Skóli Háskólinn á Akureyri
Svið Viðskipta- og raunvísindasvið
Deild Viðskiptadeild
Námskeið LOK2106 – B.Sc. Ritgerð
Heiti Verkefnis Political Risk and the Iceland – UK Interconnector: Risk Mitigation, Ownership and Dispute Settlement
Verktími Ágúst 2015 – Apríl 2016
Nemandi Andri Dan Traustason
Leiðbeinandi
Prófessor Hilmar Þór Hilmarsson
Fjöldi viðauka 2
Blaðsíðufjöldi 39
Political Risk and the Iceland – UK Interconnector
ii
Yfirlýsingar
Ég lýsi því yfir að ég er höfundur þessa verkefnis og að það er afrakstur eigin
rannsókna.
____________________________________________________
Andri Dan Traustason
Það staðfestist að verkefni þetta fullnægir að mínum dómi kröfum til námsmats
í námskeiðinu LOK2106.
____________________________________________________
Hilmar Þór Hilmarsson
Political Risk and the Iceland – UK Interconnector
iii
Abstract
The proposed interconnector between Iceland and the United Kingdom
carries numerous different types of risk for Iceland. Ownership of the
interconnector and the infrastructure related to it needs to be settled in a way
that minimizes political risk for the Icelandic nation without sacrificing
national sovereignty over its renewable energy sources. A public-private
partnership project could use various methods to mitigate risk, many of which
are related to ownership and financing. Guarantees and loans provided by IFIs,
such as the European Investment Bank and the Nordic Investment Bank, might
play a fundamental role in that regard. Export credit agencies might also
provide political risk insurance. Other solutions, such as a bilateral legal
agreement and contracts for difference, will also be assessed with regard to the
interconnector. In the event of disputes occurring, the Energy Charter
Organization and ICSID, of the World Bank, might be key players among other
institutions. These solutions would require serious arbitration provisions and
awards would be subject to the New York Convention.
Keywords: Political risk, risk mitigation, cross-border investments,
international business, dispute settlement.
Political Risk and the Iceland – UK Interconnector
iv
Acknowledgements
Writing a B.Sc. thesis about a complex subject can be stressful at the
best of times. Couple that with the immense work related to applying for
graduate studies and the outcome is something which can hardly be dealt with
without support. My friends, family, fellow students and Professor Hilmarsson
made sure that I had all the support I needed and stood by me every step of the
way.
While working on the thesis, I was given invaluable support from
numerous other parties. Many individuals in the academic community, in
Iceland and abroad, assisted me throughout the research and provided me with
ideas and hints about relevant cases and other sources of information. My
supervisor, Professor Hilmar Þór Hilmarsson, was among those academics and
furthermore, he enabled me to get in contact with many experts which would
otherwise have been out of my reach. These contacts included some of the
most prominent experts within the fields of political risk and renewable energy.
Moreover, Professor Hilmarsson helped me maintain my composure while
writing the articles, enclosed in the thesis, and familiarised me with the system
surrounding academic journals, conferences and the system as a whole. For
that, I am sincerely grateful.
Thank you.
Yours sincerely,
Andri Dan Traustason
Political Risk and the Iceland – UK Interconnector
v
Útdráttur
Sæstrengur milli Íslands og Bretlands felur í sér ýmsar tegundir áhættu
fyrir Ísland. Pólitísk áhætta vegur þungt þrátt fyrir að oft sé horft fram hjá
henni í rannsóknum á fýsileika verkefnisins. Eignarhald og fjármögnun
verkefnisins getur haft veruleg áhrif í þessu tilliti og nauðsynlegt er að finna
lausn sem lágmarkar pólitíska áhættu án þess að fórna yfirráðum yfir
verðmætum endurnýtanlegum náttúruauðlindum. Einkaframkvæmdir
(samstarfsverkefni opinberra aðila og einkaaðila, e. PPP) innlendra og erlendra
aðila gætu verið hluti af verkefninu og nýtt sér ýmsar leiðir til áhættustýringar
sem margar hverjar tengjast fjármögnun og eignarhaldi. Tryggingar og lán frá
alþjóðafjármálastofnunum, svo sem Fjárfestingarbanka Evrópu (EIB) og
Norræna Fjárfestingarbankanum (NIB), gætu spilað lykilhlutverk þar að
lútandi. Export credit agencies (stundum kallaðar tryggingadeildir útflutnings)
gætu einnig boðið tryggingar gegn pólitískri áhættu. Aðrar lausnir snúa meðal
annars að tvíhliða fjárfestingarsamningum og mismunasamningum um
raforkusölu milli Íslands og Bretlands. Lokaverkefninu er ætlað að leggja mat á
þessar lausnir og segja til um hversu vel þær eiga við sæstrengsverkefnið. Ef
deilur koma upp eru nokkrar alþjóðastofnanir líklegar til að taka þátt í að leysa
þær. Þar ber einna helst að nefna Energy Charter Treaty og ICSID sem tilheyrir
Alþjóðabankanum. Í samningum um verkefnið er líklegt að tilgreint verði hvar
og hvernig deilumál verða leyst. Niðurstöðum slíkra mála gæti verið framfylgt
með The New York Convention.
Lykilorð: Pólitísk áhætta, áhættustýring, fjárfestingar yfir landamæri,
alþjóðaviðskipti, lausn deilumála.
Political Risk and the Iceland – UK Interconnector
vi
Table of contents
1 Introduction ............................................................................................................ 1
1.1 Current Research .............................................................................................. 2
1.2 Problem Statement ............................................................................................ 4
1.3 Research Objectives ......................................................................................... 4
1.4 Political Risk ..................................................................................................... 5
1.5 Institutions & Instruments of Political Risk Mitigation .................................. 6
1.6 Methodology ..................................................................................................... 7
1.6.1 Case Studies ........................................................................................................................ 7
1.6.2 Interviews ............................................................................................................................ 8
2 Iceland – UK Interconnector: A Brief Analysis of Possible Political Risk
Mitigation and Dispute Settlement ............................................................................. 9
2.1 Introduction ...................................................................................................... 9
2.2 Methodology ................................................................................................... 10
2.3 Political Risk Mitigation ................................................................................. 11
2.4 The State of Play ............................................................................................. 14
2.5 Dispute Settlement .......................................................................................... 16
2.6 Conclusion and Further Research ................................................................... 18
3 Iceland – UK Interconnector: Is Proper Political Risk Mitigation Possible? 19
3.1 Introduction .................................................................................................... 19
3.2 Possible Solutions ........................................................................................... 22
3.3 Ownership & Financing .................................................................................. 23
3.4 Dispute Settlement .......................................................................................... 28
3.5 Recent Experiences ......................................................................................... 30
3.6 Conclusion and Further Research ................................................................... 32
Political Risk and the Iceland – UK Interconnector
vii
4 Discussion .............................................................................................................. 34
5 Conclusion ............................................................................................................ 36
6 Practical Value ..................................................................................................... 38
7 References ............................................................................................................. 40
7.1 References: Iceland – UK Interconnector: A Brief Analysis of
Possible Political Risk Mitigation and Dispute Settlement ..................................... 40
7.2 References: Iceland – UK Interconnector: Is Proper Political Risk
Mitigation Possible? ................................................................................................ 44
7.3 References: Introduction ................................................................................. 50
7.3.1 Print Sources ..................................................................................................................... 50
7.3.2 Electronic Sources ............................................................................................................. 51
8 Appendix A .............................................................................................................. i
8.1 Conducted Interviews ........................................................................................ i
8.2 Consultations ..................................................................................................... i
9 Appendix B ............................................................................................................. ii
Table of figures
Figure 1: Possible interconnector scenario ............................................................ 12
Figure 1 .................................................................................................................. 24
Political Risk and the Iceland – UK Interconnector
viii
Abbreviations
BIT: Bilateral investment treaty
BOT: Build-operate-transfer
CfDs: Contracts for Difference
ECAs: Export credit agencies
ECT: Energy Charter Treaty
EIB: European Investment Bank
ICSID: International Centre for Settlement of Investment Disputes
IFIs: International Financial Institutions
NIB: Nordic Investment Bank
PPAs: Power-purchase agreements
PPP: Public Private Partnership
PRI: Political risk insurance
SCC: Stockholm Chamber of Commerce
UNCITRAL: United Nations Commision on International Trade Law
Political Risk and the Iceland – UK Interconnector
1
1 Introduction
The viability of the proposed electric interconnector between Iceland
and the United Kingdom has been debated for a long time but the discussion
has intensified in recent years. Countless factors play a role in the project but
this thesis will focus on the effects of political risk. Other factors, such as those
related to environmental and technological issues are also very important but
they will not be assessed in the thesis.
