Update on the design of the Green Investment Bank

Contents

Glossary 4Foreword 5Executive summary 6

Section 1A GIB is needed to help the UK transition to a green economy 9 1.1 The UK government is committed to transitioning to a green economy 9 1.2Thetransitiontoagreeneconomywillrequiresignificantinvestmentbetween

2010 and 2020 10 1.3Thegreeneconomyfacessignificantmarketfailuresandotherbarriers

thatneedtobeaddressed 13 1.4Targetedfinancialinterventionisrequiredtocatalysetheinvestmentneeded

to develop a green economy at speed 15 1.5Anewinstitutionisrequiredtodeliverongoingfinancialinterventions 16 1.6TheGIBwillrequirefocustobeeffective 16

Section 2 The GIB will be set up as an enduring institution 20 2.1TheGIB’slong-termgoalswillbedefinedinitsmissionandoperatingprinciples 20 2.2TheGIB’sgovernancemodelwillbedesignedtosupportitsmission 21 2.3 The GIB’s strategic priorities will guide its Executive Management 23 2.4 The GIB’s strategic priorities will also guide its investment criteria and

day-to-day investment decisions 23 2.5Regulatoryandcomplianceissueswillinfluencetheestablishmentand

activities of the GIB 24 2.6 The GIB will evolve in three phases 25 2.7Intheincubationphase,theGovernmentwillinvestdirectly 26 2.8ThelocationfortheGIBwillbechosentoenableitbesttodeliveritsmission 26

Section 3 The GIB will deliver a range of products 27 3.1Theinitialproductmixwillincludebothequityanddebtproducts 27 3.2TheGIBwillpursueanumberofmodelstodeliveritsproducts 29 3.3TheGIBwillmitigatebothproductandcounterpartyrisks 29

Annex High level implementation plan of the GIB 31 Phase I – Incubation 31 Phase II – The GIB launch 32 Phase III – The GIB borrowing phase 32

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Glossary

BIS DepartmentforBusiness,InnovationandSkillsCCS CarboncaptureandstorageCEO ChiefExecutiveOfficerDECC Department of Energy and Climate ChangeDEFRA DepartmentforEnvironment,FoodandRuralAffairsEE EnergyefficiencyEU European UnionEV Electric vehicleGIB GreenInvestmentBankGreenDeal GovernmentpolicycoveringenergyefficiencyofBritishpropertiesGW GigawattOfgem OfficeofGasandElectricityMarketsParipassudebt LoanswithequalrightsofpaymentPFI PrivatefinanceinitiativeRollingstock AllvehiclesthatmoveonrailwaysShEx Shareholder Executive SME Small and medium-sized enterprisesTWh Terrawatt hours

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Foreword

ThisGovernmentisabsolutelycommittedtopromotinggreengrowthandtoensuringtheUKmakesasuccessfultransitiontoalowcarboneconomy.Thiswillrequiremoresustainableuseofnaturalassets,lessenvironmentaldamage,improvedresourceefficiencyandgreaterenergysecurityandresilience,whilealsomaximisinggrowthandcreatinghighvalueemployment.Thischallenge will involve unprecedented levels of investment in new infrastructure.

Thedevelopmentofwelldesigned,stablepoliciesiskeytoprovidingtheincentivesneededbybusinessifitistohavetheconfidencetoinvestinnew,greeninfrastructure.Wehavemadesignificantstepstowardsthisend,withtheintroductionofacarbonpricefloor,proposalsonelectricitymarketreform,theGreenDealforenergyefficiencyinbuildings,amajorwastepolicyreview and new initiatives to encourage the roll-out of electric vehicles.

However,whilesuchpoliciesarenecessary,theyarenotsufficient.Inparticular,alackofappropriatefinancemightthreatentolimitthescaleandpaceofourtransition.Theproposalspublishedtodaysetoutavisionforanewandenduringinstitution–theworld’sfirstdedicatedgreeninvestmentbank–tocomplementtheexistingpolicylandscape.Theinstitutionwillplayavitalroleinaddressingmarketfailureswhichareconstrainingtheflowoffinance.

TheGIB’smissionwillbetoaccelerateprivatesectorinvestmentintheUK’stransitiontoagreeneconomy.Itsinitialremitwillbetofocusongreeninfrastructureassets.Itwillworktoa‘doublebottomline’ofbothachievingsignificantgreenimpactandmakingfinancialreturns.Itwillalsooperateindependentlyandatarm’slengthfromGovernment,whichwillagreeitsstrategic priorities over Spending Review periods.

AstheChancellorsetoutinhisBudgetspeechinMarch,theinitialcapitalisationoftheGIBwillbe£3billionandtheGovernmentwillenabletheGIBtohaveborrowingpowersfrom2015–16andoncethetargetfordebttobefallingasapercentageofGDPhasbeenmet.Thenewinstitutionwillneedtocomplywithstateaidrules.Therefore,theproposalsIampublishingtodaywillneedtobeapprovedbytheEuropeanCommissionbeforewecanestablishtheGIB.Giventheneedforearlyaction,mydepartmentwillstarttomakedirect,stateaidcompliantinvestmentsingreeninfrastructureprojectsfromApril2012.Induecourse,wewilltransfertheseinvestmentstothenewinstitution.OncestateaidapprovalisachievedandthefinalformoftheinstitutionisagreedwiththeCommission,wewillmovetoenshrinetheGIBinlegislation.

IwouldliketothanktheEnvironmentalAffairsCommitteefortheiradviceonthisimportantinitiative,togetherwiththeenormousamountsofsupportandadvicethatIandmycolleaguesacrossgovernmenthavereceivedfromabroadspectrumofindustry,financeandenvironmentalgroups.ThereisnowmuchworktobedonetoimplementtheseplansandIlookforwardtoupdating on further progress in due course.

VinceCable

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Executive summary

The GIB will support the Government’s green policy objectives

The UK Government is committed to achieving the transition to a green economy and delivering long-termsustainablegrowth.However,thistransition requires unprecedented investment over thecomingdecades,withanestimatedinvestmentofupto£200billionintheenergysystemaloneovertheperiodto2020,andfurthersignificantinvestmentinotherkeygreensectorssuchastransport,waste,waterandflooddefences.TheGovernment committed in the 2011 Budget to fundtheGIBwith£3billionovertheperiodto2015.TheGIBwillbecomeakeycomponentofthetransitiontoagreeneconomy,complementingother green policies to help accelerate additional investment.

The GIB will play a key role in addressing financial market failures

The transition to a green economy is constrained byaseriesofmarketfailures.Governmentpolicyisfocusedonovercomingthesemarketfailuresusingarangeofpolicyinstrumentsincludingmarketincentivemechanismssuchascarbonpricing,supportforlowcarbonelectricityandlandfilltaxes.

However,evenafterthesepoliciesareimplemented,particularmarketfailurescanaffectthefinancing

of the green economy and limit investment. These includeriskaversionresultingfromalackofinformationandinformationasymmetries,aswellashighcostsoftransactions,whichconstrainthetotalamountofinvestment.Withoutfurtherintervention,these would lead to under-investment against the Government’sambitiousgreenobjectives.

Tailoredandtargetedfinancialinterventionscanhelptoovercomeriskaversion,hightransactioncosts,andtheresultinglackofcapitalandcomplementotherpolicies. Examples of intervention include:

• Riskmitigationproductstopresentmoreattractiveriskprofilestoawiderrangeofinvestors.

• Innovativefinancemechanismstoovercomehigh transaction costs of investment and sharerisks.

• Capitalprovisionviaeitherequityordebt,where shortages of capital remain.

Awiderangeofsectorsislikelytobeeligibleforintervention over the full period of transition to a green economy and these will change over time. Followingawide,butnon-exhaustive,reviewofdifferentneedsacrossthegreeneconomy,thisreport highlights three sectors to illustrate the evidenceofmarketfailure:offshorewind,non-domesticenergyefficiencyandwaste.Workisongoingtoexplorefurthertheevidenceofmarket

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failuresintheseandothersectorsandtoestablishtheGIB’spriorities,includingassessingthepotentialandnecessityfortheGIBtosupportthefinancingofinvestmentindomesticenergyefficiencyduringthefirststagesofGreenDealdelivery.TheGovernment’sprimaryaimremainsforthistobeaprivate-sector led scheme.

Theseinterventionsrequireanewinstitution,rather than coming as a series of Government interventions.Itwillbuildthenecessarydeepexpertiseinfinancialmarketsandgreeninvestmentstomobiliseadditionalprivatesectorcapitalandgainmarketcredibilitybyoperatingatarm’slength from Government.

The GIB will be set up as an enduring institution

TheGIB’smissionisproposedtobeprovidingfinancialsolutionstoaccelerateprivatesectorinvestment in the UK’s transition to a green economy.TheGIBwillworktowardsa‘doublebottomline’ofbothachievingsignificantgreenimpactandmakingfinancialreturns.Thiswillbeenshrinedinaseriesofoperatingprinciples,which it is proposed will also include delivering enduringimpactthroughsustainableinvestments,maintaining strategic alignment with Government policy,operationalindependencefromGovernment,partnership with the private sector and minimising marketdistortions.

TheGIBwillbeestablishedasaCompaniesActcompanyandfollowbestpracticecorporategovernance. It will operate at arm’s length from Government,settingitsstrategicprioritiesinconsultation with ministers. The GIB’s strategic prioritieswilllayoutbroadguidanceonstrategyand criteria for investment over each period of agreedGIBfunding,includinggreenpolicyobjectivesandlikelysectoralfocus,thenatureofmarketinterventionprioritiestobetackled,high-levelgreenandfinancialreturncriteriaanditsborrowingmechanism. The GIB’s management will then developthisintoabusinessstrategyand businessplan.

The GIB will need state aid approval. Once this is achieved,theGIBwillbeenshrinedinlegislationtoconfirmitsindependentstatusasanenduringinstitutionwithakeypublicrole.

