By Julyana Yokota, senior director and sector lead, Infrastructure and Utilities, Latin America, S&P Global Ratings

Strong regulatory structures will likely support Latin America’s utilities during the transition to renewable energy, believes S&P Global Ratings’ Julyana Yokota

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Latin America is undergoing a prolonged period of uncertainty. The presence of new administrations, some led by determined reformers, has mounted concerns over whether wholesale regulatory and policy reform could fundamentally alter the pace of the region’s energy transition.

Such concerns, however, underestimate the robustness of the regulatory frameworks governing the region’s regulated utilities sectors. In some instances, new administrations’ energy ambitions might not have fully emerged just yet, but regulators across the region have aligned, independently, on the expansion of renewable energy. As such, it’s our view that the shift towards unconventional generation (namely wind and solar) is gaining considerable momentum.

A region in turbulence

Of course, to this end, regulators and utilities may face considerable political unrest and uncertainty. Across the region, GDP growth prospects have trended downward, largely due to the spillover from the U.S.-China trade tensions and the turbulent political landscape in larger economies such as Brazil, Mexico, and Argentina. These factors have prompted a revision to the pace of energy demand growth.

Moreover, a closer look at issuance for utilities in Brazil and Argentina further suggest choppy conditions. In the second quarter of 2019, Brazil’s utilities issued more than R$10 billion (equivalent to approximately US$2.4 billion) in debentures. We note, however, that much of the issuance was directed to liability management, rather than funding new, unconventional generation.

For Argentina, there have been difficulties. Despite greater clarity over the leading candidates for October’s presidential election, we have seen a sharp slowdown in financial closings for projects’ debt issuances.

Regulatory and political support: a boom for the energy transition?

However, regulatory support across the region may offer partial relief. Frameworks for the energy sector are becoming more robust, with energy utilities operating under increasingly credit-supportive regulatory frameworks. For instance, political interference in some countries has become less severe and, broadly, frameworks are transparent and predictable. Coupled with growing political support, we may see promising conditions for the energy transition to take hold.

Among the leaders in the renewables shift is Chile, which is currently implementing a large-scale decarbonization strategy.  Chile – which is hosting the 25th UN Climate Change Conference, COP25, in December – has agreed plans to shutter eight coal-fired power plants by 2024, equivalent to one-fifth of installed capacity.[1] The longer-term ambition is for coal generators to be fully phased out by 2040. In turn, we expect more solar and wind projects to connect to the grid over the next two-to-three years.

As for Mexico, although uncertainty still exists around the AMLO administration’s broader energy policy, it seems clear that replacing contaminant fuel sources is a priority – though perhaps thanks to an expanded role for the government and state-owned enterprises, in place of the private sector.

It’s expected that Mexico will require additional energy capacity amounting to 67 gigawatts (GW) by 2035. And, as a result, the government intends to increase the share of renewables to 35% of energy matrix by 2024. In turn, AMLO’s government may be inclined to finance thermal, wind, and solar power plants, whose output would support the administration’s GDP growth target.

In Brazil, privatisation of the largest state-owned generation and transmission asset is on the radar and will likely play a greater role in Brazil’s energy sector (unlike Mexico), a similar priority will be the increase of non-conventional renewable generation under the Bolsonaro government in order to diversify the grid.

Today, wind generation stands at 10% of the country’s energy matrix, which is hydropower-dominated. As rising hydrology risk will likely become a significant issue for the Bolsonaro administration to address, we can expect more wind installations, along with thermal capacity (which today accounts for 20%) to secure grid reliability.

A shaky start, but confidence remains

Undoubtedly, transmission and distribution (T&D) networks face some near-term hurdles as the energy transition progresses. The entrance of renewable energy facilities in Chile and Peru, for example, has pushed down spot prices in these markets.

Elsewhere, energy auctions in Brazil held in late June saw contracts sold totalling just 400 MW, despite expectations that over 50 GW could be sold. While the aggressive bidding from new market participants underscores industry appetite for renewable energy, it could suggest that renewable energy prices may have bottomed out in this market.

Nonetheless, appetite for the transition remains well-balanced. Early trends indicate that the shift may well become profitable before long, particularly as technological advances and the effect of critical mass drive costs down.

Until this happens, the presence of supportive and robust regulatory frameworks could be evermore crucial in giving the sector the confidence it requires. For Latin America, fortunately, we believe this is more the case today than we’ve seen in previous years.

[1] https://www.france24.com/en/20190604-chile-close-eight-coal-fired-power-stations