The thesis is mainly composed of two peer-reviewed articles on the
subject, written by the author, Andri Dan Traustason, in cooperation with
Professor Hilmar Þór Hilmarsson as co-author. The first one, titled: Iceland –
UK Interconnector: A brief analysis of possible political risk mitigation and
dispute settlement, was published in the Journal of Applied Management and
Investments and addresses some of the main political risk factors associated
with the proposed interconnector in a brief and concise way. The latter one,
titled: Iceland – UK Interconnector: Is proper political risk mitigation
possible?, was published as part of conference proceedings for the 5th
International Scientific Conference on Project Management in the Baltic
Countries. It covers many of the same issues but does so in a more detailed and
comprehensive manner. Moreover, the author delivered a presentation on the
subject, titled: The Iceland-UK Interconnector: A way to Prosperity or
Political Disaster?, in an open seminar at the University of Akureyri, hosted
by the School of Business and Science, Faculty of Business Administration. An
introduction was given by Professor Hilmarsson and a lively debate took place
during the seminar which might show that although people tend to disregard
political risks in developed countries, they understand its importance when
faced with relevant examples. The presentation was also delivered by Professor
Hilmarsson at the International Finance and Banking Conference – FIBA
2016 and the 5th International Scientific Conference on Project Management
in the Baltic Countries on behalf of both authors. The slides can be found in
Appendix B.
This introductory chapter will cover the origins of the thesis and
provide readers with some insight into current research, methodology and
Political Risk and the Iceland – UK Interconnector
2
political risk in general. Moreover, chapters outlining the results of the articles
and their practical implementations for the project will be included at the end
of the thesis.
At the time of writing, no critical assessment of political risks in the
proposed interconnector project has been carried out despite its apparent
importance. Therefore, the articles provided valuable information, which was
noted by many prominent members of the energy sector interviewed during the
research.
1.1.1 Current Research
A thorough literature review was conducted by the author for the
purpose of the thesis. The oldest article found on the subject was written in
1954 by Valgarð Thoroddsen, which was the director of RARIK, Iceland State
Electricity, at the time. He concluded that an interconnector between Iceland
and the United Kingdom was technologically impossible. However, it is also
interesting to note that many of the concerns about the project are the same
now as they were then, more than half a century ago. According to the article,
Valgarð had some reservations about the Icelandic infrastructure and Iceland’s
sovereign power over its resources as well as economic stability (Thoroddsen,
1954, pp. 5-7). Another article, published in 1955 in an engineering journal,
also covers the possibility of an interconnector. It specifies similar concerns
with the addition of those related to the price of electricity and opportunity cost
(Gíslason, 1955, pp. 14-16).
Contemporary news, academic and professional articles cover, for the
most part, the same set of concerns. Landsvirkjun, Iceland’s National Power
Company, has compiled a list on their website which covers much of the
available literature on the subject (Landsvirkjun, n.d.a; Landsvirkjun, n.d.b).
This list was included in the literature review. Much of the available literature
seems to focus on technological, financial and environmental factors, although
some very recent publications address political factors to some degree. Some of
the most important sources of information were reports and studies published
by institutions, governments or SOEs related to the project. These included
economic- and legal studies (Hagfræðistofnun Háskóla Íslands, 2013;
Atvinnuvega- og nýsköpunarráðuneytið, 2013b; Atvinnuvega- og
nýsköpunarráðuneytið, 2013a), reports on other interconnectors (National
Political Risk and the Iceland – UK Interconnector
3
Energy Authority of Iceland et al., 2016) and a number of articles in academic
journals and periodicals, many of which are cited in the thesis. Furthermore,
websites and other electronic sources proved to be crucial sources, mainly
because the project is in its feasibility stage and a limited amount of
information related to it has been published.
Current research on the subject mostly fails to address the effects of
political risk on the proposed interconnector properly. However, there is clear
reason to research the subject in detail because political risk can have a
significant effect on the project. This can be seen in recent cases in the energy
sector, mainly in Europe, which show that policy changes and political risk, in
general, can have a catastrophic effect on the feasibility of investments. These
cases play a fundamental role in the thesis and will be analysed in the enclosed
articles.
Most of the published material about the proposed interconnector
focuses on financial viability, environmental- and technological factors. As
noted before, these factors are important and will have to be assessed before
any significant decision is taken about the interconnector. However, the author
believes that this also applies to political risk factors as recent experiences
show us that they tend to be overlooked despite their importance.
Political Risk and the Iceland – UK Interconnector
4
1.2 Problem Statement
Political risk tends to be associated with emerging and developing
markets and much of the current research on the subject emphasises this. In the
case of the proposed interconnector, the two countries involved – Iceland and
the United Kingdom – are both developed high income western countries so
political risk plays a somewhat different role than in many other cases related
to it. Risk factors that affect the risk outlook of projects in developing countries
might not do so in western, developed countries. Consequently, the proposed
interconnector might primarily face political risks that are usually not the key
factors in cases related to political risk. Here the key risks are associated with
policy change within a developed country and also possible changes in EU
policy.
The scale of the project is huge for a small economy like Iceland, as the
articles below will cover in more detail, and any disputes originating from
policy changes or other aspects of political risk might have a significant effect
on the outcome of the investment.
Many different solutions might play a role in mitigating risk and
settling disputes if they were to occur. However, their applicability to the
proposed interconnector project will have to be assessed in depth for the right
decisions to be taken.
1.3 Research Objectives
The research carried out for the thesis is intended to analyse political
risk factors Iceland faces in this particular large-scale energy project and assess
the effects they may have. In addition, the viability of some risk mitigation
instruments, ownership scenarios and dispute settlement options is evaluated.
The research questions put forth in the second article, Iceland – UK
Interconnector: Is Proper Political Risk Mitigation Possible, are well suited for
the thesis as a whole and are as follows: ‘Is proper risk mitigation possible for
the Iceland – UK electricity interconnector?’ and ‘What would be possible
venues for dispute settlement?’ The two articles and the chapters that follow
Political Risk and the Iceland – UK Interconnector
5
outline the major findings of the research and attempt to answer the research
questions.
1.4 Political Risk
There are various definitions of political risk which differ considerably.
For the purpose of this thesis, many definitions were concidered and evaluated
with regard to the problem at hand. Many of the available definitions deal
mainly with emerging markets and developing countries. Therefore, special
attention has to be given to assess if the definitions are relevant or not. One
example of a definition that is hardly relevant to the project at hand is the
following: “The uncertainties that arise from instances of political instability
(such as riots and coups), of poor public policy (such as inflation and currency
crises), and weak institutional frameworks (such as discriminatory regulations
and ineffective legal systems)” (Wagner, 2012, p. 241). It is a prime example
of a definition that applies to emerging markets and as such, it provides a
useful contrast to those that apply to investments between two developed
countries, such as Iceland and the UK. Another definition that is still aimed at
emerging markets is this following, “Risks usually comprising currency
inconvertibility, expropriation, war and insurrection, terrorism, non-
government activists, and legal and administrative approvals” (Delmon, 2009,
p. 598). The last part that deals with legal and administrative approvals is
relevant to the project at hand. In more general terms, political risk can be
defined as “…the probability of disruptions in company operations by political
forces and events” (The World Bank Group [International Finance Corporation
& Multilateral Investment Guarantee Agency], 2012, p. 1).