The GIB will use a range of product interventions to achieve its mission

TheGIBwillbeshapedbyitsmanagementteam,basedonthestrategicpriorities,takingintoaccountmarketneeds.Thiswillreflectthebalanceofsectorscovered,productsofferedandtheintermediationmodel.FollowingestablishmentandduringthisParliament,theGIBisexpectedtogrowtoastafflevelofbetween50and100employees.

ArangeofpossibleGIBproductinterventionshavebeentestedwithmarketparticipants.Theseinclude:

• Riskmitigation:Firstlossdebtineachoftheconstructionandoperatingphasesofprojects,forexampletohelpmobiliseadditionalinvestment into the offshore wind or waste sectors.

• Innovativefinancemechanisms:An upfront refinancingcommitmentwhichguaranteesanexitforlong-termbankfinanceafterconstruction,uponcertainconditionsbeingmet.This could apply to offshore wind.

• Capital provision:Equityandseniordebtonmarkettermstoprovideadditionalcapital,forexampleinoffshorewindorwasteprojects.

TheGIBislikelytocontinuetoexplorearangeofotherproducts,includinginnovativefinancemechanisms to increase capital provision for non-domesticenergyefficiency,aswellasotherformsofdebt,equityandguaranteeorinsurance-likeproducts in a range of other sectors.

Implementation will consist of three phases

TheGIBwillhave£3billionavailableforinvestmentand capital over the period to 2015. The GIB will

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comply with state aid rules. It will also acquire borrowingpowersinfuture.Accordingly,theGIBwill evolve over three phases:

• PhaseI–Incubation:April 2012 to achievement of state aid approval. The Government will makedirectfinancialinvestmentspriortotheestablishmentoftheGIBtoaccelerateinvestment in the green economy.

• PhaseII–Establishment:Following state aid approval,theGIBwillbeestablishedasastand-alone institution in line with the proposals in this document.

• PhaseIII–FullborrowingGIB:From April 2015theGIBwillbegivenpowerstoborrow(subjecttopublicsectornetdebtfallingasapercentageofGDP).Thiswillenabletheupscaling of the GIB’s activity.

BeforePhaseI,BISwillestablishanddrawuponanAdvisoryGroupofexperiencedfinancialprofessionals,whichovertheperiodtoPhaseIIwilladvise on the setting up of the institution.

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Section 1 A GIB is needed to help the UK transition to a green economy

The UK Government is committed to leading the way in the transition to a green economy. However, investment in the green economy remains hampered by a range of market failures as well as by its heavy reliance on policy interventions by Government. The financial sector cannot always commit capital at the scale required due to a number of market failures. These include risk aversion, as a result of imperfect information, and high transaction costs. The availability of finance has been reduced by the financial crisis and may be further constrained by upcoming regulatory changes. The GIB can help address these market failures by providing targeted financial interventions, including risk mitigation products to improve the risk/return profile of investments, innovative financing mechanisms and capital.

1.1 The UK Government is committed to transitioning to a green economy

The UK Government is committed to delivering long-termsustainablegrowthandtosettingtheUKfirmlyonthepathtoagreeneconomy.Thefuture green economy is one that encompasses amoresustainableuseofnaturalassets,reducedenvironmentaldamage,improvedresourceefficiency,energysecurityandresiliencetoclimatechange while maximising growth and creating high value employment. The move to a green economy will include a radical long-term transition for many traditional sectors and support from a thriving lowcarbonandenvironmentalgoodsandservicessector. The Government is further committed to addressing one of the world’s most exacting environmentalchallenges–climatechange–byworkingtosecureaninternationalclimatechangeagreement,underpinnedbyambitiousaction at home.

Tofulfilthesecommitments,theGovernmenthasadopted a comprehensive set of environmental objectivesandtargetswithsupportingpolicymeasures,including:

• The Climate Change Act: This Act requires a reduction of UK greenhouse gas emissions by80%by2050,withaninterimtargetthatrequiresemissionstobereducedby34%by2020,comparedwith1990.TheGovernmenthasrecentlyproposedthattheFourthCarbon

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Budgetfortheperiod2023–2027issetinlawatanamountequivalenttoa50%reductionfrom1990levelsby2025.TheClimateChangeAct also sets out measures to increase resilience and adapt to the impacts of climate change.

• RenewableEnergyTarget:The UK has committedtoderiving15%ofallenergyfromrenewablesourcesby2020,consistentwiththeEURenewableEnergyDirective.

• Compliance with EU waste targets: The EU WasteFrameworkDirectivecallsfor50%ofhouseholdwastetoberecycledby2020,andfora35%reductioninbiodegradablemunicipalwastelandfillby2020comparedwith1995.

• Compliance with EU air quality standards: The Air Quality Standards Regulations 2010 transposetherequirementsoftheEUAmbientAir Quality Directive and the Fourth Daughter Directivetoimproveairquality,particularlytheneed to meet legal limits on nitrogen dioxide andfineparticulatematter.

• Water management: TheWaterFrameworkDirectivecontainstwoobjectivesofnodeterioration and achieving ‘good’ status in waterbodiesby2015.TheBathingWaterDirectiveandtheUrbanWasteWaterTreatment Directive are also driving up standards.

Additionally,furtherpolicymeasuresimpactingcarbonemissionareinplaceorplanned.Theseincludethecarbonpricefloorannouncedinthe2011Budget,proposalstoreformtheelectricitymarket,the‘GreenDeal’1 to improve domestic energyefficiency,andapledgeofupto£1billionof Government support for the development of carboncaptureandstoragetechnologies.Achievingtheseambitiouscommitmentsandgoals

willrequireactionbythepublic,privateandsocialsectors,andbyindividualcitizens.

1.2 The transition to a green economy will require significant investment between 2010 and 2020

The transition to a green economy will require asignificantamountofinvestmentacrossseveralimportantsectorsinpower,energyefficiency,transport,wasteandwater.Thissectiongivesanindication of the level of investment that may berequiredingreeninfrastructureoverthenextdecade.Inpowergeneration,forexample,Governmentpolicyistosetamarket-basedframeworktoprovidesufficientincentivestoattractprivate investment in new generation which will helpdeliveritsobjectivesofsecurityofsupply,decarbonisationandaffordability.ThismeansthattheGovernmentdoesnotsetspecificcapacitytargetsforspecificgenerationtechnologiesandthereforethefiguresusedtoprovidecontextinthisdocument are purely illustrative.

• The Power sector representsbyfarthelargestcapitalinvestmentneed,withabroadrangeofestimates suggesting an investment requirement in power generation and transmission of at least £110billionovertheperiodof2010–20.2 The financialneedsdifferwithineachsub-sector:

– RenewablePower:TheUKNationalRenewableEnergyActionPlansuggests that the UK could see around 34 GW ofrenewablepowergenerationfromavarietyoftechnologiesin2020,including inoffshorewindandbiomasselectricity.Thiswouldrequire£50billion–60billion of further investment over the decade to 2020.3

– Carboncaptureandstorage:CCStechnologyiscurrentlybeingdemonstrated.

1Aframeworktoenableprivatefirmstoofferconsumersenergyefficiencyimprovementstotheirhomes,communityspacesandbusinessesatnoupfrontcost,andrecouppaymentsthroughachargeininstalmentsontheenergybill.

2DepartmentofEnergyandClimateChange,Electricity Market Reform: Consultation Document(December2010). 3 DECC analysis. Total cost is undiscounted capital costs at 2009 prices. The total will vary depending on a range of factors including technology learning rates and input costs.

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The Government has announced funding ofupto£1billiontocoverthecapitalcostsoftheUK’sfirst,andoneoftheworld’sfirst,commercial-scaleCCSprojectsandiscommitted to providing additional funding towardsafurtherthreeprojects.Theoveralllifetime costs for the full demonstration programmecouldbearound£7.2billion–9.5billion.4

– Nucleargeneration:Duetothelongleadtimesfornucleargenerationprojects,themaximumtechnicalpotentialfornewbuildby2020is~6GW,5 requiring a minimum ~£17billiontotalinvestment.6Nuclearpowerislikelytoplayamoresignificantroleby2030.7

– Transmission:Anestimated£4.7billionisrequiredby2020toreinforcethetransmissionnetworktoaccommodatefuturerenewableenergyandnucleargeneration.8

– Smartgridandsmartmeters:Smartmeterswillberolledouttohouseholdsandsmallnon-domesticbuildingsbetween2014and2019,requiringanestimatedinvestmentofupto£11billion.9

• Renewableheat:Recent analysis for the RenewableHeatIncentivesuggeststhattheUKcouldsee~68TWhofrenewableheatgenerationby2020fromnon-domesticsources.Thiswouldrequire~£10billionofinvestmentby2020.10

• Energyefficiency: – Non-domesticenergyefficiency:Industry

andcommercialbuildingscouldrequire~£4.5billioninvestmentovertheperiodto 2020.11Theprojectsrangefromsmall(from tens of thousands of pounds) to large(withover£100millioninvestmentfor a large-scale industrial power and heat generation plant).

– Domesticenergyefficiency:Homespresentasignificantenergyefficiencyopportunitywithestimatesofamaximumfeasiblepotentialof~16millionseparatenewinstallationsby2020.12 The estimated amountoffinancerangesfrom£14billionto£21billionovertheperiodto2020.13

• Transport: – Rail:Aseriesofmajorrollingstock

procurements for delivery up to 2018 isunderwayforeachofThameslink,the Intercity Express programme and Crossrail which will require private sector investmentof£4billion–6billion.14 Further significantinvestmentwillberequiredincontinuingelectrificationoftheclassicrailnetworkandinhighspeedrailoverthecoming two decades.

– LowCarbonVehicles:TheGovernmentisprovidingupto£30millioninmatchfunding to support the installation of electric vehicle recharging infrastructure inleadplacesacrossthecountry,including

4DECC,A framework for the development of clean coal, Impact assessment (2009). 5DECC,2050 Pathways Analysis (July 2010) and Vivid Economics analysis. 6Basedon~£2.9billionperGWassumedcost.Thetotalwillvary depending on a range of factors including technology learning rates and input costs. 7CommitteeonClimateChange,The Renewable Energy Review (May 2011). 8ElectricityNetworksStrategyGroup,Our Electricity Transmission Network: A Vision for 2020 (March 2009). 9DECC,Smart Metering Implementation Programme: Response to Prospectus Consultation (March 2011). 10DECCanalysisfortheRenewableHeatIncentive.Totalcostis undiscounted capital costs at 2010 prices. The total will vary depending on a range of factors including technology learning rates and input costs.

