Has Facebook gone too far?

It was probably inevitable, but the crisis engulfing Facebook is one of the most embarrassing examples of Silicon valleys hubris in the last two decades.

A company that specialises in connecting people, an exercise that requires people to trust the platform as a place to share content, has managed to simultaneously violate that trust and act totally surprised in doing so. When Facebook was first created it was a place for university students to share stories, an occasional photo and talk to friends when they couldn’t afford to call abroad. Today it is a business platform for multinational corporates, a virtual monopoly in the global social media world (excluding the great digital firewalls of China and Russia), as well as the largest surveillance mechanism ever created by man. If the apocryphal tales that Facebook was created by the CIA ever become more than conspiracy theories, I would take the agents out for a beer. It’s hard to imagine them being more successful in manipulating billions of people to hand over the most intimate details of their life than Facebook.

But what do we do about it? Facebook IS the only platform where everyone can find a friend, family member or old classmate from their school days. It also owns Whatsapp, Instagram and nearly brought out Snapchat (before deciding it was cheaper just to copy all of their ideas into Instagram instead). Indeed, the monopoly is alive and very well in the social media space. So much for a dynamic and free market that internet radicals long predicted.

The issue with Facebook is that it has transcended its role as a tech company and become a global public good, much in the way that GPS, SWIFT and Wikipedia have done. This conflict between its corporate needs and Facebooks public nature is at the heart of the conundrum that is threatening Facebooks future role as the global sharing platform.

There may come a time where individuals lose their inhibitions and learn to accept the flawed nature of humanity, such that the embarrassing university photos and awkward Facebook status of our childhood become nothing more than a source of amusement. But we are not there yet.

In the interim the most radical solution may yet be the one true way to ensure the eternal legacy of Zuckerberg’s creation: turn the company into a global charity with an international non-partisan board. Such a solution has long been muted for Twitter, another social media company that serves a clear public good, but unlike Facebook it has lacked the will (some would say ability) to extract the financial gains necessary to ever become commercially viable.

A world where Facebook becomes a utility like Verizon or a charity like Wikipedia is hardly likely to thrill investors and tech entrepreneurs. Then again, few people who change the world ever live to see the real fruits of their efforts.

If Zuckerberg is serious about fixing Facebook he needs to find a way to square the circle between regaining user trust and generating the returns expected by Wall Street.

For a man more concerned about his public appearance than his bank account, Mr Zuckerberg could do worse than consider what Facebook would look like if it became a true global public good rather than a Wall Street darling. The clock is ticking and the users are leaving.

Your move Mr Zuckerberg.

Advertisements

Wham, Bham, thank you Ma’am! – Financial Market chaos in 2018

On the 5th of February 2018, the Dow Jones witnessed its largest one-day point decline in its 120-year history. In total, the 30 largest US listed companies from across the New York Stock Exchange (NYSE) and the National Association of Securities Dealers Automated Quotations (NASDAQ) dropped 4.6%, a percentage decline not seen since the eurozone crisis in August 2011. Nor was the Dow alone.

As investors across the world saw the roaring US stock market come to a violent halt, stock markets in Asia and Europe started to collapse as well.

Why? What went so badly wrong that the world suddenly lost its cool and within a week almost all global indices had fallen by 6%-12%?

Most of the news for 2018 actually looked pretty great.

The IMF had upgraded global growth forecasts for 2017, 2018 and 2019, while claiming that the world was about to witness the “‘broadest’ upsurge in global growth since 2010”. Global Mergers & Acquisition activity was at its highest since the dot.com boom over 17 years ago, the eurozone grew at its fastest rate in a decade and manufacturing growth has exploded across the US, Europe and the UK.

Given these factors, many retail investors and ordinary people reasonably asked the question: “Why did everything collapse and what should I do with my money now”? In an attempt to answer the first part, we have to begin with separating the event itself (the stock market collapse), and the reasons behind the crash (the fundamentals).

There are many different and authoritative views on this issue, including a very easy and concise piece by Bloomberg available here. My take is below:

With interest rates at record lows, the stock-market continuing to grow at breakneck speed and the global economy expanding, people have thrown caution to the wind and invested in the stock markets. In fact, January 2018 witnessed record levels of investment in the stock-market, as confidence took over and people from all walks of life began to invest. This is where the problem started.