None of these definitions emphasise regulatory changes enough for the
project at hand. According to Smith (1997, p. 46), the root cause of political
risk is the response of governments to public pressure and changing
circumstances. He differentiates political risk from traditional commercial risk
by saying that relevant uncertainties in the marketplace must be proximately
caused by governments or government agents for it to be considered political
risk. Jeswald W. Salacuse, one of the foremost experts on the subject, has
stated that “A sudden, unexpected change in the rules is a principal form of
Political Risk and the Iceland – UK Interconnector
6
political risk, perhaps its very essence” (Salacuse, 2010, p. 450). These latter
definitions are appropriate for the thesis because they cover policy- and
regulatory changes in greater detail. It must be noted that it seems unlikely that
a revolution, coup or acts of war will disrupt the relationship between Iceland
and the UK and negatively affect the interconnector’s feasibility. However,
regulatory changes, shifts in renewable energy policies and similar factors are
much more likely to be relevant to the project. For the purpose of the thesis, the
following definition of political risks will be used: Unexpected government
policy changes1 that may adversely affect company operations/projects.
1.5 Institutions & Instruments of Political Risk
Mitigation
The following articles mention a number of different institutions and
instruments that might play a role in mitigating political risk in the proposed
interconnector project. In order to fully understand the possible role of
conventional PRI in the project, a concrete definition of the subject has to be in
place. The author believes that the following is a prime definition of the
concept that is fully congruous with the project at hand.
Political risk insurance (PRI) is a specialized line of insurance that protects traders, investors, and lenders against non-commercial risks that interfere in the successful completion of trade contracts, the ability to own or operate investments successfully, or to service debt under the terms of a loan agreement (Wagner, 2012, p. 97).
Wagner (2012, p. 97) goes on to state that in the “…context of PRI, political
risks are arbitrary or discriminatory actions, taken by home or host
governments, political groups, or individuals, that have an adverse impact on
international trade or investment transactions”. Given the definitions of
political risk, mentioned before, it seems clear that Wagner’s definition of PRI
should comply with the thesis. However, it is unclear to what degree PRI could
be used in the interconnector project as the majority of cover is in developing
countries and its use in western countries is not as common (MIGA, The World
1 In this context, government policy changes can also originate in the European Union, as the United Kingdom is a member state and Iceland is a member of the EEA.
Political Risk and the Iceland – UK Interconnector
7
Bank Group, 2014, p. 30). National export credit agencies have, despite this,
guaranteed some investments in Iceland, as the articles will clarify further.
International financial institutions, such as the European Investment
Bank and the Nordic Investment Bank, may provide guarantees in addition to
loans (European Investment Bank, n.d.a.; Nordic Investment Bank, 2015).
Therefore, they may be very beneficial in the proposed interconnector project,
as is noted in the following articles. A more detailed account of both
institutions is included in the latter article.
1.6 Methodology
1.6.1 Case Studies
The thesis is mainly based on the review of academic literature, reports
from companies and institutions, including international organizations as well
as interviews and consultations with experts in Iceland and abroad. The
methodology used in the research is the case study method. Compared to other
research methods, a case study enables the researcher to examine the issues
involved in greater depth. According to Yin (2014, p. 105), six sources of
evidence are most commonly used in case studies. These are documentation,
archival records, interviews, direct observations, participant-observation and
physical artefacts. Each of these sources has advantages and disadvantages and
according to Yin (2014, p. 105), one should “…note that no single source has a
complete advantage over all the others. In fact, the various sources are highly
complementary, and a good case study will therefore want to rely on as many
sources as possible”.
Numerous relevant cases for clean energy investments were studied to
provide some insight into the problem at hand. As the proposed interconnector
is unique in terms of scale in general, none of the cases observed can be
directly compared to the project although they were relevant in some ways. For
instance, other interconnectors were looked at, even though they were neither
of the same scale nor type. Different factors of different cases were observed
with certain aspects of the proposed interconnector in mind.
Political Risk and the Iceland – UK Interconnector
8
1.6.2 Interviews
As one of the most important sources of case study evidence, interviews
are commonly found in case study research. In most such cases, they are in-
depth interviews and as such, they are not rigid surveys but rather guided
conversations (Yin, 2014, p. 110). This was the case in all the interviews
conducted for the purpose of the thesis. Many prominent individuals were
interviewed in order to acquire some insight into the complex political
environment surrounding the proposed interconnector. All these interviews
classify as ‘shorter case study interviews’ rather than ‘Prolonged case study
interviews’.
The vast majority of the information gathered was entirely confidential
as the project is still in the feasibility stage. However, the interviews did
provide an overview of all the information gathered, as many of the
interviewees were able to connect many different sources of information.
Consequently, the interviews were vital for the outcome of the research.
Political Risk and the Iceland – UK Interconnector
9
2 Iceland – UK Interconnector: A Brief
Analysis of Possible Political Risk
Mitigation and Dispute Settlement2
2.1 Introduction
There is growing debate regarding the feasibility of an electricity
interconnector between Iceland and the United Kingdom. Many different
factors play a role when assessing the feasibility of this project but this article
will mainly focus on the political risks associated as well as ways to mitigate
those risks. Furthermore, ways to seek arbitration and settle disputes will be
reviewed. The article will attempt to answer the following research question:
What are the political risks that Iceland could be confronted with regarding the
Iceland – UK interconnector project and how can they be mitigated?
Large scale energy projects, such as the proposed interconnector, take a
long time to develop and construct. Moreover, the operating lifetime of these
investments can be 20-30 years. Consequently, political risks need to be
assessed with a few decades in mind. Numerous reports and research papers
have been published evaluating the feasibility of the interconnector but after
conducting a literature review the authors did not find any comprehensive
critical assessment of the political risks associated with this project.
Landsvirkjun, Iceland’s national power company, has compiled a
comprehensive list of news as well as reports and other material about the
project on their website (Landsvirkjun, n.d.a; n.d.b) All of this information data
was included in the review.
An interconnector can be defined as “…a cable or overhead line
connecting two separate market or pricing areas” (Turvey, 2006, p. 1457).
This particular interconnector is somewhat special in terms of its scale. It is
estimated to be over 1000km in length and have a transmission capacity of
800-1200MWh DC (Landsvirkjun, n.d.a). Furthermore, it needs a significant
2 Traustason, A. D., & Hilmarsson, H. Þ. (2016). Iceland-UK Interconnector: A Brief Analysis of Possible Risk Mitigation and Dispute Settlement. Journal of Applied Management and Investments, 5(1), 66-74.
Political Risk and the Iceland – UK Interconnector
10
amount of investment in Iceland to become economically feasible. The total
investment can be roughly divided into three sections as follows:
The interconnector itself along with landing and launching stations in
Iceland and the United Kingdom.
Strengthening of the national grid in Iceland, needed to cope with the
increased flow of electricity due to the interconnector.
The upgrade of current power stations in Iceland, in addition to the
construction of new ones, needed to increase electricity supply.
The total cost of the project has yet to be determined but numerous parties have
come up with some estimates. For instance, according to a report made for the
Ministry of Industry and Innovation (Iceland) the investment needed ranges
from 288 to 553 billion ISK (Hagfræðistofnun Háskóla Íslands, 2013).
Bloomberg New Energy Finance introduced a significantly higher sum of up to
813 billion ISK, or 4.327 billion GBP (as cited in Gíslason, 2014 [using current
exchange rates]). It is clear that regardless of the final cost, investment in the
project will be large, especially for a small economy like in the case of Iceland.