11AEAReportforDECC,Assessing the carbon dioxide emissions and cost-effective carbon savings potential for organisations not covered by EU ETS, CCAs or CRC (CESA 0903) (October2010). 12Aninstallationreferstoaparticularenergyefficiencyactionsuch as loft insulation or solid wall insulation. A single property may undergo several installations. 13EstimatednumberofinstallationsandcostscontainedinEnergyBillImpactAssessmentTable1:Assumedtotalnumberofinstallationsforeachmeasureoverperiod2013–2020;costestimate relates to potential investment over the decade to 2020. 14 Department for Transport estimates.

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planstoinstallupto9,000chargepointsbytheendof2013,withcontinuedprivatesectorinvestmentto2020andbeyond.Many commentators also expect hydrogen toplayapartinthede-carbonisationofroadtransport,whichwouldrequireinvestment in appropriate fuelling infrastructure.15

• Waste and water : – Water :Tomaintainandimprovethepublic

watersupplyislikelytorequireinvestmentof~£20billionoverthenextfiveyearsandanestimated£95billionoverthenexttwodecades.16

– Waste:Thewastesector,includingbothmunicipalwasteandcommercial

and industrial waste requires up to an estimated£15billionofinvestmenttodivertwastefromlandfill,improvesustainablewastemanagementandgenerate more energy from waste.17

– Flooddefences:InFebruary2011Defraannouncedexpectedflooddefenceexpenditure over the four years from 2011/1218ofover£2billion,anaverageof~£0.5billionayear.Inadditiontothis,afurther£80million–100millionayearhasbeenspentbylocalauthorities.Expenditureisestimatedtoneedtorisetoatleast£1.1billionayearby2035tomaintaincurrentrisklevels.19

Chart 1Approximate timing of investments

Sector 2010 2015 2020 2025 2030

Transmission

Energy efficiency

Flood defence

Nuclear

Marine

Waste

Offshore wind

Onshore wind

Water

Rolling stock

Smart grid and smart meters

Renewable heat

EV charging infrastructure

Carbon capture and storage

Biomass

Energy

EE

Transport

Waste and water

Source: GIB project team analysis; non-exhaustive range of sectors

15 Department for Transport analysis. 16Ofwat,Defraanalysis.

17EstimatebasedonarangeofindustryestimatesincludingInfrastructureUK,InstitutionofCivilEngineers,Defraanalysis. 18Pressreleaseat:<http://www.defra.gov.uk/news/2011/02/09/flood-defence/>. 19EnvironmentAgency,Investing for the future: Flood and coastal risk management in England (2009).

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1.3 The green economy faces significant market failures and other barriers that need to be addressed

DespiteclearGovernmentambitionandagoodknowledgeofthefundingrequirements,thereremainsasignificantriskthatcapitalinvestmentoverthe coming years will fall short of what is needed to transition the economy at the required pace. In particular,thecombinationofanumberofdifferentmarketfailuresisconstrainingtheavailabilityoffinanceforinvestmentinnew,emerging(andinthiscase,green)technologies.

Thissectiondescribestheinteractionofthesemarketfailuresandhighlightswheretheycouldbeaddressedbyfinancialinterventions.

Wehaveidentifiedanumberofmarketfailureswhichareaffectingthefinancingofthegreeneconomy,includinggreeninfrastructureprojects:

• Externalities: Carbonemissionsfrom,forexample,electricity generation using fossil fuels affect the wider environment and where these impacts arenotincludedinthepriceoftheelectricity,these are referred to as ‘negative externalities’20 –duetotheharmtheycause.Sincemanygreeninvestments,likerenewablepowergeneration,are often more expensive than their higher carbonalternatives,policyinterventions,forexampletheintroductionofacostofcarbonassetwithintheEUEmissionsTradingScheme,arerequired to address the externalities.

• Imperfect information and information asymmetries: Incomplete information leads to uncertaintyinthemarketandhenceaffectsthemarket’sabilitytojudgeproperlythemeritsofaprojectanditspotentialrisk.Informationasymmetriescanleadtoasignificantimbalanceofinformationbetweendifferentplayers,whichresultsinabreakdownoftransactionsthatwould

otherwisebebeneficial.Oneexampleisenergyefficiencyopportunities,wheremanyenergyusers are unaware of the potential savings or how to capture them and therefore invest less thantheoptimalamountinupgradesofbuildingfabric,fittings,plantandmachinery.

• Positive spill-overs from innovation: Technology innovation,particularlyatearlystages,oftenhasbenefitstootherplayerswhichcannoteasilybecapturedbytheinnovator,forexamplewhereintellectual property is not fully protected from beingcopiedbycompetitorsorwherebenefitstakeplaceinsocietythatcannoteasilybecaptured in the price.

• Publicgoodsininfrastructure:Infrastructure often providesapublicgoodwhichbenefitsthewidereconomybutwhichdoesnothaveabusinessmodel that generates revenues appropriate for investorstomaketherequiredinvestment.Flooddefences are a good example of this.

• Imperfectcompetition/marketpower:Unlikepublicgoods,whereitisdifficulttorecoverfullythereturnsoninvestment,someinfrastructureassets(inparticularcoreenergy,water,transportandtelecoms)candeliverareturn.However,becausethenetworksareessentiallynaturalmonopolies (and hence more effectively andefficientlydeliveredbyasingleprovider)government intervention is required to ensure competitive pricing (for example the Regulated Asset Base regime that currently oversees much oftheUK’snetworkinfrastructure).

• Needforcomplementarygoodsandservices:Developmentofanindustrymightbelimitedbecausecomplementarygoodsandservicesthatare required for the industry’s development are notyetavailableatthetimeortotheextentrequired.Foroffshorewind,thiscouldincludetheavailabilityoftransmissioninfrastructureorsupply

20 An externality exists when the price imposed on an activity doesnotreflectitstruecosttothoseaffected.Thesecanbepositiveornegative,althoughfrequentlythenegativeexternalitiesareofkeyconcern.

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vessels.Alackoffinancingofprojectscanalsobeseen as a missing complementary good. Strong Government signalling as well as targeted policy interventions that support investment in the supply chain can help mitigate this limitation.

Some of these failures are manifesting themselves in thefinancingofthegreeneconomyandforgreeninfrastructureinparticular,asfollows:

• Temporaryrestrictionsincompanyandbankbalancesheetsresultingfrom‘frictional’costofraising new capital: Companies,includingutilities,industrialplayersandwastecompanies,arethetraditional source of investment in much green infrastructure,usingtraditionalcorporatefinance.Forlarge,discreteprojects,projectfinanceraisedinthebankingcommunitymayalsobeused.However,thescaleofinvestmentrequirednow(drivenbytherapidscalingupofpolicyambitions)cantemporarilyexhaustavailablecapitalfromcorporatebalancesheetsorbanks,leadingtoinvestmentbelowthatrequiredtomeetpolicyobjectives.

Long-termbanklendingviastructuredfinanceproductswillbefurtheraffectedbynewregulations(suchasBaselIII,whichrequiresbankstoincreasetheircapitalacrossallassetcategories)andbycurrentilliquidityincreditmarketsfollowingthefinancialcrisis.Whilstthelackofcapitalshouldbetemporary,transactioncosts associated with raising additional capital limitthepaceatwhichthebalancesheetsoftraditionalinvestorscanbegrown.Thesetransaction costs include frictional costs of providingthenecessaryinformationbetweenprincipalinvestorsandtargetcompaniesandriskaversionamonginvestorgroups(seebelow).

Asaresultoftheserestrictions,projectsmayneed to access alternative pools of capital across awiderinvestorbase.

• Riskaversionduetoimperfectinformationandinformation asymmetries: Often,investmentsinkeysectorsofthegreeneconomylackdealprecedentandatrackrecordofperformance.

Uncertaintycanexistaroundconstructioncosts,technologyreliabilityandperformance,policycertaintyorcounterpartyrisks.Whiledifferentinvestorgroupscanbecomfortablewithdifferentelementsofriskprofiles,thenumberofinvestorswillingtotakethesetofrequiredrisksmaybelimitedbylackofinformationandexperienceandtheapplicationofriskaverserulesofthumb.Asaresult,Governmentinterventions,whichhelpreducetherisksforcertaintypesofinvestment,mayberequiredtoexpand the range of willing investors.

• High financing transaction costs: Many green projectsinvolvenoveltechnologiesandbusinessmodels,whichincreasethecostsof‘duediligence’.Inaddition,greenprojectscansometimesbehighinnumber,butsmallinsizeanddistributedacrossalargenumberofsites–forexampleenergyefficiencyprojectsacrossalarge corporate estate or within the domestic sector. These factors can raise the costs of assessing and monitoring as well as organising externalfinanceforprojectsandcouldpreventgoodprojectswithpositiveeconomicsfromobtainingfunding.

Each of these issues can disproportionately affectthefinancingofgreenprojectsduetotheirparticular characteristics. These include:

• Reliance on long-term policy: Many green investments rely heavily on policy interventions tomakethemeconomicallyviable.Projectsoftenonlygenerateanacceptablereturnifpolicies remain in place for more than ten years and often multiple decades. This reliance cancreatesignificantperceivedpolicyriskfor investors. Whilst policy design can help to mitigatetheseperceivedrisks(forexampleguaranteeing grandfathering of policy on existinginvestment),thelackoftrackrecordin long-term green policies means that this will continuetobeanissue.

• Noveltyoftechnology:Green investments often involvetheapplicationofnewtechnologies,suchasindeepwaterwindprojectsormarinepower,

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leadingtoalackofacommonlyunderstoodtrackrecordandcapabilitytoevaluateprojects.

• Needforrapidscale-up:Insomegreensectors,rapidscale-upisrequiredtoachieveatrajectorythat can meet long-term targets or international obligations.Wherethispaceiscombinedwithnovel technologies and reliance on policy interventions(e.g.,offshorewind),investmentcan fall short of the required level.