Everyone in the stock market had been waiting for a fall. But knowing when it would come had been a significant challenge. If investors left too early, they would be potentially giving up the chance to make more money. If they left too late, they may lose everything. On January 29th and 30th, the first investors lost their calm and pocketed their gains and as January came to a close, the US stock market saw two days of consecutive decline and its largest fall since May 2017 (a small blip in comparison to what would happen later).

But why were the professional investors sceptical of the market? Here again we must return to expectations.

The aim of a professional investor is to generate returns that exceed what could be earned by investing in a risk-free asset. In simple terms “risk free” usually means bank deposits and the bonds of the worlds most financial secure markets (US, UK, Switzerland, German). The reason they are “risk free” is because most bank deposits are covered by insurance and because these governments are considered financially prudent enough to guarantee that any money owed to investors will always be repaid. Naturally this sounds like a great deal for investors. Put your money into a bond and earn a guaranteed amount of interest. What is not to like? Well the problem is that after the financial crisis too many investors thought that this was a good idea and so as the demand for bonds increased, their price increased. To cut a long story short, when the price of a bond increases the interest (read return) gets smaller. This is where the problem started.

Risk free bonds are the benchmark for professional investors. The expectation is to beat the risk free rate and the more risk the investor is asked to take, the bigger the return they expect (over the risk free rate). But if the risk free rate is extremely low, then risky investments can look increasingly attractive if investors cannot reach their target return through traditional investments. Pension funds are an excellent example of this. Prior to 2008 a pension fund would expect to pay 3% of all its funds under management out to its retirees every year. Therefore, as long as the pension fund could earn over 3% the fund would meet its obligations. Conveniently several types of government bond from the UK, USA and across leading economies were paying around 5% prior to 2008, allowing pension funds to make a 2% profit and meet all of their commitments, with minimal risk. But the financial crisis and ultra-low interest rates changed everything.

 As interest rates dropped to nearly 0% (in some cases negative), investors like pension funds, were forced to find other ways to generate their returns and so they piled into property, real assets (gold, oil, etc) and stocks. Accordingly, the stock market exploded. It didn’t matter that a company was now generating 3% return a year (compared to 5%) because its share price had risen. The alternative was a 1% government bond.

So back to 2018, the key question for investors was this: when would interest rates rise sufficiently that large money managers would sell their stocks? After all, if the interest rate rises then the return from the stock must price in tandem at every step. But that cannot happen forever.

So the magic number was 3%. Specifically, investors began to believe that rising wage inflation in the US at the end of January would increase the interest rate on US ten-year debt to 3%. If inflation was high, the US Federal Reserve would increase rates and money managers would sell their stocks. In Germany the same thing happened when the largest German workers union negotiated an inflation busting pay rise in February, leading to significant stock market declines in the US stock market (the 2nd worst performer after the Dow Jones).

What next?

The financial markets have broadly calmed following their collapse at the start of the month, but the truce remains uneasy. It is clear that investors remain extremely uncertain whether the sharp decline in share prices remains the only price “correction” that we shall see for the year, or if it is merely an early warnings tremor before a larger financial earthquake later in the year. On this question, expert opinion is fiercely divided.

However, for people interested in following the stock market closely its worth looking at whether any of the large companies, famously called “Unicorns” choose to finally go public this year. Traditionally private companies go public when they believe that valuations are at record highs, not when they believe that there is space to grow. So if you see AirBnB, Uber or even Spotify go public, then maybe consider putting some more cash in the bank and out of the stock market.

Important disclaimer here: This piece merely reflects the views of the author and should not be considered as financial guidance or advice.

Trump’s exit from the Presidency

Could the Trump presidency end with a faked illness and a presidential pardon? This is the question I have been asking myself recently and increasingly I am convinced that this is the most rational route I can see. So how would that actually look, why would the administration follow this route and how would it play out?

Let’s review where we are.

The current president clearly did not intend to win the election. While it was already widely suspected, the fact that Michael Wolff has audio recordings from the White House and staff confirming this is significant. Moreover, Trump is now at risk of having either his son or his son-in-law impeached by an ongoing FBI investigation.