It would amount to a large portion of the country’s gross domestic product,
possible about 30 percent (Sigurðsson, 2014). The United Kingdom, on the
other hand, is one of the largest European economies in terms of GDP (World
Bank, 2015). Therefore it would likely find the investment’s risks more
manageable.
2.2 Methodology
Numerous relevant cases were studied to provide some insight into the
problem at hand. The methodology used in this article is the case study
method. Compared to other research methods, a case study enables the
researcher to examine the issues involved in greater depth. According to Yin
(2009, pp. 103-105) six sources of evidence are most commonly used in case
studies. These are: documentation, archival records, interviews, direct
observations, participant-observation, and physical artefacts. Each of these
sources has advantages and disadvantages and according to Yin one should
“…note that no single source has a complete advantage over all the others. In
Political Risk and the Iceland – UK Interconnector
11
fact, the various sources are highly complementary, and a good case study will
therefore want to rely on as many sources as possible” (2014, p. 105).
Information from international institutions, government institutions and
companies as well as academic journals played a key role in this article.
Furthermore, leading experts in the field at Harvard Business School, John F.
Kennedy School of Government, Fletcher School of Law and Diplomacy and
the University of Iceland were consulted. They provided valuable comments
and ideas.
2.3 Political Risk Mitigation
Political risks can be defined as “Risks usually comprising currency
inconvertibility, expropriation, war and insurrection, terrorism, non-
government activists, and legal and administrative approvals” (Delmon, 2009,
p. 598). Furthermore, Salacuse states that ”[a] sudden, unexpected change in
the rules[i.e. laws and regulations] is a principal form of political risk, perhaps
its very essence “ (2010, p. 450). Risk associated with changes in policy,
regulation and law is especially important for the interconnector given the
probable importance of Contracts for Difference (CfD). These contracts are
supposed to make investment in renewable energy more attractive by partly
guaranteeing revenue. In practice this has been done in the UK by paying a
variable top-up payment that amounts to the difference between the market
price on a yearly basis and a fixed strike price (Department of Energy and
Climate Change, 2013). The whole project could likely rely on such a scheme.
Landsvirkjun has shown interest in studying those contracts further
(Landsvirkjun, 2013). Although it is not the only supplier of electricity in
Iceland Landsvirkjun, a state owned enterprise, is by far the largest
(Orkustofnun, n.d.). Consequently, any decisions on this project in Iceland are
likely to be influenced by Landsvirkjun in some way, not only because of its
importance as an electricity supplier but also due to its expertise and research
in recent years.
Many other interconnectors rely on other methods to acquire revenue,
sometimes without a long term revenue guarantee. One example is the NorNed
interconnector between Norway and the Netherlands which relies on price
Political Risk and the Iceland – UK Interconnector
12
variation between energy markets to secure a profit, rather than long term
contracts. Interconnectors of this type are called merchant interconnectors
(Parail, 2009). The scale of the project is huge for Iceland, as noted before, and
it is crucial that the ownership and planning of the project minimise risk for the
Icelandic nation and maintain Iceland’s sovereign power over its clean energy
sources. A possible scenario to mitigate risk can be seen in figure 1.
Figure 1: Possible interconnector scenario
In this scenario the interconnector is operated, owned and financed by a project
company which would most likely be some sort of a public private partnership.
It would not be owned by Landsvirkjun or the government of Iceland. A public
private partnership can be defined as an “…arrangement between public and
private entities for the delivery of infrastructure services and are seen as a way
of raising additional funds for infrastructure investments but more importantly
as a means to extend or leverage better budget funding through efficiency
gains” (Delmon, 2009, p. 7). The PPP would serve as a project company for
the interconnector and be guaranteed by the UK government which might also
provide guarantees for the necessary infrastructure investments in Iceland. In
regard to the construction of new hydro and geothermal power stations in
Iceland, needed to increase supply of electricity, a BOT (build-operate-
transfer), financed by private investors, might be feasible. A BOT is a form of
investment where “…the project is transferred back to the party granting the
concession [in this case the Icelandic government or its SOEs]” (Delmon,
2009, p. 552). The BOT project would pay a fee to the Icelandic government
for the use of resources during the investment’s lifetime. The project company
would arrange a take-or-pay contract with energy suppliers in Iceland.
Political Risk and the Iceland – UK Interconnector
13
According to Holland and Ashley “…take-or-pay clauses require a purchaser
to pay for a minimum quantity of goods or services [i.e. electricity], whether or
not those goods or services are taken.” (2013, p. 205). The project company
would thus assume the demand risk. A guaranteed minimum amount of
electricity would in turn be transferred via the interconnector to consumers in
the UK at an agreed price. This revenue guarantee could be provided with a
CfD or other means. In addition, the project company would pay a fee to
Landsnet, Iceland’s national grid. These fees need to cover the cost of
investment and acceptable returns. Under the current law, it seems unlikely that
the necessary upgrade of Iceland’s national grid could be financed with foreign
investment (Raforkulög nr. 65 , 27. mars 2003). However, foreign investors
could take part in the upgrade of current power stations.
Two international institutions in particular seem likely take part in
infrastructure financing of this sort. The European Investment Bank has a wide
range of financial instruments on offer and might provide loans and guarantees
to support this project. The bank puts a special emphasis on infrastructure and
climate friendly projects and has already lent close to 780 million EUR in
Iceland, most of which to renewable energy projects in recent years (European
Investment Bank, n.d.a; n.d.b). EIB also provides guarantees which can in turn
lower the cost of financing projects (European Investment Bank, n.d.c).
Another institution, of which Iceland is a founding member and part-owner, the
Nordic Investment Bank, might also play some role in this regard (Nordic
Investment Bank, n.d.). National export credit agencies could provide
guarantees for trade finance related to the project (Dinh & Hilmarsson, 2014;
Goncharuk, 2015).
The scenario in figure 1 could allow the private sector to take part in the
project and thus shift risks from the Icelandic government, its SOEs and the
Icelandic nation to the UK government and the consumers in the UK. Efficient
allocation of risks is key to the success of the project and the UK government
is in the best position to prevent risk events, such as energy policy changes in
the UK that could negatively affect the feasibility of the interconnector, from
occurring. Therefore it should be willing to assume most of the risks involved.
This might seem far-fetched but renewable energy projects seem to have a
momentum and strong political backing in the UK. This can be seen in a recent
Political Risk and the Iceland – UK Interconnector
14
case where the UK government partly insured a large nuclear energy project
(EDF Energy, 2015). Whether or not they would be willing to do the same for
foreign investment remains unclear. It must be noted that the abovementioned
scenario is only one of numerous possibilities. The project is still in the
feasibility stage so many factors remain unclear. However, it is certain that
Iceland’s comparative advantage lies in its resources – not economic power
and ability to take on risks or provide funding.
2.4 The State of Play
Political and commercial relations between the two countries, Iceland
and the UK, have normally been good. However, there have been some major
exceptions. Perhaps the most prominent ones are the Icesave dispute and the
Cod Wars. The more recent one revolved around Icesave during and following
the 2008 crisis. One of the measures undertaken by the UK was activating the
Anti-terrorism, Crime and Security Act of 2001 (Méndez-Pinedo, 2011)
against Iceland. During the dispute Iceland was largely isolated and without
friends. Major central banks such as the European Central Bank, the Bank of
England and the Federal Reserve refused to assist. The limited support
provided by Nordic Central Banks proved inadequate. This shows that Iceland
cannot rely on “friendly” nations during times of crisis and political disputes
with a larger nation such as the UK (Hilmarsson, 2015). The former conflict,
known as the Cod Wars, occurred between 1952 and 1976 when Iceland
expanded its fishery territories. This led to the intervention of the British Royal
Navy (Hellmann & Herborth, 2008) and an unprecedented act given that both
nations are NATO member states.