• Capital intensity: Green technologies are often more capital intensive than their ‘non-green’ alternatives(e.g.,offshorewindcomparedtogas-firedpowergeneration;wasterecyclingandrecoverycomparedtolandfill).Asaresult,they may require a greater share of traditional investors’capitalandawiderinvestorbasetoreach the required scale of investment.

ArangeofGovernmentpolicieshavebeendevisedtohelpovercome,oratleastlimit,theeffectofmarketfailuresonthefinancingofgreenprojects.However,thereisevidencethatmarketfailures which are apparent in the green sector are interactingwithmarketfailuresaffectingfinancing.ThecombinationsoffailuresareparticularlyevidentwheretheGovernmenthasadoptedambitiousgreenobjectivesrequiringhighlevelsofinvestment.

The result is underinvestment compared with Governmentpolicyobjectivesandleadstoapotentialroleforagreeninvestmentbanktohelpaddress this investment shortfall.

1.4 Targeted financial intervention is required to catalyse the investment needed to develop a green economy at speed

Asintroducedabove,Governmentusesarangeofpolicyinterventionstoovercomemarketfailuresthathamperthegreeneconomy,withapreferenceformarket-basedmechanismsthatapply in a non-discriminatory way to all players in themarket.However,theinteractionsofmarketfailures,inthecontextofambitiousgreenpoliciesandthesemarket-basedmechanisms,maystill

mean Government needs to intervene directly. Theseinterventionsshouldbetargetedatspecificsituations and tailored to ensure maximum ‘additionality’andminimummarketdistortion.

Thereareanumberoffinancialinterventionsthatcouldhelpresolvefinancialmarketfailuresinthegreen sector:

• Riskmitigation:Changetherisk/rewardprofileofinvestmentsbymakinghigherriskinvestmentsinaproject.Thiscouldbeachievedinanumberofways,suchasofferingcontingentdebtfacilities,takingtranchesofsubordinateddebtorfirstlossequityorviaguaranteesorinsurance-likeproducts.Asaresult,theprojectscouldattractlargerquantitiesofconventionaldebtcapitalinboththeconstructionandoperatingphase:

– Constructionphase:Increasetheavailabilityofexistingsourcesofcapitalforconstruction,suchasbankprojectfinancedebt.

– Operatingphase:Facilitatetherefinancingofprojectsandincreasetheflowofcapitaltogreensectorsbyhelpingtoreplacehigherriskcapitalputinplaceatconstruction(andreturn such capital for further construction) withlowerriskcapital,suchasinvestmentgradedebt,fortheremainderoftheoperating phase.

• Innovative finance mechanisms: Devise or supportinnovativefinancemechanismsto overcome information asymmetries or high transactioncostsbyintroducingnewformsofcapitaltoexistingtypesofprojects.Forexample,createmechanismstoinvestinenergyefficiencythatrelievecorporatebalancesheetsandintroduceeitherbankorinstitutionalinvestorcapitaltoawiderrangeofprojects.

• Capital provision: Insomecases,itmaynotbepossibletomobiliseadditionalfinanceatthescale and pace required to meet Government policyobjectives.Asaresult,capitalmayneedtobeinjecteddirectlyintoprojects:

– Equitycapital,toincreasetherisk-takingcapacityofthemarket.

– Debtcapital,toincreasethepoolofcapitalavailabletobackcertaintypesofproject.

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• Information provision: Tackleinformationasymmetries through dissemination of research into the opportunities of investing in different sectorsaswellasbuildingconfidenceinGovernmentpolicybyinvestingasaprincipal.

Thefinancialinterventionsmentionedabovecouldbeimplementedbydeployingarangeofproductsdesignedtoaddressdifferentsector-specificinvestment needs.

1.5 A new institution is required to deliver ongoing financial interventions

ThesectionsaboveexplainedwhyGovernment-organisedfinancialinterventionscouldformpartofamoreefficientandeffectivesuiteofpolicymeasurestodelivertheGovernment’sobjectivesfor the green economy. These interventions could bedeliveredthroughaseriesofprogrammaticinterventions,orbyanewfinancialinstitution.

TheGovernmentbelievesthatthebestwaytodeliverfinancialinterventionstoacceleratethetransitiontoagreeneconomyisthroughanew,enduring institution.

The need for an enduring institution over the coming decades is as follows:

• Financialmarketfailuresarecomplexandfast-changing,requiringdeepexpertise:Understandingtheultimatecausesoffinancialmarketfailurerequiresdeepknowledgeandexpertise. This includes understanding issues suchastheasymmetriesofinformationbetweendifferent investors and the transaction costs relatedtofinancialduediligence.Afinancialinstitution which can develop expertise through participationinthemarketisbestplacedtodecidewhatinterventionsarerequiredtobeefficientandeffective.

• Greenfinanceinterventionstotacklemarketfailures require development of in-house specialist expertise: Financial interventions designedtotacklemarketfailuresrequireacombinationofspecialistfinanceexpertiseand

an expertise in Government policy and green technologies.Anewinstitutionwillbeabletodeveloptheseskills,becomingamarketleaderincutting-edgegreentechnologyfinancing.Itcould also then advise Government on the impact that policies are having on investment in the green economy.

• Intervention at arm’s length from Government buildscredibility:Although Government could attempttobuildtherequiredgreenfinanceexpertiseinternally,credibilityandmarketconfidencecanbeincreasediftheinterventionsaremadeatarm’slengthfromGovernmentbyprofessionals with private sector expertise.

Forthesereasons,anewandenduringinstitutionisrequiredtodeliverthefinancialinterventionsneededto support the transition to a green economy.

1.6 The GIB will require focus to be effective

Financingneedsandmarketfailuresarenotequallypressing in all parts of the green economy. Given limitedresourcesandtheneedtodeliverefficientandeffectiveinterventions,theGIBwillneedtoreviewcarefullythemarketneedandpotentialimpact of different interventions. The GIB’s strategic prioritiesarelikelytoincludepolicyobjectives,marketinterventionpriorities,broadgreencriteriaandfinancialcriteria.Theseareexplainedfurtherinsection2.3below.

Itislikelythatarangeofprojectsorinterventionswill satisfy these criteria. Following a non-exhaustive reviewofdifferentneedsacrossthegreeneconomy,wehaveidentifiedthreesectorstoillustratetheevidenceofmarketfailures:offshorewind,non-domesticenergyefficiencyandwaste.Furtherworkis ongoing to determine the potential impact of GIB interventionsinthesesectorsinordertoconfirmwhethertheyshouldbeprioritised.Decisionsonprioritysectorswillbedeterminedinduecourse.Somesectorsarelesslikelytobeanearlypriority,althoughthisislikelytochangeovertime.

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• Timing: The sector is yet to require investment that exceeds the capacity of traditional sources offinancing,ordoesnotyetofferopportunitiesforinvestmentontermslikelytomeettheGIB’s criteria. This includes CCS and EV charging infrastructure.

• Relevance or need for GIB interventions: Other policieshaverecentlybeensetorareactivelybeingconsideredtoaddresscurrentmarketfailures,andGIBinterventionsareeithernotlikelytobe,orarenotyetunderstoodtobe,complementary. This includes areas such as onshorewindandinvestmentinflooddefences.

Chart 2 sets out a provisional high level appraisal of sectorsforfinancialintervention.

Offshore wind

The offshore wind sector plays an important role in the Government’s desired UK power generation mix.

Utilitiesareinvestinginoffshorewind,butcannotinvestatthelikelyscalerequiredduetoconstrainedbalancesheets.Offshorewindsuffersfromasignificantlackofinformationandfrominformationasymmetries,duetothenoveltyofthetechnology,lackoflong-termtrackrecordandreliance on policy to support its economics. These areexacerbatedbyitscapitalintensityandrapidscale-uprequirements.Thesefailuresleadtoriskaversion among some investor groups and can limit thenumberofpotentialinvestorsinoffshorewind,which have so far mainly comprised traditional utility investors.

TheGIBcouldplayanimportantroleinfindingadditionalsourcesoffinancingbeyondutilitybalancesheets,byco-investingorbyhelpingtorefinanceafter the end of construction. Interventions could alsoreduceprojectfinancingcostsbyhelpingtoplacedebtinthecapitalmarketsandbyde-riskingprojectfinancefordevelopmentorconstruction.This would facilitate the increased participation of

Chart 2Provisional high level appraisal of sectors for GIB financial interventions

Sectors

Assessment factors

Size of investment need

Timing of required investments

Relevance of financial solutions the GIB could potentially deploy

Water

Rolling stock

EV charging infrastructure

Waste

Offshore wind

Energy efficiency

Energy

EE

Transport

Waste and water

Flood defence

Carbon capture and storage

Marine

Biomass

Onshore wind

Nuclear

Transmission

Smart grid and smart meters

Renewable heat

Source: GIB project team analysis; non-exhaustive range of sectors

Small / far away / lowLarge / immediate / highInitial investigation of potential

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independentprojectdevelopers andfinancialinvestors.

Waste

Investments in the waste sector are needed to helptheUKmeetitslandfilldiversiontargets,reducegreenhousegasemissionsandcontributetorenewableenergytargets.Theaimofsuchinvestmentsistoreducelandfillvolumesandrelatedenvironmental costs and help to recover recycled materials or energy from waste.

TheLandfillTaxisakeypolicytoolforencouraginginvestmentinsustainablewastemanagementand the waste sector is currently undergoing a majortransformation.However,evidencesuggeststhatseveralissuesremain,includingtheneedforcomplementary services and long-term contracts to give investors certainty around the introduction ofnoveltechnologiesandbusinessmodelsthatlacktrackrecordandthatcanproduceriskaversionamongsomeinvestorgroups.Theseproblemspersist,forexample,inthecommercialandindustrialwastesector,whichplaysanimportantroleinsustainablewastemanagement.Thiscanmakeitdifficultforwastecompaniestoobtainfinancingbeyondtheirbalancesheets,whichcanbesignificantlyconstrained.