But before we continue, here is a very brief recap for those who have no idea what is going on:

Since the Trump presidency began a series of scandals and rumours have swirled around whether Trump or his team received political and/or financial support from Russia. These have exploded as an investigation led by the Justice Department’s Special Counsel Robert Mueller have repeatedly detained and charged key members of the Trump team. Thus far three campaign officials have pleaded guilty to various misdemeanors and the question is whether they will reveal even more information on the senior members of Trump’s circle, in return for reduced sentences. If you’d like a far more detailed explanation, Vox and the NYT have two great pieces linked here.

The concern then is that Trump, already embroiled in scandals, now risks losing a very close family member to a story that is intimately tied to his own name and brand – the election of Trump as the President. But why cant he just pardon Jared Kushner or Donald Trump Jnr? Better yet, why not fire Mueller? The answer is the Republican party itself.

The Republican party leadership are distraught. They have held all three branches of government for a year, yet failed to repeal Obamacare and only managed an overhaul of the tax bill by ignoring every Democrat and out of internal desperation for a “win”. Even worse, the Republican President has called several African countries “shitholes” in a congressional meeting on immigration, openly admitted that he can do what he wants with women because he is famous and has defended White Supremacists. To add insult to injury he risks starting a war in North Korea and he has destroyed US credibility on trade. By weakening the WTO through failure to appoint key figures, ending both the TTIP and the TPP treaties, renegotiating NAFTA and imposing unilateral tariffs, Trump is managing to undermine the Republican brand on a core issue – trade and economic prosperity.

In short, Republican loyalty to the President is non-existent at the executive level. The only thing holding both Trump and the party together is the electoral base of radical republicans who first elected Trump in the US primaries. But while they may protect Trump from attacks from the establishment Republicans, that doesn’t mean they would attack the establishment if Trump voluntarily left the post.

This leads me to my current hypothesis: Trump wants to leave and save face in the process. Trump also wants the risk of criminal charges to be removed, without him having to make the move himself. Meanwhile the Republican party want a smooth transition of power from Trump to Pence, with an agreement that the radical wing that Trump/Bannon pander too, will support a more moderate Republican platform. In such a scenario, it is perfectly plausible that the administration will wait until inside news reaches them that criminal charges are being drawn up against the closest members of the Trump family. Then the pieces on the chess board move.

In the weeks before charges are brought, Trump will appear in public less frequently and news of medical treatments will be leaked to the press. In the final two weeks, Trump will officially be “treated” for a series of “undisclosed illnesses” and charges will be officially brought against Trump’s circle. Pence will strike a deal with the Republican leadership and the Trump family that he will pardon all involved parties, but for this to work the charges have to be issued. Trump’s inner circle, whether it is Trump Jnr or Jared, will have to take the fall and accept all responsibility for the actions.

With the investigation concluded and charges brought, Trump can now resign on ill health and Pence can pardon the family on the grounds of political inference by Mueller. Besmirching his name may not be accepted by many, but it will placate the Trump base and help them to save face as they leave office. Then we will have a Pence Presidency.

At any rate, this is just a thought. Let me know what you think.

Wrapping up 2017

Given the volume of news in 2017, finding a common theme to make sense of the noise has proven challenging. However, as we start 2018, there is an argument to say that 2017 was defined by the actions of the world’s Central Banks.

After years of unconventional monetary policy, the actions of the Federal Reserve, the Bank of Japan, the Bank of England, and the EBC have begun to deliver results. The spectre of deflation has been defeated and inflation appears to be increasing across the world’s major developed economies. Economic growth has picked up in the Eurozone and Japan, while emerging markets have survived the first few US interest rate hikes without causing a collapse. But just as the achievements of these policies have been recognised, so have the costs.

As central bankers discouraged saving by reducing interest rates close to zero, investors were forced into equities and real assets. This led to a surge in global property prices and record levels of investment in global start-ups, crypto-currencies, and passive indexes. Rising property prices have led to bans on second homes across developed economies from New Zealand to Western Canada, and clamouring calls for a ban in London. In many developed economies, the average property price is now well beyond the 4x annual salary against which banks will provide loans, forcing a greater proportion of people to rent than ever before.