Disputes in the energy sector in Europe have occurred in recent years
due to shifts in government policies, for instance in Spain and Germany. These
cases show that energy policies can change fast and have a detrimental effect
on the feasibility of investments in the energy sector. Spain used a support
system of feed-in tariffs and other subsidies to promote renewable energy
generation. The first steps were taken around 1980 and subsequent steps led to
a highly subsidised renewable energy sector (Gonzáles, 2008). What followed
was a huge increase in renewable energy generation (Bridle & Beaton, 2012).
Political Risk and the Iceland – UK Interconnector
15
Consequently, the cost of the system increased and eventually the Spanish
government introduced policy changes to counter the problem. This included
cutting subsidies and increasing taxation on renewable energy suppliers,
thereby removing one of the main incentives that attracted investors to the
sector in Spain. Consequently, a large number of investor claims versus the
Spanish government were filed for arbitration. Many of these claims used
provisions provided by the Energy Charter Treaty which will be discussed
later in the article (Baltag, 2015; White, 2013; Rucinski & Rodríguez, 2013).
A similar scenario occurred in Germany following the 2011 Fukushima
nuclear disaster. A shift in policy by the German government resulted in the
phase out of nuclear energy, earlier than had been announced before, and
included the immediate shut down of some old reactors. Vattenfall, owned by
the Swedish government, owned two of these reactors and filed for arbitration
before the International Centre for Settlement of Investment Disputes (ICSID)
because of the losses associated. The arbitration is listed under the Energy
Charter Treaty but further details are mostly confidential (Vattenfall AB and
others v. Federal Republic of Germany (ICSID Case No. ARB/12/12))
(Bernasconi-Osterwalder & Brauch, 2014) (ICSID, n.d.a). This case is known
as ‘Vattenfall v Germany II’ because an earlier case, now known as ‘Vattenfall
v Germany I’ had already been settled with the ICSID. That case, much like the
latter, came to because of a policy change. However, the origin of the dispute
lay in conditions set forth by the EU rather than the German government
(ICSID, n.d.b; Bernasconi, 2009; Vattenfall AB and others v. Federal Republic
of Germany (ICSID Case No. ARB/09/6)).
These cases are relevant to the proposed interconnector in many ways.
They show how political risks, in these cases policy changes or even
expropriation, can change the environment which investors entered into and
negatively affect the feasibility of the project. Something similar might very
well occur during a long term project such as the Iceland-UK interconnector.
They also show what possibilities are available for arbitration, although the
outcome is somewhat unclear as many cases are still pending and arbitration
awards in concluded cases are often confidential.
Political Risk and the Iceland – UK Interconnector
16
2.5 Dispute Settlement
If disputes do occur, numerous different options are available for
arbitration between a PPP/investor and a state. The Energy Charter Treaty,
which has been mentioned before, could possibly be a player in that regard,
due to the fact that both Iceland and the UK have signed the treaty. Although
the genesis of the charter lies in cooperation between Eastern and Western
Europe it spans a much wider range today. Hobér states that the ECT is “…the
only binding multilateral instrument dealing with inter-governmental
cooperation in the energy sector, and contains far-reaching undertakings for
the contracting parties. The ECT includes provisions regarding investment
protection, provision on trade, transit of energy, energy efficiency and
environmental protection and dispute resolution.” (2010, p. 155). Therefore it
seems clear that in the case of disputes, the ECT could prove beneficial. This is
emphasised further by the fact that there is currently no bilateral investment
treaty between Iceland and the UK (Kluwer Law International, 2016). Surely,
many of the factors mentioned above, in addition to financing, ownership and
general operation of the interconnector, will be addressed in a bilateral contract
made especially for the project. The contract could be made between the
energy suppliers and a PPP or other contracting parties including the two states
involved. It might also state where and how disputes should be settled. If
provisions from the ECT are used, a few forms of international arbitration are
available (Hobér, 2010).
Perhaps the most prominent one, the International Centre for Settlement
of Investment Disputes (one of the five institutions of the World Bank), has
already shown its merit in the cases above. Iceland and the UK are both
members (ICSID, n.d.d). It uses a number of instruments for arbitration in
disputes between member states and nationals of other member states, i.e.
investors. It does however, not make procedural rulings. The ICSID website
states that “Independent conciliation commissions and arbitral tribunals
constituted in each case are vested with the power to rule on procedural issues
and resolve the parties’ dispute (ICSID, n.d.e). ICSID keeps a regularly
updated list of cases on their website. A large number of cases are listed with
the ECT as an invoked instrument, many of which are between two developed
Political Risk and the Iceland – UK Interconnector
17
parties from Western Europe (ICSID, n.d.c). In addition to ICSID, the ECT can
use UNCITRAL and the Arbitration Institute of the Stockholm Chamber of
Commerce to settle disputes (Hobér, 2010). The New York Arbitration
Convention could also prove useful as Iceland and the UK are both members
(The New York Arbitration Convention, n.d.). Further research is needed to
analyse other options available.
Political Risk and the Iceland – UK Interconnector
18
2.6 Conclusion and Further Research
Given the state of the energy sector in Europe, in addition to historical
relations between Iceland and the United Kingdom, it certainly seems
important to study political risks that may affect the feasibility of the proposed
interconnector. Ownership and financing of the interconnector along with
related infrastructure, may become a predominant risk factors. Contracts for
difference, possibly offered by the UK government, might help improve the
project’s feasibility in addition to mitigating some risk. These contracts might
also increase the project’s vulnerability in the event of regulatory changes in
the UK. The terms of the project have yet to be determined as it is still in the
feasibility stage. A bilateral contract could consider many of the associated
political risks. If disputes occur, a few well recognised organisations offer
international arbitration between PPPs and states, notably the Energy Charter
and ICSID. However, there are numerous other institutions that also offer
arbitration, though they have not been as prominent in recent cases.
This brief analysis has covered some of the ways available to mitigate
political risks related to the proposed interconnector between Iceland and the
UK. There are, of course, many other risk factors associated with the project,
including environmental and technical risks. In addition, legal issues are not
covered in detail. These factors are all subjects that need to be researched
further and in greater detail.
Political Risk and the Iceland – UK Interconnector
19
3 Iceland – UK Interconnector: Is
Proper Political Risk Mitigation
Possible?3
3.1 Introduction
The proposed interconnector is by no means a new idea (Thoroddsen,
1954; Gíslason, 1955). It has been contemplated for decades but due to various
issues, including technical and financial concerns, it has not been seriously
considered until in recent years. Landsvirkjun, Iceland’s National Power
Company, has compiled a list of reports, news and other literature related to the
proposed interconnector on their website (Landsvirkjun, n.d.a; Landsvirkjun,
n.d.b). A literature review, carried out by the authors, included this list among
other relevant literature. According to this review, the vast majority of articles
on the subject cover the economic and financial aspects of the interconnector as
well as environmental and technical factors. Current research on the subject
therefore apparently fails to address political risks properly, even though
serious incidents have occurred in the history of the two nations. Political and
commercial relations between Iceland and the UK are normally good, as is
usually the case between two western nations, but there have certainly been
some major exceptions. Serious disputes have erupted in the past, for instance
the Cod Wars, when Iceland expanded its fishery territory, (Hellmann &
Herborth, 2008) and more recently, the Icesave dispute when the UK activated
the Anti-terrorism, Crime and Security Act of 2001 against Iceland (Méndez-
Pinedo, 2011). During the Icesave dispute, Iceland was largely isolated and
without friends. Major central banks such as the European Central Bank, the
Bank of England and the Federal Reserve refused to assist. The limited support
provided by Nordic Central Banks proved inadequate. This shows that Iceland
cannot rely on allies during times of crisis and political disputes with a larger
3 Traustason, A. D., & Hilmarsson, H. Þ. (2016). Iceland – UK Interconnector: Is Proper Political Risk Mitigation Possible? Project Management Development – Practice and Perspectives (pp. 350-363). Riga: University of Latvia / Professional Association of Project Managers.