It is envisaged that the GIB could play a catalysing roletohelpcompaniesscaleupinvestmentsbyintroducingequityanddebtco-investment.Itcouldalsoprovideriskmitigationproductsthatreducetheriskprofileofprojectsandmaketraditionalbankdebtmoreavailable.

Non-domestic energy efficiency

Investmentinnon-domesticenergyefficiencyhasthepotentialtoreduceenergyusageand,atthesametime,provideattractiveratesofreturnforthecompaniesthatinvest.Theseincludebothlargescalecommercialbuildingsandindustrialplantandmachinery across a wide range of sectors.

Industrial players and large commercial property ownerscanhavelimitedbalancesheets,whichrestricttheirabilitytoinvestinafullrangeofcost-effectiveenergyefficiencymeasures.TheGIBcouldintroduceinnovativefinancemechanismstoincreasetheamountoflowercostdebtforcommercialbuildingsandindustrialenergyefficiency.Thesefinancingmechanismscouldpotentiallybecombinedwithadvicetohelpidentifyfurtherenergyefficiencymeasures.

The case for GIB interventions in particular sectors isemerging.Workisongoingtodevelopthecase for interventions in these and other sectors. Residentialandsmallnon-domesticbuildingenergyefficiencyiscurrentlybeingaddressedbytheGreenDealpolicy,whichisundergoingdetaileddesign.Workalsocontinuestoexploretheevidenceofmarketfailures.Thisworkwillincludeconsiderationof the potential and necessity for the GIB to supportthefinancingofinvestmentindomesticenergyefficiencyduringthefirststagesofGreenDeal delivery. The Government’s primary aim remainsforthistobeaprivate-sectorledscheme.

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Box 1Areas of the green economy where existing or planned policies are likely to be sufficient to tackle market failures

• Earlystage,pre-commercialtechnologydevelopment:ThereisabroadlandscapeofGovernmentsupportforearly-stagegreenandlowcarbontechnologydevelopment.Inparticular,significantsupportisprovidedbytheTechnologyStrategiesBoard,theCarbonTrustandtheEnvironmentalTechnologiesInstitute.Inaddition,researchcouncilsprovidesupportforearlystageR&D.

• Commercialtechnologydevelopment:TheGovernmenthasmadeanumberofinterventionstosupportincreasedventurecapital.Forexample,CapitalforEnterprisemanagesarangeoffunds,someofwhichtargetinnovationbytechnologycompanies,includinggreentechnology.

• Growthofsmallandmedium-sizedenterprises:ThereisabroadrangeofGovernmentinterventionstoassistSMEs’growth,includingtheEnterpriseFinanceGuaranteeandEnterpriseCapital Funds.

• Gridtransmission:Ofgemhasputinplacearegulatedassetbaseandanoffshoretransmissionoperatorregimethatseektoprovideanattractiveandstableenvironmenttoincentiviselong-terminvestment.

• Municipal solid waste: Government is providing support for PFI contracts.

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Section 2 The GIB will be set up as an enduring institution

The GIB will be set up as an enduring institution. We will put in place best practice corporate governance arrangements and ensure that it operates at arm’s length from Government. These will include:

■ Awelldefinedcharterthatcontainsthe GIB’s mission and operating principles and provides guidance on its long-term goals

■ Clearstrategicprioritiesthatoutlinegreen priorities, sectors in scope and high level guidance on investment criteria, amongst other things

■ Investmentcriteria,whichtranslatethe strategic priorities into metrics to guide the GIB’s investment decisions

Thissectiondescribesthesearrangementsinmoredetail. It also sets out how certain legal constraints will affect the set-up of the GIB.

2.1 The GIB’s long-term goals will be defined in its mission and operating principles

The GIB will have a long-term charter that outlines its mission and operating principles. This charter will provide the core principles that will govern the GIB’s operations throughout its existence. Following completionofthestateaidapprovalprocess,theGIBwillbeenshrinedinlegislationtoconfirmitsindependent status as an enduring institution with a keypublicrole.

Mission

TheGIB’smissionwillbearoundprovidingfinancialsolutions to accelerate private sector investment in the UK’s transition to a green economy.

ThemissionstatementwillgivetheGIBsufficientflexibilitytoadjusttochangingmarketneeds.Itwill,however,containanumberofimplicitchoices.Thesewill include:

• To focus on investments that support the transition of our domestic economy.

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• Tofocusonthebroader‘greeneconomy’(ratherthannarrowlyoninfrastructure,orlowcarbonsectors).

• Tofocusondeployingfinancialsolutions(ratherthanpolicy,advocacyortechnicalresearch)toincrease the supply of private sector capital.

Operating principles

TheGIBwillshapeitsbusinessmodelandoperations in accordance with a set of proposed operatingprinciples.Thesewillbesubjecttofurtherwork,butitisproposedtheywillbealongthefollowing lines:

• Greenobjectives,sustainablefinances:Workingtowardsa‘doublebottomline’,deployingcapitaltoachievesignificantgreenimpactwhilstgenerating positive portfolio returns and in doingso,preservingandbuildingitscapitalbase.

• Enduring impact: Buildingasustainableinstitution that delivers the long-term impact requiredbytheUK’stransitiontoagreeneconomy.

• Strategic alignment with Government: Aligning strategic priorities with Government green policyobjectivesandinitiatives.

• Operational independence from Government: Putting management and operational decision makingatarm’slengthfromGovernment.

• Partnership with the private sector: Operating incooperationwithprivatesectorplayers,enhancing private sector provision and leveragingprivatesectorcapabilitieswhereappropriate,andnotactingwhereGovernmentpolicyobjectivescouldbemetbyprivatesectorprovision alone.

• Minimising distortions: Operating consistently withEUstateaidrules,minimisinginappropriatecompetitionandadverseimpactsonmarketpricing.

2.2 The GIB’s governance model will be designed to support its mission

TheGIBwillinitiallybeownedbytheGovernmentand will operate as a separate institutional unit at arm’s length and with full operational independence.

TheGIB’sproposedgovernancemodelwillbedesignedtoallowforapossibleeventualtransferofownership from Government to the private sector of some or all of its activities.

Thegovernancemodelwillhavefivecomponents–theDepartmentforBusiness,InnovationandSkills(viatheShareholderExecutive)asShareholder,aGIBPolicyGroupthroughwhichministerswillbeconsultedaboutpriorities,theGIBCorporateBoard,theBoardCommitteesandtheExecutiveManagement–withthefollowingmainresponsibilities:

• Shareholder: TheDepartmentforBusiness,InnovationandSkills,viatheShareholderExecutive(ShEx)willbetheGIB’ssoleshareholder.ShExcurrentlyworkswithanumberofshareholderdepartmentstosupporttheircapabilitiesasshareholdersofbusinessessuch as the Export Credits Guarantee DepartmentandNationalAirTrafficServices.Theshareholderwill,inconsultationwiththeGIBPolicyGroup,approvethefoundingarticlesoftheGIB,theGIBcharterandthestrategicpriorities. It will also exercise shareholder controlsoverboardmembership,remunerationand other customary matters.

• GIB Policy Group: TheGIBPolicyGroupwillbea forum to co-ordinate departmental priorities. It will also agree the GIB’s strategic priorities with the GIB Corporate Board and Executive Management.Itsdecisionswillreflectministers’policy agendas and priorities. Ministers will also sign off the GIB’s strategic priorities.

TheGIBPolicyGroupwillbechairedbyBISand comprise representatives from relevant government departments. The list of departments willbedeterminedbyministers.

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• GIB Corporate Board and its committees: The GIB Corporate Board and its committees willoperateinlinewithbestpracticeprivatesector corporate governance guidelines. The Board’smaintaskwillbetohelptheGIBPolicyGroup set the strategic priorities and ensure theGIBisoperatinginlinewithitsmission,operating principles and strategic priorities. Its responsibilitieswillinclude:

– Settingstrategyandplans:AnnuallyreviewthestrategyandbusinessplanfortheGIB,developedbytheExecutiveManagement,takingintoaccountthestrategicprioritiesagreed with ministers.

– Monitoringperformance:Monitorandevaluate the GIB’s progress towards accomplishingitsstrategyandbusinessplan.

– Overseeingkeymanagementissues:AppointtheCEO,evaluatetheCEOsuccessionplan,setseniormanagementand CEO compensation and evaluate their performance.

– Ensuringthesafetyandsoundnessofthebusinessoperation:Overseeriskmanagementandauditing,ensureethicalbehaviourandcompliancewithlawsandregulations and accounting principles.

– Overseeingothergovernanceissues:ProposenewcandidatesfortheBoard,setBoardgovernanceprocesses,andinputintopersonnel strategy.

• Executive Management: The Executive ManagementwillberesponsiblefortheGIB’sday-to-dayoperations.Itsspecificresponsibilitieswill include:

– Developinglong-andshort-termstrategy:Developing and proposing the long-term strategyandannualbusinessplanwhichwould include decisions around the investmentpriorities(e.g.,atasectorlevel)and products.

– Developinginvestmentevaluationcriteria:Determiningdetailedinvestmentcriteria,foragreement with the Board.

– Managingperformance:Managingtheorganisation to deliver against the businessplan,includingcreatingand

buildingappropriateprocessesandtakingappropriate human resource decisions.

– Externalreporting:ProvidingperformancereportstoBIS,theGIBPolicyGroupandthegeneralpublicaccordingtoanagreedreportingframework.

TheGIBwilloperatetransparently.Inparticular,weenvisage it sharing information in two main areas:

• Shareholder report: The GIB will report at an agreed frequency to the Shareholder. Its metricswillbedeterminedbytheExecutiveManagement team in consultation with the BoardandBIS.Thesewillbealigned,whereappropriate,toGovernmentpolicyobjectives.The reporting is expected to cover information abouttheGIB’sfinancials(e.g.,financialresults,capitalallocation,riskallocation,operatingexpenses),itsrelationshipwithpartnerorganisations(e.g.,amountoffundingallocatedviadifferentpartners),anditsgreeneconomyimpact(e.g.,volumeofnewandtotaldealsbysector,actualandexpected‘greenimpact’,costefficiency).Itwouldalsocontainspecificindicators of value for money.