The hunt for yield has also played an essential role in the financing of the new economic giants that dominated news headlines in 2017: the FANGS (Facebook, Amazon, Netflix, Google, and Salesforce) being the most notorious. The perfect combination of ultra-low interest rates, subdued consumer demand and a psychological willingness to believe in the new technological era has encouraged investors to support “revenue over net profit” business models. The FANGS now represent five of the world’s most valuable companies; yet in over ten years only two have recorded net profits in their annual reports. Even more dramatic has been the explosion of Uber, Lyft, and AirBnB, whose valuations now exceed $100bn but who have never generated a profit.

Many of these themes were apparent in 2016, but their significance was not fully appreciated by politicians. As a result, the continuation of these economic distortions in 2017 was essential in highlighting the driving political crisis of the year, that of public outrage over growing economic inequality. As a consequence, 2017 represented a break in the conventional political wisdom that a government which achieves economic growth can offset these incentives against social and domestic challenges.

Even with a raging equities market, record low levels of unemployment, and signs of growing wage inflation, the US welcomed 2017 with the arrival of the most populist President in living memory. Similarly, the Conservative party in the UK ushered in the New Year with one of the strongest economies in the G7, only to lose its majority in Parliament following a snap election in June.  European voters showed that immigration was frequently a more significant issue for voters than headline economic numbers. In Germany, the bed-rock and engine of the Eurozone, the governing grand coalition hit record low polling numbers in the Bundestag elections, as the AfD entered the federal government for the first time. Meanwhile, France closely avoided electing the outwardly racist Front National. Austria elected a far-right party to government for the first time since the 1930s, where the party took the cabinet posts for the Ministry of Interior, Defence and Foreign Affairs.

The marker of success for 2018 will therefore be to generate broadly spread economic growth that benefits all within society. In that vein politicians of the political right are likely to find themselves in need of an alternative narrative. The appeal of socialism across western worlds, whether in the Jeremy Corbyn style, the Bernie Sanders variety or the Mélenchon school, will never be stronger. Finding an alternative slogan to challenge, ‘for the many, not the few’ will be an important starting point.

The cynicism is unjustified – Hydrogen is the key to a clean transport future

The world’s largest free trade deal fundamentally re-shaped the future of Transportation – and no one noticed.

In December of 2017, the EU and Japan announced that they had agreed the terms of a vast international free trade deal. The deal, still subject to final approvals in the EU and from the Japanese diet, will create a combined economic free trade area of 600mn people worth 30% of GDP. But while the focus has been on the changes to agriculture, sustainability and regulatory alignment, a key provision has slipped almost unnoticed from the public eye. A regulatory drawbridge for hydrogen vehicles has been created.

In one of the most startling changes, barely noticed by the press, the EU have been allowed to sell hydrogen cars straight into the Japanese market, bypassing stringent legislation for Japanese specialist steel and labelling standards. In addition, the EU has agreed that “Furthermore, EU manufacturers that are not yet as far advanced in the development of this technology of the future can, thanks to the specific and much lighter conditions, import hydrogen fueled cars for testing and validation purposes and use the Japanese infrastructure of hydrogen filling stations to fine-tune their cars.”

Why does this matter? It matters because (arguably) the world’s most technologically advanced nation has bet big that the future of transportation will be Hydrogen and it is now luring all the world’s largest automakers to build out their R&D and manufacturing within Japan.

Hydrogen cars:

In 2020, Japan will host the Olympic games and the vehicles of those games will be hydrogen fueled. The aim is to put 40,000 hydrogen fuel cell vehicles (HFCVs) onto the roads by 2020, including over 160 charging spots. However global current sales of HFCVs are low, with only 1,600 sold in H1 of 2017. In part this is because the vehicle selection remains limited and the cheapest versions…are not that cheap. As a result, there are no shortage of critics. Elon Musk is famous for deriding the chances of hydrogen vehicles, a view widely shared amongst the lithium battery bulls.  However, with its ability to re-charge a car in under 5 minutes and its exceptional long range, the battle for vehicle dominance is far from over.