Political Risk and the Iceland – UK Interconnector
20
nation such as the UK (Hilmarsson, 2015; Goncharuk, 2016). Both disputes
had serious economic and political consequences for Iceland.
Furthermore, numerous disputes have arisen due to shifts in government
policies within the energy sector in Europe in recent years, some of which had
serious consequences for the parties involved. It is therefore clearly important
to assess the political risks involved and contemplate possible solutions.
Because of the large scale and long operating lifetime of the interconnector,
incidents such as those mentioned above cannot be overlooked, and studies that
do not take political risk properly into account are insufficient to make a final
decision about the feasibility of Iceland’s participation in this project.
An electricity interconnector, such as the one in question here can be
defined as “… a cable […] connecting two separate market or pricing areas”
(Turvey, 2006, p. 1457). This kind of energy projects tend to be very large and
with long repayment periods. As a result, they face political risks that may
adversely affect their viability (Bankes, 2012). The investment needed for this
particular project can be roughly divided into three different phases. Those
phases differ considerably in terms of required funding and scale but all must
be taken care of to get the 1000km long 800-1200MWh DC interconnector
operational (Landsvirkjun, n.d.a). The phases are as follows:
Investment needed to upgrade and increase the supply of electricity in
Iceland, including the construction of geothermal and hydro-electric
plants.
Investment related to the strengthening of the national grid and the
construction of launching and landing stations.
Investment to construct the interconnector.
The total amount of investment needed for the interconnector is not
certain but for the last few years, numerous different parties have come up with
estimates. For instance, The Institute of Economic Studies at the University of
Iceland stated that the total investment needed ranged from 288 to 553 billion
ISK (Hagfræðistofnun Háskóla Íslands, 2013). Bloomberg New Energy
Finance suggested a considerably higher estimate of up to 813 billion ISK or
4.327 bnGBP (as cited in Gíslason, 2014 [using current exchange rates]). It
Political Risk and the Iceland – UK Interconnector
21
seems likely that the total investment will be in excess of 4 bnGBP, of which a
significant portion will be allocated to grid connections and upgrades, power
plants and related infrastructure. Björgvin Skúli Sigurðsson (2014, p. 26),
executive vice president for the Marketing and Business Development division
at Landsvirkjun, notes that although the investment is huge compared to the
Icelandic economy (the average estimate of 553 bnISK is roughly 30% of gross
domestic product) this certainly is not the case for the UK, a much larger
player in the global economy.
The main subject of this article is to analyse the important role of
political risks in this particular energy project and consequently look at
available risk mitigation instruments and venues for dispute settlement.
Moreover, the article will seek ways to answer the following research
questions: Is proper risk mitigation possible for the Iceland – UK electricity
interconnector? What would be possible venues for dispute settlement? While
this article focuses on political risks, numerous other types of risks are
apparent, such as technical, financial, economic and environmental, which are
not the subject of this article.
In an attempt to answer these research questions, information was
collected from many different sources including – but not limited to –
international financial institutions (IFIs), government institutions and state-
owned-enterprises (SOEs). In addition, leading experts within the field at
Harvard Business School, John F. Kennedy School of Government, Fletcher
School of Law and Diplomacy, Landsvirkjun and University of Iceland were
consulted.
Numerous relevant cases for clean energy investments were studied to
provide some insight into the problem at hand. The methodology used is the
case study method. Compared to other research methods, a case study enables
the researcher to examine the issues involved in greater depth. According to
Yin (2014), six sources of evidence are most commonly used in case studies.
These are documentation, archival records, interviews, direct observations,
participant-observation and physical artefacts. Each of these sources has
advantages and disadvantages and according to Yin (2014, p. 105), one should
“…note that no single source has a complete advantage over all the others. In
Political Risk and the Iceland – UK Interconnector
22
fact, the various sources are highly complementary, and a good case study will
therefore want to rely on as many sources as possible”.
3.2 Possible Solutions
A wide variety of factors affect the risk profile of this project.
Ownership and financing of the interconnector and related infrastructure play a
key role in that regard. This needs to be settled in such a way as to minimize
political risks without compromising an acceptable return for the investment.
Besides solutions related to ownership and financing, preliminary results
suggest a few possible options available for the Iceland – UK interconnector
which also include ways to settle disputes, should they occur:
A well-established power purchase agreement and/or Contracts for
Difference, possibly offered by the UK government, could mitigate some
risks.
Other risk mitigation solutions could include serious arbitration provisions
in the agreement that both parties find appropriate. This could be included
in a bilateral investment treaty between Iceland and the United Kingdom.
Currently, there is no bilateral investment treaty between the countries
(Kluwer Law International, 2016)
Dispute settlement under the Energy Charter Treaty, which Iceland and the
United Kingdom have both ratified (Energy Charter, n.d.a). Dispute
settlement via the International Centre for Settlements of Investment
Disputes (ICSID) of the World Bank, of which Iceland and the United
Kingdom are both members (International Centre for Settlement of
Investment Disputes, n.d.a). Other forums of international arbitration
might also be beneficial. Awards would be subject to the New York
Convention.
Other options that deal with financing, as well as risk mitigation, might
include export credit agencies and investment banks, such as the European
Investment Bank and the Nordic Investment Bank. By providing loans and
guarantees, they might assist in the financing of the project and lower risk
premiums.
Political Risk and the Iceland – UK Interconnector
23
Ownership and financing of the proposed interconnector, as well as related
infrastructure, has yet to be determined. After these factors are settled and the
terms of the project are agreed, it is crucial that all commitments and
agreements will be honoured by both parties throughout the contract period.
Any large and unexpected changes in the policy, including laws or regulations
of the participating countries, might be detrimental. Such changes are a
principle form of political risk according to Salacuse (2010) and may even be
the essence of it. In more general terms, political risk can be defined as “…the
probability of disruptions in company operations by political forces and
events” (The World Bank Group [International Finance Corporation &
Multilateral Investment Guarantee Agency], 2012).
3.3 Ownership & Financing
As stated before, ownership can have a significant impact on the
project’s political risk profile. Due to the enormous scale of the project, it
seems clear that the Icelandic government and its institutions or SOEs have
neither the capabilities nor the will to invest in the project directly and
consequently take on the risks that follow. In light of these circumstances the
authors believe that a likely outcome is that the project will be a public-private
partnership of some kind. A public-private partnership can be defined as an
"…arrangement between public and private entities for the delivery of
infrastructure services and are seen as a way of raising additional funds for
infrastructure investments but more importantly as a means to extend or
leverage better budget funding through efficiency gains (Delmon, 2009, p. 7).
In fact, numerous private investors – mainly, Atlantic Superconnection
Corporation, Powerbridge LLC and Starwood Energy Group – have been
named as companies showing interest in taking some part in the project
(Eysteinsson, 2015). A possible ownership scenario, incorporating the private
sector, can be seen in figure 1, below.
Political Risk and the Iceland – UK Interconnector
24
4 Figure 1
According to this scenario (figure 1), the interconnector would be
operated, owned and financed by a project company which would be some sort
of a public-private partnership without the direct involvement of the Icelandic
government or its SOEs. The PPP would serve as a project company for the
interconnector and have a state-guarantee from the UK government that could
be critical for its capital mobilization efforts. Investment-guarantees for
necessary infrastructure in Iceland might also be provided by the UK
government, as was done in a recent project in the UK5. These infrastructure
investments could include the construction of new hydro and geothermal power
stations in Iceland in addition to the upgrade of current utilities. In order to
enable private investors to take part in these investments, a Build-Operate-
Transfer (BOT)6 arrangement might be feasible. To be able to secure a steady
supply of electricity to the UK, the project company would arrange take-or-
pay7 contracts with renewable energy suppliers in Iceland and therefore assume
the demand risk. These take-or-pay arrangements would have a UK
government guarantee.