• Annual report: TheGIBwillpublishanannualreport to inform the Shareholder and the widerpublicaboutitsactivities.ThecontentofthisreportwillbedeterminedbytheBoardin consultation with BIS and the GIB Policy Group. It is expected to include a summary of itsannualfinancialresultsandanoverviewofitsimpact on the green economy.

InterimreportswillbeprovidedforBISandtheGIBPolicyGroupincaseofmajorevents.

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2.3 The GIB’s strategic priorities will guide its Executive Management

The Government and the GIB Corporate Board will agreemedium-term,broadstrategicandinvestmentguidancefortheGIB.Inthisway,theGovernmentwill align the GIB’s strategic direction with its policy priorities,whilenotinterferingwiththeGIB’sday-to-day management. Ministers will sign off the GIB’s strategic priorities.

ItisenvisagedthatthestrategicprioritieswillbesetforeachoftheGIB’sfundingperiods,includinganyagreedcaponborrowing.Thisisexpectedtocoincide with Government Spending Reviews.

The strategic priorities will provide guidance on the GIB’s short to medium term strategy as well as on the criteria which management should consider whenjudgingthesuitabilityandvalueformoneyofinvestments.Thisguidancewillformthebasisof the GIB investment committee’s more detailed investment criteria. We envisage the strategic priorities will include:

• Alignment with green policy priorities: – Greenpolicyobjectives:Guidanceonareas

of the green economy that are priorities and that the GIB could potentially focus on,providedthesealsomeetwidercriteria.The priorities could also include high level guidance on any areas of the green economy in which the GIB should not invest.

– Marketinterventionpriorities:BroadguidanceonthefinancingmarketfailuresandbarrierswhichtheGIBshouldseek to address.

– Otherpolicyrequirements:Guidanceonareas of the green economy where current or future planned policy interventions will meanGIBinterventionisunlikelyto berequired.

• Broad investment criteria that include: – Greencriteria:Broadparameterstodefine

the performance characteristics of green investments and the metrics for measuring andmonitoringgreenbenefitsbothacross

individualprojectsandtheportfolioas a whole.

– Financialcriteria:Guidanceontherisk-adjustedfinancialreturnandcapitalpreservationrequirementsfortheGIB,includingitsportfoliodiversificationrequirements (within the constraints of the policy parameters).

WhilstthestrategicprioritieswillbeagreedbetweentheGovernmentandtheGIBCorporateBoard over GIB funding periods (which are expected to coincide with Government Spending Reviews),theGIBCorporateBoardwillhavetheabilitytoproposeamendmentsshouldtheinvestment environment shift over time. This feedbackloop,initiatedbytheGIB,willenabletheGIB to remain proactive in delivering the maximum impact against its mission.

2.4 The GIB’s strategic priorities will also guide its investment criteria and day-to-day investment decisions

TheGIB’sinvestmentcommitteewillmakeinvestment decisions. The committee will consist ofmembersoftheExecutiveManagementandwillreportdirectlytotheBoard.Aboveadefinedthreshold,orinexceptionalcases,individualinvestmentdecisionsmayrequireapprovalbytheBoard.Theinvestmentcommitteewillmakedecisionsbasedonadetailedsetofinvestmentcriteria.

The investment criteria are expected to comprise a mix of ‘green/social’ and commercial factors that reflecttheGIB’sstrategicpriorities.Belowisanillustrative list of such factors.

• Green/social criteria: – Greenimpact:Contributionofan

investmenttopolicyobjectivessetoutin the GIB’s strategic priorities. Potential metricscouldinclude,forexample,tonnesof CO2reduction,ortonnesofwastedivertedfromlandfill.

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– Growthimpact:Contributionofaninvestment to the growth of the UK’s green economy.

– Additionality:ThataprojectwouldnotbefinancedinfullwithouttheGIB’sinvolvement.Concessionalfundscouldbeusedifitisunlikelythattheprojectwouldotherwisegoforward.However,theGIBmayneedtoavoidmarketdistortionsandmaintainminimumrisk-adjustedfinancialreturns.

– Cost-effectiveness:‘Greenimpact’perpoundoffundingprovidedbytheGIB.This measure would need to consider the efficiencyofagiventechnologyandtheinvestment’sabilitytomobiliseadditionalprivatesectorfinance.

– Compliancewithotherbestpracticecriteria:These could include other environmental criteria,includingtheprotectionofthelocal environment and health and safety requirements.

• Commercial criteria: – Riskadjustedreturn:Therisk-adjusted

expectedreturnofaprojectisaboveaspecificthresholdtoensurecapitalpreservation and accumulation. The precise thresholdwillbesetbytheExecutiveManagement in response to the high level financialobjectivessetbyministers.

– Financialsustainability:Thataprojecthasahighprobabilityoflong-termfinancialsustainabilitybothduringtheperiodoftheGIB’s investment and afterwards. This could includethataprojectisviableforthelongterm to ensure that the expected ‘green impact’ is realised and sustained.

– Exposurelimits:Thesecouldincludesub-sector,technologyandgeographiccriteriathatwouldhelptomitigaterisks.

– Capitalrecycling:Thataprojectrequiresshortertermfunding,andhenceallowsfaster capital recycling (within the constraints of policy parameters).

2.5 Regulatory and compliance issues will influence the establishment and activities of the GIB

TheGIBwilloperatewithinanumberoflegalandregulatoryframeworks,whichimposeboundarieson the scope of its operations and which will change over the GIB’s various phases. The most important constraints are:

• State aid: ThedesignoftheGIBitself,anditsproductsandservices,willneedtotakeintoaccount the application of the state aid rules (particularly set out at Article 107 of the Treaty on the Functioning of the European Union). The proposalsfortheGIBwillhavetobenotifiedtoandapprovedbytheEuropeanCommission,withinitialdiscussionshavingalreadybegun.However,notallproposedactivitieswillrequirestate aid approval. It is therefore proposed to buildtheGIBinphases,startingwithactivitiesthatdonotrequirenewstateaidapprovals–seesection2.6below.

• Financialregulation(priortoGIBborrowing): – Bankingregulation:Legaladviceisthatthe

GIBwillnotinitiallyneedtobeauthorisedbytheFSAasabank.However,theGIBmanagementteammaywishtoshadowbestbankingpracticeinthelead-uptoacquiringborrowingpowers.ThisanalysisonlyappliestotheGIBbeforeitgainsborrowingpowersandisbasedontheassumptionthattheGIB,atthisstage,willnotfunditselfbysolicitingdeposits,eitherfromtheretailorwholesalemarket,andwillnotholditselfouttothemarketasasecuritiesunderwriterorasbeingwillingtobuyandsellsecuritiesonacontinuousbasis(i.e.,market-making).The GIB will need to determine which borrowingmechanismtouseandwhetherandwhentoapplyforabankinglicence.

– Otherregulatedactivities:AstheGIBwillinitially: (i) operate within government or beotherwisewhollyownedbygovernment,(ii) deal with or manage only government funds,and(iii)totheextentthatitprovidesadviceorotherinvestmentservices,doso

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onlywithingovernment,itwillalsonotneedtobeauthorisedtoconductregulatedassetmanagement or advisory activities. The GIB’s regulatorystatuswill,however,needtobekeptunderreviewifandwhenitsbusinessmodelorproductrangeisdevelopedand,inparticular,iftheGIBstartstomanagethirdparty(i.e.,non-government)funds,orprovides investment advice on a commercial basis,becomesinvolvedinsecuritiesunderwritingorplacingactivities,offersrisktransfer or hedging products (such as credit default swaps or contracts of insurance) or otherwise engages directly with the retail financialservicesmarket.

• Government funding and accounting treatment: TheGIBwillbeestablishedasacompanyundertheCompaniesAct2006.TheOfficeofNationalStatisticswillneedtocometoaview,induecourse,ontheGIB’sclassification,includingwhetheritisa‘publiccorporation’forthepurposesoftheNationalAccounts.

2.6 The GIB will evolve in three phases

ItisunlikelythatstateaidapprovalsfortheGIBwillbeobtainedbyApril2012–thedateatwhichtheGovernmentaimstostartmakingfinancialinterventionsinthemarket.Therefore,thebuild-upoftheGIBwillbestaggeredoverthreedistinctphases.Thephasedevolution(Chart3)willenablethe GIB to operate smoothly within the remit of legal,regulatoryandaffordabilityconstraintsandadapttoanyemergingpolicypriorities.Thefirstphase would lay the foundation of the future GIB andenableearlyinvestmentstobemade.Thefuturephaseswouldbeaimedatdevelopingafullyfunctional institution.

• PhaseI–Incubation:From April 2012 until achievingstateaidapproval,theGIBwillbeinanincubationphase.Investmentswillbestructuredsothateither(i)nostateaidisinvolved(becausetheGovernmentisparticipatingonfullycommercialterms);or(ii)theprojectsarewithinthescopeofexistingstate aid exemptions and approvals.

Chart 3The GIB will evolve in three phases between now and 2020

£2.225 bn funding

£0.775 bn funding

Phase I

Phase II

Phase III

The ‘incubation’ GIB

GIB is structured as a ‘stand-alone non-borrowing’ institution

GIB gets borrowing powers (if supplementary debt test is met) and becomes a ‘levered institution’ with an alternative of outsourcing core/non-core operations

Source: GIB project team analysis

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• PhaseII–Establishment:Following state aid approval,theGIBwillevolveintoastand-aloneinstitution.Inthisphase,theGIBwillbecreatedas a fully operational institution with a well-definedorganisationalstructureandoperatingmodelandwillactasaprovideroffinancialsupport and investment for the green economy. Itsset-upandscalewill,toalargeextent,dependonitssectorandproductdistributionfocus.Thegovernancewillbestructuredasdescribedinsections2.1–2.4.

• PhaseIII–Borrowingpowers:From April 2015,andifpublicsectornetdebtisfallingasapercentageofGDP,theGIBwillacquireborrowingpowers.Thiswillenableittobroadenthescopeofitsproductofferingandsectorfocusandtobecomeasignificantlenderfor green investments across a wider range of sectorsifthecaseformarketfailureofcapitalprovision is made.