In only 5 years’ the global electric vehicle fleet has risen from ~50k cars to over 2mn worldwide, driven by government subsidies and falling costs as production increased. Analysts believe those same drivers could transform the hydrogen market too. In early 2017, Honda and GM announced targets for mass production of HFCVs by 2020, while Toyota, Honda, Hyundai, BMW and Daimler have committed $10.7 billion into research and development of hydrogen-based products over the next five years. There are now even a range of apps that can show you all the planned and current Hydrogen re-fueling points, like this one.

Granted, I am a confessed Hydrogen fan and have been so for a while. So in the interests of fairness, I also leave an attached rebuttal of the case for Hydrogen cars here, though it is a little dated. But regardless of whether Hydrogen will transform the light vehicle car market, there are plenty of other sectors where Hydrogen technology is likely to transform our transportation system.

De-carbonizing transport:

Depending on the source, transportation accounts for between 14% and 23% of global greenhouse gas emissions (GHGs). This sector is also growing rapidly, as aspiring middle class citizens seek to travel more and to own their own forms of transport. Ride-sharing, urbanization and automated driving all offer potential avenues in the longer term, however poor urban planning, under-educated regulators and significant cost challenges will ensure that these solutions are unable to meaningfully reduce emissions until 2040 if not later. Moreover, they only deal with the simplest solution of all, light duty vehicles.

Using IEA estimates from the Global Tracking framework, a joint World Bank and IEA publication, global renewable transport numbers remain a significant concern for efforts to de-carbonise the global energy system. According to the IEA, Electric vehicles must reach 160mn by 2030 to meet the 2 degrees target set at Paris and over 200mn to reach the below 2 degrees target. In other words, the world has to manufacture and sell at least 158mn EVs in 13 years globally, mostly fueled by clean electricity and with sufficient grid infrastructure to handle re-charging.

Achieving the Paris commitments for light duty electric vehicles alone should put pause to the idea that we can electrify shipping, aviation, rail and heavy freight with batteries as well meeting the Paris commitments for electric light duty vehicles. The only credible alternatives are hydrogen, LNG or CNG.

Compare and contrast: the new Tesla truck with the Nikola Two. The Tesla truck will have a maximum range of 300-500 miles and will require 30 minutes of full charge to add 400miles. It will also require the equivalent demand from the grid of 3,000 – 4,000 UK homes when it is charging. That is per truck…In contrast, the Nikola Two can cover 800 – 1,200 miles with a 15 minute re-fuel time. The bigger brother of the Nikola Two, the Nikola One, has similar statistics but has received $2.3bn in pre-orders, totaling over 8k. Nikola isn’t the only company in the field either. Toyota has its own project, called “Project portal”, while Kenworth is examining HFCV options as well.

Looking at the aviation space, Hydrogen fuel cell planes have already been developed and successfully tested, including the HY4 passenger craft. The plane already has a range of 1,500 kilometers and expansions for a 19 passenger plane are underway. By contrast, experts from WIRED estimated that electric batteries will take until 2045 to have a commercially viable battery plane available. Even in the smaller plane segment, the current record distance set for an EV plane is 300 miles in a two seater plane, largely modelled on a glider technology.

In freight, Alstrom and Hydrogenics already have tested Hydrogen on trains in Germany, while Ontario is looking at Hydrogen trains to replace the current rolling stock on the GO rail network. Aside from promoting local businesses, the trains are almost silent and emit none of the harmful particles associated with diesel or other fuel sources. There clearly will remain a role for electrification of urbanized rail, but even in a small landmass like the UK, the costs of electrifying entire train lines have forced planners to move towards mixed fuel and electrification trains. In this regard, Hydrogen is likely to compliment electrification for long distance commuter trains. The UK is already considering this option.

Then we have shipping. The maritime industry is one of the worst sources of pollution in coastal cities, with cities like Hong Kong calculating that 50% of all locally produced air pollution comes from the maritime industry. In Norway, parts of Canada and the USA, various attempts to introduce LNG bunkering have produced significant results in reducing maritime emissions, with Vice estimating 20% less CO2 emissions per ship, but hydrogen is likely to be the next major frontier. So far both Viking Cruises and Royal Caribbean have committed to procuring hydrogen powered ships, while Norway’s Fiskerstrand Holding AS is building a hydrogen ferry and the Port of San Francisco is mulling a $5mn investment in a Hydrogen fueling station. They are unlikely to be the last movers.