A guaranteed minimum amount of electricity would, in turn, be
transferred via the interconnector to consumers in the UK at an agreed
minimum price. This revenue guarantee could be provided with a power
purchase agreement, Contracts for Difference or perhaps some other means. In
4 Figure constructed by the authors. 5 The UK government recently provided a 2 billion GBP guarantee for a large nuclear energy project (EDF Energy, 2015). 6 A BOT is a form of investment where "…the project is transferred back to the party granting the concession [in this case the Icelandic government or its SOEs]” (Delmon, 2009, p. 552). 7 According to Holland and Ashley “…take-or-pay clauses require a purchaser to pay for a minimum quantity of goods or services [i.e. electricity], whether or not those goods or services are taken.” (2013, p. 205).
Political Risk and the Iceland – UK Interconnector
25
addition, the project company would pay a fee to Landsnet, Iceland’s national
grid. These fees need to cover the cost of investment with acceptable returns
and be guaranteed by the UK government. Under the current law, it seems
unlikely that the necessary upgrade of Iceland’s national grid could be financed
with foreign investment (Raforkulög nr. 65 , 27. mars 2003). The scenario in
figure 1 could enable the private sector to take part in the project and thus shift
risks from the Icelandic government, its SOEs and the Icelandic nation to the
UK government and the consumers in the UK. Efficient allocation of risks is
key to the success of the project and the UK government is in the best position
to prevent such political risk events from occurring. Those events could include
energy policy changes in the UK that might negatively affect the feasibility of
the interconnector. Therefore, it should be willing to assume most of the
political risks involved.
Power purchase agreements (PPAs) are frequently used when
participating parties face considerable uncertainty. In some cases, it is unclear
whether supply will meet demand or if the spot prices are high enough to
secure the necessary minimum revenue. These are some of the main reasons
for the use of PPAs in energy projects according to the Public Private
Partnership in Infrastructure Resource Center (n.d.). One might assume this to
be the case with regard to the proposed interconnector. As a very large and
expensive long term project, it might be very sensitive to price changes
whether they stem from increased competition or other risk factors.
In addition to PPAs, it is worth mentioning that the United Kingdom's
Department of Energy and Climate Change offers Contracts for Difference
(CfDs) as part of the Electricity Market Reform programme which is meant to
make investments in renewable energy more attractive. The CfDs are at the
core of the programme and ensure that the generation of energy from
renewable resources is economically feasible by paying the variable difference
between the market price and a fixed price, i.e. the strike price. Consequently,
investor uncertainty is lowered and financing ‘green’ projects becomes cheaper
(Department of Energy and Climate Change, 2013).These contracts were
introduced as part of the Energy Act in 2013 which is “An Act to make
provision for the setting of a decarbonisation target range and duties in
relation to it”(Energy Act 2013, p. 1).
Political Risk and the Iceland – UK Interconnector
26
The importance of CfDs for the project seems to be considerable.
Landsvirkjun has shown interest in studying these contracts further
(Landsvirkjun, 2013). Although it is not the only supplier of electricity in
Iceland, Landsvirkjun – an SOE – is by far the largest (Orkustofnun, n.d.).
Consequently, any decisions on this project in Iceland are likely to be
influenced by Landsvirkjun in some way, not only because of its importance as
an electricity supplier, but also due to its expertise and research within the
renewable energy sector. Furthermore, other potential investors, such as the
Atlantic Superconnection Corporation, have stated that CfDs play a key role in
the project’s revenue stream (Atlantic Superconnection Corporation, 2014).
One might argue that it is essential for the feasibility of the
interconnector to secure such a contract and the revenue guarantees that follow.
While that may be true, they might also increase the effect of political risks on
the project. The consequences of government action, such as policy changes,
could seriously undermine the feasibility of the interconnector. The likelihood
of these events occurring might be high. In fact, the UK government recently
made changes to its renewables subsidies in order to cut costs (Department of
Energy & Climate Change and The Rt Hon Amer Rudd MP, 2015). It is
essential that any contracts about the project include provisions that cover this
possibility. Despite this, CfDs remain a possibility and might play an integral
role in the first stages of negotiation about the project.
Securing a revenue stream is not the only aspect of getting the project
operational. It must be financed as well. How this will be done is unclear but
preliminary results suggest a few possible options in addition to equity funding
and loans from private investment banks. Some IFIs, such as the European
Investment Bank (EIB) and the Nordic Investment Bank (NIB) provide
financing as well as risk mitigation instruments, i.e. guarantees. The EIB,
which is entirely owned by member states of the European Union, mainly
provides loans but may also provide guarantees. According to Matsukawa &
Habeck (2007, p. 45), the EIB provides the following instruments: “Inside EU:
EIF loan guarantees, microcredit guarantees, equity guarantees, and loan
guarantee. Outside EU: political risk carve-out on guarantees to EIB […];
credit enhancement guarantees by EIB to assist local borrowers to raise funds;
portfolio credit risk sharing with local banks”. These instruments are available
Political Risk and the Iceland – UK Interconnector
27
to large as well as small projects for private and public beneficiaries.
Guarantees such as those mentioned can be beneficial for projects in addition
to possible loans from the EIB. The benefits mainly stem from lower capital
charges and greater value added (European Investment Bank, n.d.a.). Whether
or not these solutions from the EIB would be available for the interconnector
remains to be seen. Furthermore, it is unclear if the parties involved would
choose to approach the EIB at all. However, it is clear that the EIB has already
financed numerous projects in Iceland for around EUR 780 million, most of
which (EUR 650 million) were associated with renewable energy production
(European Investment Bank, n.d.). The EIB has attached high priority to clean
energy projects in recent years.
Another IFI worth noting is the Nordic Investment Bank. Just as
the EIB, it offers long-term loans and guarantees that can support capital
mobilization. Its main area of operation is the Nordic and Baltic region. The
NIB attaches special emphasis on the development of clean energy projects and
environmentally friendly solutions in general (Nordic Investment Bank, 2015).
One might assume that the export of energy from renewable resources fits the
emphasis well.
In addition to this, national export credit agencies could also take part in
the project and provide guarantees for related trade finance (Dinh &
Hilmarsson, 2014). A recent example of this occurred when Japan Bank for
International Cooperation took part in the financing of a renewable energy
project in Iceland in cooperation with other financial institutions
(Landsvirkjun, 2015).
Political Risk and the Iceland – UK Interconnector
28
3.4 Dispute Settlement
Where and how disputes can be settled is likely to be included in the
agreements related to the project. This might be a bilateral investment treaty
between Iceland and the UK, which – as noted before – is non-existent at the
moment, or a contract made on an ad hoc basis for the interconnector project.
Numerous forums of international arbitration are available but preliminary
results suggest a few in particular. The Energy Charter Treaty is important in
that regard because the dispute settlement venue depends, to a degree, on
provisions in the treaty. Iceland and the UK have both ratified the treaty so it
will likely affect the project in some ways.
The roots of the Energy Charter Treaty lie in the problem that many
countries faced at the turn of the last century when they themselves lacked
energy resources but other, more politically unstable, countries had an
abundance of resources but needed foreign investment. Consequently, steps
were taken to amend this problem and in 1998, the ECT came into power. The
treaty mainly aims to minimize non-commercial risks and promote investment
within the energy sector (Hobér, 2010; Energy Charter , n.d.b). According to
Hobér (2010, p. 155), the ECT is "…the only binding multilateral instrument
dealing with inter-governmental cooperation in the energy sector, and contains
far-reaching undertakings for the contracting parties. The ECT includes
provisions regarding investment protection, provisions on trade, transit of
energy, energy efficiency and environmental protection and dispute
resolution”. It seems clear that these provisions could be very beneficial in
reducing political risk for the interconnector project.