2.7 In the incubation phase, the Government will invest directly

Duringtheincubationphase,theGovernmentwillmakedirectfinancialinterventionstoaccelerateinvestment in the green economy. The Government willmaketheseinterventionsviatheDepartmentofBusiness,InnovationandSkillsusingasmallstaffoffinanceprofessionals.Investmentdecisionswillbeoverseenbyaninvestmentcommitteeandwillneedtobecompliantwithstateaidrestrictions.Duringthisphase,theGovernmentwillalsoputinplaceanAdvisoryGroup,comprisingexperiencedfinanceprofessionals. The Advisory Group is expected to focus its advice on the setting up and long-term strategic direction of the GIB.

2.8 The location for the GIB will be chosen to enable it best to deliver its mission

As the GIB transitions into a fully operational entity inPhaseII,itwillneedtobebasedinalocationthatallowsittooperateinaneffective,efficientandscalablemanner.TheGovernmentandtheGIBCorporateBoard,workingcloselywiththe

GovernmentPropertyUnit,willconsideranumberofcriteriabeforetakingadecisionontheGIB’slocation,including:

• AbilitytofulfiltheGIB’smission:TheGIBwillbebasedinalocationthatbestenablesittofulfilits mission through other players in the wider greenandfinancialmarkets.Inparticularitwillneedtobeincloseproximitytothefollowinggroups:

– Privatesectorfinanciers:Includingbankprojectfinanceteams,infrastructurefunds,privateequityhouses,commerciallendingbanksandinstitutionalinvestors.CloseproximitywillenabletheGIBtoencouragemobilisationofadditionalprivatesectorcapital.

– Projectsponsors:Includingtheheadofficesofutilities,wastecompanies,largeindustrialcompaniesand‘green’projectdevelopers.

– Specialistadvisors:Includingspecialistlegaladvisorsforprojectfinance,commercialand technical advisors and asset service providers.

– Greenthoughtleadership:Tosolicitthirdpartyadviceongreenpriorities–e.g.,NGOs,tradeassociations,governmentagencies.

– Government:Toengageappropriatelywith Government on the impact of policy changes and future funding.

• Ease of access to the talent pool: It is imperative that the GIB’s location provides easy access to deeppoolsoftalentwiththenecessaryskillsinfinancialservicesand‘green’expertise.

• Commercial costs: Themajorcostdriversarelikelytoinclude:

– Costsofrecruitingfinancialservicesandother expert talent including professional advisors

– Buildingrentalandinfrastructurecoststohostandsupportasmallsizedbankingfunction(currentlyenvisagedasa50–100employee operation).

– Costsofbackofficesupport,administrationand maintenance.

– Travelcosts(e.g.,forstafftravelinvolvedinmarketing,originationandduediligence).

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Section 3 The GIB will deliver a range of products

The GIB Corporate Board and Executive Management team will be responsible for shaping the GIB during its second phase, taking into account guidance from the strategic priorities. The shape of the GIB will be influenced by the sectors that require significant GIB interventions as well as the initial product mix and the approach to risk management.

Anillustrativeviewoftheseareasfollowsbelow.

3.1 The initial product mix will include both equity and debt products

ItisenvisagedthattheGIBwillofferabroadrangeof products tailored to the needs of different sectors. The initial product mix is envisaged to consistofequityanddebtinstrumentsdesignedtoaddressspecificfinancingneedsthathavebeenidentifiedthroughextensiveconsultationwithmarketparticipantsacrossanumberofpotentialsectors.Overtime,theGIBcouldoffernewproductsinresponsetomarketneeds,policyimperatives,andanimprovedunderstandingofthe impact of different product interventions. Thesecouldincludeinnovativeformsoffinancingmechanisms which introduce new classes of capital tocorporateinvestorsor,subjecttolegal,regulatoryandfiscalaffordabilityrequirements,somemore

targetedformsofguaranteesorinsurance-likeproducts.

The GIB will deploy product lines carefully tailored tospecifictransactionsandprogrammes.Theaimofeachoftheseproductswouldbetoincreasethe rate or scale of deployment of assets and investment in their targeted area. These products couldspanequityandmezzanineandotherdebtinstruments.

Fivepotentialproductareashavebeenidentifiedinresearchtodate,whichcouldbebotheffectiveinmobilisingadditionalcapitalanddeployedrapidlyinthemarket.Whiletheactualmarketneedwilldeterminetheproductuptake,someproductsarelikelytobebestsuitedtoparticularsectors,asdescribedbelow.

• Firstlossdebtintheconstructionphase:The GIBcouldofferasubordinatedfacilitytoreplacethecontingentfinancingthatseniorcreditorscurrentlyprovideinsomeprojectstofinanceconstruction cost overruns. This could provide twobenefits.First,thecontingentcommitmentpreviouslyprovidedbyseniorlenderscouldbefreedtobelentintootherprojects.Second,thesubordinationofthisfacilitywouldimprovetheriskprofilefortheseniorcreditors,potentiallybringingnewlendersintosectorswheretheydo not currently participate. The contingent subordinatedfacilitymayrequireconcessionaltermstofitintotheoverallprojecteconomics.

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Constructioncontingentsubordinateddebtislikelytobesuitablefortheoffshorewindsectorin which large amounts of capital are required during the construction phase. The contingent subordinateddebtcouldattractnewcapitalandfree up part of the already invested capital to beusedforbringingforwardotherinvestments.Thisproductwouldbedependentonthegreateruseofprojectfinancinginthesector.

• Equity co-investment: Investmentonmarkettermsinsectorsinwhichavailableequitycapitalislimited,theGIBcouldoffertoinvestequityalongsideothersponsorsonaparipassubasis.Thiswouldenablesponsorstodevelopmoreassetsthantheywouldotherwisehavebeenabletodevelop,and,insomecases,couldaccelerateinvestmentbyallowingsponsorstosupportmoreprojectsatonetime.

Paripassuequityco-investmentcouldbeapplicabletorenewablepowerandwastemanagementprojects,wherebankfinancingislimitedandbalancesheetfinancingisalsorestricted. In these sectors the GIB could provide part of the capital on equal terms with theothersponsorsenablingmorecapacitytodevelop.ItisalsopossiblethattheGIBcouldco-investwithsponsorsthatwouldliketousenewertechnologiesbutdonotwishtoprovideall of the capital required to do so in a given project.TheGIBcouldalsopurchasesponsors’equityincompletedprojectstoallowthemtoredeploy their capital into new development. ThiscouldbeafirststeptotheGIBseekingtorefinanceanoperatingasset,forexampleintroducinglowercostformsoffinancesuchasinvestmentgradedebt.

• Paripassuseniordebt:When there is a shortage ofseniordebtfinanceavailable,theGIBcouldlendonaparipassubasiswithotherfinancialinstitutions. This product does not involve any concessionary elements and is designed to addresscapacityconstraints.Assuch,itwillenablethefinancingoflargeprojectsforwhichthereissome,butnotenough,commercialappetite at any given time. This product would

absorbalargeamountoftheGIB’sfundingcapacity relative to other products and would needtobeusedjudiciously.

The offshore wind sector is the main candidate forparipassuseniordebtintheshortterm.Research suggests that there is little or no immediatedemandforseniordebtforcurrentprojectsorinitialprojectsundertheRound3licences.However,giventhedegreeoffinancingrequireditisreasonabletobepreparedforspecificshortagesofseniordebtfinance.Theseshortages could arise as lending institutions exhausttheirlendingcapacityforthissub-sectororifspecificcorporatesponsorsandasufficientsecondarymarketforloansdonotdevelop.

• An upfront refinancing commitment: Although severalbanksroutinelymakeloanstofinanceconstructionoflowcarboninfrastructure,theregulatory capital requirements for long-term loans mean that many do not wish to hold loans for the very long periods typical for this kindoffinancing.TheGIBcouldcommitonapre-agreedbasisatfinancialclosetorefinancebankdebtfollowingtheconstructionandcommissioningofassets,subjecttoperformancetests.Thiswouldgivebanksgreatercertaintyofrefinancing,reduceeffectivematurityofloans,and allow more investment into new assets.

The offshore wind and waste management sectorscouldfindstapledrefinancingparticularlyrelevantbecauseoftheirneedforsignificantinvestmentduringtheconstructionphaseandbecauseofthelonglifeofprojects.TheGIB’sprovisionofastapledrefinancingcommitment could support additional investment into the sector. Given that the projectswhereconstructionwillstartinthecomingyearshavealreadysecuredfinancingandgiventhatprojectfinancingisnotcurrentlywidelyused,thisproductislikelytobecomemore relevant in future years.

• Subordinateddebtduringtheoperationalphase: Providingsubordinateddebtduringtheoperationalphasewouldimproveaproject’s

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riskprofileforinstitutionalinvestorstoalevelcommensuratewiththeirriskappetite.Itcouldbetterenablerefinancingofsponsors’(banks,utility companies) investments with long-term capitalmarketfinancing,andthereleasedcapitalcouldbedeployedinnewprojects.Liketheconstructionphasesubordinateddebt,thisproduct may require concessional terms and dependonprojectfinanceexecution.

Operationalsubordinateddebtcouldbesuitableforwastemanagementandoffshorewindprojects.Forbothsectorstheconstructionand operational phases present very different risks,andinstitutionalinvestorscouldpotentiallyparticipateinfinancingtheoperationalphase,enablingcapitaltoberecycledintotheconstructionphaseofadditionalprojects.

Theaboveproductsarenotanexhaustivelist.The GIB is expected to continue to explore new productsacrossthefullrangeofriskmitigation,capitalprovisionandinnovativefinanceproducts,includingguaranteesandinsurance-likeproducts.Eachinterventionwillbecarefullyweighedagainstthe investment criteria and metrics of success set bytheGIBCorporateBoardfromtimetotimetoensure value for money.