But perhaps the most surprising thing about Hydrogen now is its wider application in more niche services. For Amazon, hydrogen fuel cells have allowed the firm to revolutionize its warehousing forklifts, so much so that the company invested $70mn into a fuel cell company called Plug Power, while Walmart reacted with its own investment of $80mn in the same firm. Why? Well according the leading US body NREL, hydrogen fuel cell forklifts are at least 10% cheaper than alternatives over a 10 year investment. But the effect is not limited to forklifts. Amazon now uses Hydrogen powered drones in its warehouses to monitor inventory. With a flight time of two hours, compared to 30 minutes for a comparable electric powered drone, Pincs aerial drones offer savings of up to 5% of the total inventory stock.

Final comments:

On our current global trajectory there is almost zero chance of the world reaching its Paris climate commitments, let alone the wider level of agreement needed to reduce CO2 emissions below the two degrees limit by the middle of the century.

Our energy system is going through the most rapid transformation in its history. It is going to be messy, complicated and littered with failures. It is going to cost more than it may have done had we guessed everything right at the start, and for decades there will be debates around this subject. But one thing is clear. Without hydrogen in transportation, there is no clear evidence that we can save our planet.

In 2003 to 2004, the UK government overwhelmingly backed the idea that Hydrogen would be a key fuel of the future. Like most new ideas, the hype came early and failed to deliver. In product innovation this is often the case. The dot.com boom was preceded by the explosion of the internet almost a decade later, with the worlds largest companies all being tech stocks. Electric vehicles themselves were considered the car of the future….in the 1900’s!! Yet it took over 100 years to become the new focus of policymakers hopes for a clean transportation future.

Hydrogen has had a lot of bad press, some of its deserved. But if we are serious about climate change, investors need to drop the cynicism and engage with the technology.

So you work at the World Bank….what does it actually do?

The World Bank Group is one of the largest, oldest and best known international institutions today, yet few people can  tell you what it does. So what actually is it and why should non-policy members of the public care?

The World Bank is an agency headquartered in Washington DC, which was founded after World War Two. While it is frequently referred to as “The World Bank”, this also adds to the confusion around what the institution is and does. The “World Bank Group”, is a body of financial institutions whose job is to provide financial solutions and consulting services to the banks shareholders. It’s shareholders are sovereign nations who commit financial support to the bank in exchange for shares. The greater the financial commitment, the greater the shareholding and voting rights held.

It is not a “bank” in the classical sense, nor does it provide services to the “world”.

The World Bank was originally created as one entity, the International Bank for Reconstruction and Development (IBRD). This remains the core entity when people talk about “The World Bank”. When the IBRD was created, its aim was to help rebuild nations (largely European) who had been devastated by World War Two, whilst also providing financing for the worlds poorest countries to support economic development. To achieve these roles, the bank tried to solve a single issue for these two categories of nations: the lack of international finance available.

While most of the original financing was from the American government, the banks day-to-day lending is actually financed by institutional investors such as pension funds, insurance companies, endowments and central banks. The bank provides loans to its country members, by raising debt itself in the form of loan notes (aka bonds). As all the country members of the World Bank provide a guarantee to investors that any bond issued by the bank will always be repaid, the World Bank notes are consistently AAA rated (which indicates that default is theoretically close to 0%). This allows the bank to borrow money at the same rate as the US federal government.

The IBRD uses the money that it raises in financial markets to provide “concessionary loans” to the banks members. These loans are concessionary because they are at a lower interest rate than the country would be able to secure for itself in the global market (assuming it could even raise the money). But in order to access this much cheaper source of financing, the country which receives the financing must agree to a series of conditions about how the money can be used. In recent years, the World Bank has been criticized heavily for these “conditions” which it sets on borrowers, especially given that most countries that currently borrow from the Bank are seen as developing, post-colonial nations. But this has not always been so. In fact, one of the earliest and largest bank loans actually went to France, shortly followed by Belgium and other European nations who desperately needed US dollars in order to import food and basic goods from the USA after WWII. The Banks first ever loan went to Chile.

