios at the ECB. Such an ‘e-TLTRO’ programme would allow banks to unload portfolios of ERLs to the ECB, removing risk and freeing up their balance sheets for more traditional lending. In turn, it would mean that the ECB gradually ‘greens’ its own balance sheet and makes good on its commitment to support EU climate action.
For banks to offer ERLs, sums up Sweatman, they “need the guarantee to get [the ERL] approved by their credit departments and they need the liquidity [from the e-TLTRO] to ensure the ERL is cash positive”.
“[This approach] fits very well into the landscape of different types of financing needed to accelerate the Renovation Wave,” says Adrian Joyce, managing director of the European Alliance of Companies for Energy Efficiency in Buildings and director of the Renovate Europe Campaign. “We need multiple different types of financing packages tailored to different income and socioeconomic groups,” he adds, noting that the ERL would appeal to homeowners “with little financial headroom”, such as retirees or young professionals.
A complementary proposal
Sweatman says that ERLs would not aim to displace grants for low-income households, and they could complement existing renovation support programmes, such as KfW’s highly successful programme in Germany and France’s zero-interest eco-loans for vulnerable families, the eco-PTZ. In both these existing cases, interest rate payments are subsidised, requiring a commitment of taxpayer funds that would not be necessary for an ERL.
Joyce suggests the key challenge will continue to be persuading homeowners to take out financing. Here, he believes that banks have a key role to play, and notes that some are taking greater interest in energy efficiency. “Fintro Bank, here in Belgium, has introduced a policy that each time a customer asks for a loan for their home, the banker is required to bring up the topic of energy efficiency and the performance of the building,” he says. One promising mechanism could be the introduction of mortgage portfolio standards, requiring banks to gradually improve the aggregate energy efficiency of the mortgage book.
A further incentive, Joyce adds, is the rocketing price of energy. “People are, at last, asking themselves why they are using so much energy,” he says.
Sweatman notes that an EU renovation loan has been discussed in the industry, energy and research committee of the European Parliament to support finance for the mandatory renovations that will be required in a revised Energy Performance of Buildings Directive (EPBD). Sweatman believes that political tension around mandatory measures designed to upgrade EU buildings faster can be eased with more attractive financing solutions and the engagement of mortgage lenders. The European Council and the European Parliament are due to begin negotiations on the Commission’s proposed revision to the EPBD, following agreement of a common position by the Council in October.
“We need to get this idea of an energy renovation loan into the revised EPBD,” said Claude Turmes, Luxembourg’s minister for energy and spatial planning, in a recorded address to a webinar to launch the ERL on 3 November. “If we do, we have a solution for getting money to young people who want to build their nest and to retirees who want to prepare for their last decades.”
Editor’s note: Energy Monitor is a media partner for the launch of Climate Strategy’s EU Renovation Loan blueprint at a webinar on 3 November 2022. Full event details are available here.