3.2 The GIB will pursue a number of models to deliver its products

TheGIB’soriginationanddistributionapproachwillneedtoreflectthedifferentcharacteristicsofthesectors it serves and the products it offers. Sectors withlargecomplexdealsarelikelytorequireamoredirectapproach(e.g.,offshorewindandwaste). The GIB might need to use intermediaries todistributemorestandardised,smaller-ticketproductstoabroadercustomerbase,whichcouldinvolveworkingwithotherbanks.Alternatively,theGIB could also decide to contract out part of the investment management function to a private sector assetmanager.Theprecisemixofmodelswillbeadecision for the management of the GIB to consider andwillevolveovertime.Anydistributionapproach

shouldbesetuptoensurethattheGIBremainsagiletoadapttochangingmarketneedswhilemanagingthecostandefficiencyoftheoperation.

The future decisions of the Executive Management regarding sector focus and product mix will determine what sort of organisation the GIB will ultimatelyneed.TheGIBwilllooktomodelitselfon relevant private sector commercial/investment bankingstructures.ItisexpectedthattheoverallsizeoftheGIBwillremainrelativelysmall,withbetween50and100employeessinmostoftheorganisational structures considered.

3.3 The GIB will mitigate both product and counterparty risks

Akeycauseofmarketfailuresingreeninfrastructureistheinherentlyriskynatureoftheinvestments. The GIB will need to understand and mitigatetheseriskstoensurethatitsproductshelp it to deliver its strategic priorities and that it generates the required returns on its investments.

TheGIBwillfacetwomaintypesofrisks:product/project/sectorrisk(i.e.,uncertaintyaboutthereturnoninvestmentinaspecificproduct/project/sector)andcounterpartyrisk(i.e.,uncertaintyovertheabilityandwillingnessofacounterpartytofulfilitscontractualobligationstowardstheGIBrelated to an investment or product). The GIB will need to consider how small changes and extreme events such as the default of counterparties or the shut-down of an entire asset would impact its profitabilityandabilitytomaintainitsinvestmentschedule.

Toreducethelikelihoodandimpactofrisksthere are several actions that the GIB could taketomitigateproduct/project/sectorriskandcounterpartyrisk:

• Product/Project/Sectorriskmitigation: – Extensiveduediligencewithpartners

and expert advisors: An extensive due diligenceprocessshouldbeestablishedusing

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outsourced expertise if necessary in the caseofnewprojectsorsectors,particularlygiven the highly technical nature of many of the GIB’s potential investments.

– Focusingonre-investmentinitially:TheGIBcould,whereappropriate,initiallyfocusonre-financingexistinginvestmentsonmarketterms(e.g.,buyingoutexistingdebt)toensureitinvestsintoaproduct/project/sectorthathasbeenpreviouslyevaluatedbytheprivatesector,subjecttoacarefulvaluation of the investment.

– Robustproduct/projectriskacceptancecriteriaandpolicy:Eachproductshouldbejudgedonastringentsetofcriteriabothintermsofinherentproduct/projectriskandexternalpolicyrisk.

– Sectorexposurelimits:Eachsectorshouldhaveanexposurelimit,maximizingpotentiallosses in case of systemic issues in any given sector.

– Stringentdealmonitoringprocedures:Itwillbecrucialthatproceduresareputinplacetomonitordealsonanongoingbasis,particularly given the long-term nature of many of the proposed GIB products.

– Controlledsizeofcommitment:TheGIB’sexposuretoanyoneprojectshouldbemanaged,asfaraspossible,topreventover-concentrationandsusceptibilitytooneproject’shavingthepotentialtodamagetheentirebank.

– Portfoliolevelriskcriteria:Portfolioriskshouldbecontrolledbymanagingtotalsector exposure and product mix.

• Counterpartyriskmitigation: – Paripassuco-investment:Investingonapari

passubasiswithothers,particularlythoseoperatingoncommercialterms,wouldspreadtherisktakenonbytheGIB.

– Counterpartyexposureregulations:LimitsshouldbeputinplacetoensuretheGIBisnot over-exposed to any one counterparty in case of default.

– Reducingpositionsovertime:Forlong-terminvestmentswithahighriskprofile,theGIB

should consider reducing its exposure over timebyoff-loading/syndicatinginvestmentsinthemarket.

– Leveragingpartnerinstitutions’assessmentsystems:TheGIBcoulduseavailableinformationheldbyotherorganisationsonthecreditratingandcounterpartyriskofpotential investment targets.

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Annex High level implementation plan of the GIB

As previously described, there will be three phases of implementation of the GIB policy, reflecting the constraints of state aid and funding availability.

Phase I – Incubation

Phase I will focus on achieving two goals: 1) makingstand-alonefinancialinterventionsusingthegovernment’sownbalancesheet;2)makingpreparationsforthefulllaunchoftheGIB,oncestateaidapprovalisobtained.

Asexplainedearlier,priortostateaidapprovalbeinggranted,theGIBitselfwillnotcarryoutanyinvestmentactivity.Inordertomakeimmediateinterventionstohelpmobiliseadditionalcapitalinto the green economy and help meet pressing environmentaltargets,theGovernmentwillpursuesomefinancialinterventionsusingthe£775millionoffundingfrom2012–13madeavailableintheBudget.Itwillalsoseektoidentifyapipelineofpotential interventions which the full GIB could pursue,oncethestateaidprocessiscomplete.

Phase I will involve the following steps:

• Legal&regulatorycompliance:Compliance with anylegalandregulatoryrequirements,includingstate aid rules.

• Internal approvals: Acquire necessary internal approvalsbasedontheneedtodemonstratethat interventions in Phase I will represent value for money.

• Strategicplanning,including identifying the objectives,thelikelyareasoffocus,thebuildupofcapabilityandthebudgetedcostsofbuildingthecapability.

• Appointment of the Advisory Group to the Government to advise on the setting up and long-term strategic direction of the GIB.

• Establishmentofagovernanceframeworkthat covers the operations of the team and that includesoperatingprinciples,objectivesandagreed investment criteria. This will involve a cross-government policy group helping to set strategic priorities.

• Recruitment ofasmallteamoffinanceprofessionals from across Government together with requisite support staff.

• Designofpre-launchbusinessprocessesandsystems to support the investments and cash management activities.

InparalleltoPhaseIoperations,theGovernmentwillbepreparingtolaunchthefullGIBinPhaseIIincluding managing the handover of activities to the newinstitution.Theseactivitiesarenotedbelowunder Phase II.

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Phase II – The GIB launch

PhaseIIwillseetheendoftheincubationphaseand the launch of the GIB as a stand-alone institution.

EstablishingtheGIBasastand-aloneinstitutionwillinvolveanumberofstepswhichwillstartinPhaseI,including:

• State aid compliance: The Government will oversee the state aid approval process with the European Commission.

• Legislation:Followingstateaidapproval,theGovernment will introduce appropriate legislationconfirmingtheGIB’sindependentstatusasanenduringinstitutionwithakeypublicrole.

• Establishmentofthedetailedgovernanceframework:Thenewinstitutionwillbeincorporated and detailed arrangements for its corporate governance put in place.

• Appointment of the Board: GIB Corporate Boardmemberswillbeappointedbyministers.

• Agreementofmission,operatingprinciplesandstrategicobjectives:The GIB Policy Group will agree these with the GIB Corporate Board.

• Recruitment: The GIB Corporate Board will startrecruitingtheseniorstaff,includingtheCEOandotherkeyofficers.They,inturn,willrecruit additional staff.

• Strategic and operational planning: The Executive Management will prepare the detailed businessplanfortheGIB,includingitsareasoffocus,productsuite,routestomarket,operatingmodel,forecastfinancialresultsandrecruitmentandcompensationplan.Anefficientprocesswillneedtobeputinplaceforfundingandcashmanagementactivities,includingwiththeGovernmentBankingServices.

• Transition management: ThefinancialinterventionsmadeintheincubationphasewillbehandedovertotheGIB.

Phase III – The GIB borrowing phase

PhaseIIIwillseetheGIBobtainborrowingpowers.PreparationsforthisphasewilltakeplaceduringPhases I and II and will include developing the case forscaled-upinterventions,includingthestateofmarketfailuresandvalueformoney.ThiswillhelptodeterminethelikelyrequiredlevelofGIBborrowingaswellasthecaseforanyadditionalequitycontributions.

AnyborrowingbytheGIBwhileitisinthepublicsectorwillscoreagainstPublicSectorNetDebt.Inparallel,therefore,theGovernmentwillneedtocometoaviewontheaffordabilityofborrowingand to determine a limit accordingly. This decision willneedtobetakeninthecontextofthewiderfiscalpositionandspendingplansforthenextSpending Review period.

Workthatneedstotakeplaceinthisphaseincludes:

• Definingtheborrowingmechanism:The GIB willneedtodeterminewhichborrowingmechanism to use. A range of options have beenidentifiedwhichincludethefollowing:

– DirectlyfromthemarketwithaGovernment guarantee

– DirectlyfromthemarketwithoutaGovernment guarantee

– ViatheNationalLoansFund – ViastandardDebtManagementOffice

borrowing – ViatheDebtManagementOffice’sissuing

special‘greengilts’withproceedsear-markedforusebytheGIB

Eachofthesedifferentborrowingmechanismswillneedtobejudgedaccordingtocriteriathatweighuptheirrelativecostsandbenefits.

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• Developingoperationalcapability:The GIB Executive Management will need to develop additionalcapabilitiestomanageascaled-up,leveragedinstitution.Thesecouldincludemechanismsforasset-liabilitymanagementin order to manage the interest rate and liquidityrisksresultingfromthetypicallending/borrowingmaturitytransformationactivitiesofabankandscaled-upcapabilitiestomanageincreasedresource,legalandregulatorycomplianceandriskmanagement.

• Credit rating of institution: Depending on the chosenborrowingmechanism,workwillbeginin earnest on developing the credit rating of theinstitution,includingpreparingdetailedfuturebusinessplanstoassessitspotentialcredit rating implications. This might involve the release of a shadow credit rating in advance ofborrowing,tobuildconfidenceincapitalmarketspriortothefirstraisingofdebtbytheGIBandotherwisebuildconfidenceintheproducts of the GIB.

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