The second entity referred to as the “World Bank” is called IDA, the International Development Agency. Founded after the IBRD, the aim of IDA is to provide loans on an even more generous set of financing terms than the IBRD can. Understandably this makes IDA a very attractive option for impoverished governments and so its financing is restricted to only the world’s poorest countries.

As a further contrast between the work of IDA and the IBRD, the loans made by IDA can be considered “loss making”. This is because the interest paid is so low, and the duration of the bond is so long, that when counting for inflation the loan is effectively a grant (i.e. free money). The IBRD is totally different. The loans from the IBRD will all generate a profit for the Bank (i.e. the return exceeds the cost of the IBRD’s own borrowing, plus staffing costs for the project). Therefore, the IBRD provides a subsidy to IDA, so that all the money made by the bank is re-invested in providing either grants to the poorest nations in the world or more low-cost financing for other developing nations.

While the IBRD and IDA represent the core of what we call “The World Bank” today, there are three other entities that are also “World Bank Group” and which deserve a brief explanation.

The first is the International Finance Corporation (IFC). This entity provides direct investment into companies, not to governments. Its sole purpose is to promote the creation of a dynamic private sector inside developing world economies. It does this by issuing loans to companies in emerging markets, sometimes making direct equity investments in funds and even providing what is called “anchor financing” for private equity/venture capital funds, who solely invest in these markets.

The second is the Multilateral Investment Guarantee Agency (MIGA). MIGA’s job is not to make investments of any kind. Rather, its job is to provide guarantees to banks and investors who are looking at projects and businesses in developing markets. The most famous of MIGA’s products is its political risk insurance. This is where MIGA will guarantee that a company’s asset or investment, will not be taken (“appropriated”) once it has been made/brought to the developing country. As an example, if Rio Tinto builds a mine in the Democratic Republic of Congo for $1bn, MIGA will ensure that if the Congolese government nationalises the mine, Rio Tinto will get all of its investment back.

The last is the International Centre for Settlement of Investment. This body acts as a negotiation tool between developing countries and large multinationals, where there may be a disagreement over the implementation of a pre-agreed contract or a concern that either party is not acting in good faith.

While these descriptions are probably too long already, they provide only a snapshot of what the bank itself does.

In sum, the Banks various entities ensure that over $60bn a year is directly invested in developing countries. But that is only the Banks direct contribution. Given that the Bank usually co-invests with the private sector and host governments, the true figure is likely to be between $100-$200bn, depending on which assumptions one makes. All together Multilateral Development Banks, including the EBRD, IDB, ADB, AfRD and the World Bank, provide over $300bn of financial assistance to help countries develop.

Today global investment in emerging markets is roughly 1/3rd of what is is needed annually ($1trn funded against $3trn required in Asia alone). The World Bank clearly cannot do all of that on its own. But for all of its challenges and the valid criticisms raised, the bank is one of the most valuable assets for fighting poverty in the International system.

Hopefully you can now say you know a little more about it.

The renewables driven revolution in electricity pricing

Away from the public eyes, one of the most radical transformations of wholesale electricity markets in the last 100 years is occurring. Since the time of Thomas Edison, almost all the electricity that we use has come from the combustion of fuels. By releasing the latent energy in coal, gas, wood or oil, we convert latent energy into heat, and use that heat to create steam. The steam forces a magnet to spin around a set of wire coils, thus creating a current. It is this innovation in science that created the modern world, but today a growing proportion of the developed (and developing) world’s electricity no longer comes from fuels. I am of course talking about wind and solar.

When power is created from the combustion of fuels it is dispatchable. This means that it can be turned on and off whenever the owner of the power station wishes. While a Nuclear plant will often generate electricity around 92% of the time, making it effectively a constant (hence “base”) generation source, most fuel based generation sources run for much less time. In the USA, coal and gas plants often run less than 60% of the time. By contrast wind and solar are not dispatchable. Rather, their production output is variable. Wind and Solar do not require a fuel to create energy, but they cannot control when they will produce electricity. It is this contrast that is at the crux of the challenge.

To ensure a power grid has sufficient electricity for all consumers, a grid operator such as National Grid, must estimate demand and source that demand on an annual, monthly, daily, hourly and sub-hourly basis. In complex power markets like the UK, the sourcing of electricity supply comes from an auction system. This is why wholesale power prices are in upheaval.

To match supply with demand, national grid asks companies that produce electricity to make offers to supply electricity. Each company states how much electricity it can supply and the price it will accept to supply that level. These prices are then sorted from lowest to highest and national grid will accept all bids necessary until it reaches the supply level it requested. This is called “Merit Order Dispatch”.

To explain this is shown in the table below:

Electricity needed 100MW   
Clearing auction price £30/MWh  
       
Bidder name Bidding price Quantity of power offered Quantity of Power Accepted
Wind 1 £10/MWh 20MW 20MW
Solar 1 £20/MWh 20MW 20MW
Nuclear 1 £25/MWh 30MW 30MW
Gas 1 £30/MWh 30MW 30MW
Coal 1 £40/MWh 30MW 0MW

As wind and solar have no fuel, their cost to run is essentially zero. As such they can bid any price they like. For Nuclear, the cost of fuel is considerably less than building the site, so it also bids a low price. By contrast gas and coal have to buy their fuels to combust them. As shown in the table above, coal can’t compete against wind and solar on cost and so it losses the auction. Everyone else is paid the marginal cost of production, which is the amount that gas receives (£30/MWh) and they supply the grid.

So what does this mean? Essentially as we build more wind and more solar, we will increase the number of electricity supply bids into the market which are below the viable level for any fuel based generation. This is why the USA’s Department of Energy wants to pay a subsidy to coal and nuclear. As wind and solar are not dispatchable, there is a concern that all dispatchable fuel sources will be unable to compete in the price auctions for the majority of the year, except for periods when electricity demand is extremely high. That would make most plants economically unviable, as they would be required to cover all of their capital costs, maintenance and staffing, based on generating electricity for less than 50% of the year. If these plants go, then what will provide the electricity when the sun goes down and the wind doesn’t blow? That is the question that energy market regulators are asking in the UK, USA, Europe and across the developed world.

To many the concept that renewables are cheaper than fuel based sources doesn’t seem correct. Indeed, most renewables remain more expensive than coal (though not in all areas and not by much), when considering the total cost of the system. But it is important to understand that wind and solar are fundamentally different in how they are financially structured and that explains the pricing disruption. Operations and maintenance of renewable power plants are minimal. Building the assets is the expensive part. As a result, Renewables always want to sell their power at any price in order to re-coup the cost of construction. By contrast a coal plant or gas plant will lose money if they try to sell electricity for below the cost of their fuel source. This gives renewables an incentive to bid almost zero, thus guaranteeing that they will be able to sell almost all their electricity they generate at any time.

This is actually worse in countries that have adopted a renewable government subsidy called a Feed-In-Tarriff (FIT). Under a FIT, the government guarantees the owner of a renewable company that they will receive a fixed price for the production of their electricity. However, the electricity has to be generated and supplied to the market in order to claim the subsidy. As a result, renewables have no incentive to put in competitive prices for auctions because they already have a fixed price.

What does all of this mean though for businesses, consumers and investors? Well for now it means that the annual average wholesale cost of electricity has fallen in countries like the UK on a constant basis. That also means that most households and industries have paid less in energy bills than would otherwise have been the case.Wholesale market

But while the costs of electricity have fallen, other costs are occurring across the system. As coal and gas plants cannot compete in the market they are forced to close the plants early and suspend new constructions. A great win for climate change, but an outcome that has cost European utilities half a trillion euros according to the economist. In California, where solar PV deployment is high, prices in the wholesale market now go negative for periods of the day. Yes that is correct. Producers effectively pay other people to take the power that is being produced. In the same is happening in Germany.

The move towards greater renewables in the electricity mix is vital. But like any great transformation there will be unintended and unanticipated consequences. The greater the growth of renewable energy, the more inevitable it will become that wholesale power markets will change. If consumers are focused that could potentially lead to longer term price stability and cost savings. But only if they know where to look.