Dispute settlement under the ECT has taken place numerous times and
the frequency is rising along with increased renown of the treaty and, in turn,
more awareness by investors. The Energy Charter Website mentions three
ways for investors to bring a dispute to arbitration under the treaty.
“the International Centre for the Settlement of Investment Disputes (ICSID - an autonomous international institution with close links to the World Bank); a sole arbitrator or an ad hoc arbitration tribunal established under the rules of the United Nations Commission on International Trade Law (UNCITRAL); or an application to the Arbitration Institute of the Stockholm Chamber of Commerce.” (Energy Charter, n.d.c).
Political Risk and the Iceland – UK Interconnector
29
According to these options, dispute settlement under the treaty can
work in close relation with ICSID, among other institutions. Hobér (2010)
names numerous cases which have been settled by ICSID under the Energy
Charter Treaty. Arbitral awards set under the treaty are binding and final so
each contracting party has to act accordingly (Energy Charter, n.d.c).
As noted above, both Iceland and the United Kingdom are members of
ICSID and as such have access to arbitration and conciliation services. It uses a
number of instruments for arbitration in disputes between member states and
nationals of other member states, i.e. investors. The ICSID Convention is one
of those instruments and has very wide state support with 159 signatory states
and 151 contracting states (International Centre for Settlement of Investment
Disputes, 2015). The Convention works as a neutral and independent system
that allows ICSID member states and their nationals to settle investment
disputes in a fair manner using a basic arbitration and conciliation framework
provided by the Convention. The ICSID website states that “Independent
conciliation commissions and arbitral tribunals constituted in each case are
vested with the power to rule on procedural issues and resolve the parties’
dispute” (International Centre for Settlement of Investment Disputes, n.d.e). If
the parties involved agree to the ICSID proceedings under the Convention they
accept the arbitration as an exclusive, final and binding solution (International
Centre for Settlement of Investment Disputes, n.d.b.).
The other arbitration venues mentioned – the Arbitration Institute of the
Stockholm Chamber of Commerce and a tribunal set under the United Nations
Commission on International Trade Law (UNCITRAL) – are also valid
options, although they are not used as commonly as ICSID in ECT cases
(Energy Charter, n.d.). UNCITRAL is the “…core legal body of the United
Nations system in the field of international trade law” (UNCITRAL, n.d.a). It
provides arbitration rules which cover state-state as well as investor-state
disputes (UNCITRAL, n.d.b). The Arbitration Institute of the Stockholm
Chamber of Commerce also offers international arbitration services which the
contracting parties of the project might agree to (Arbitration Institute of the
Stockholm Chamber of Commerce, n.d.a; n.d.b). In addition, The Convention
on the Recognition and Enforcement of Foreign Arbitral Awards, somewhat
better known as The New York Convention could be useful by enforcing
Political Risk and the Iceland – UK Interconnector
30
arbitral awards after disputes are settled, as both Iceland and the UK have
ratified the Convention (New York Arbitration Convention, n.d.a; United
Nations, 1958). Examples of how some of these arbitration options can be used
can be seen in recent cases.
3.5 Recent Experiences
Most cases related to political risk mitigation and dispute settlement are
between developing and developed countries. Because of that, cases between
two developed, high-income countries, are not abundant. However, the number
of disputes within the energy sector in Europe, Spain in particular, has
increased significantly in recent years. Many of these disputes occurred due to
changes in subsidies that were meant to promote investment in renewable
energy. Nathanson (2012) notes that such policy changes are one of the
primary barriers of renewable energy investment.
Spain used a system of subsidies, mainly feed-in tariffs, to promote the
solidification of renewable energy within the country. By implementing a
series of subsidies, Spain continuously strengthened this system. For instance,
renewable energy suppliers were offered a choice of either a fixed total price
(fixed feed-in) or a fixed premium in addition to the market price, much like
the CfDs mentioned before (Gonzáles, 2008). The system was meant to limit
investor risk as well as financing costs by providing security and revenue
guarantees (Río & Gual, 2007). This resulted in a significant increase in
renewable energy generation. Most importantly, solar photovoltaic generation
expanded from 18GWh in 2000 to c.a. 6.4 TWh in 2010 (Bridle & Beaton,
2012). Consequently, the feed-in tariffs became a huge burden on the Spanish
state and the situation was made even worse by unfavourable market
conditions (White, 2013). The policy changes that followed were intended to
close this deficit by reducing subsidies and introducing additional limitations
on renewable energy generators, therewith compromising the rationale that had
attracted investors to the sector. A large number of claims followed, many of
which were filed with ICSID under the ECT (Baltag, 2015; Rucinski &
Rodríguez, 2013). The Energy Charter Secretariat maintains a regularly
updated list of cases where the ECT is an invoked instrument and there are
Political Risk and the Iceland – UK Interconnector
31
currently 27 listed in Spain (Energy Charter, n.d.). Many of these cases have
yet to be settled and will have to be analysed further at a later point in time.
Similar situations have occurred in other European countries. One
recent case, in particular, received substantial attention. It occurred in Germany
following the 2011 Fukushima nuclear disaster. A shift in policy by the
German government resulted in the phase-out of nuclear energy, earlier than
had been announced before, and included the immediate shut-down of some
old reactors. Vattenfall, owned by the Swedish government, partly owned two
of these reactors and filed for arbitration before ICSID because of the losses
associated. The arbitration is listed under the Energy Charter Treaty but further
details are mostly confidential (Vattenfall AB and others v. Federal Republic of
Germany (ICSID Case No. ARB/12/12)) (Bernasconi-Osterwalder & Brauch,
2014; International Centre for Settlement of Investment Disputes, n.d.a;
Vattenfall AB, 2014; World Nuclear Association, 2015).
These cases from Spain and Germany are only examples of some of the
recent disputes that have occurred within the energy sector in Europe. Of
course, other cases may be relevant, some of which may have occurred outside
of Europe, but they will not be analysed in this article. As the proposed
interconnector is rather unique, with regards to size and other factors, cases
directly related to it are hard to come by. There are, however, other
interconnectors which may provide some comparison for the project.
One energy project that is often mentioned in the discussion
about the Iceland – UK interconnector, is the NorNed interconnector between
Norway and the Netherlands. Commissioned in 2008, the 580km long 700 MW
merchant interconnector depends on price variations between markets to secure
a profit (Nooij, 2011; Parail, 2009). As such, its revenue model is likely to
differ from the Iceland-UK interconnector, which is – as stated before – likely
to rely on revenue guarantees. The NorNed project was a joint venture between
the national electricity grids in Norway and the Netherlands, Statnett and
Tennet respectively. The project was partly financed by the Nordic Investment
Bank. It is therefore clear that although NIB primarily engages in the Nordic
and Baltic region it also participates in projects that have connections outside
this specific area of operations (Nordic Investment Bank, 2007). EIB also took
part in the financing of the NorNed project and financed 50%, even more than
Political Risk and the Iceland – UK Interconnector
32
NIB. The project matched the EUs emphasis on sustainable energy as well as
the integration of energy markets throughout Europe (European Commission,
2007). NorNed is likely to be financed and operated differently from the
proposed interconnector between Iceland and the UK. However, it highlights
some of the financing options available for the project at hand.
3.6 Conclusion and Further Research
It seems clear that the proposed interconnector between Iceland and the
UK could have access to a variety of risk mitigation instruments, financing
options as well as forums for international arbitration. However, it is rather
unclear which of them are most feasible. This is, to a large extent, due to the
fact that many important decisions regarding the interconnector have yet to be
made. Regardless of these decisions, it certainly seems important to study
political risks and the effects they may have on the feasibility of the proposed
interconnector. The state of the energy sector in Europe, in addition to
historical relations between Iceland and the United Kingdom, shows that it
would be ill-advised not to analyse the effect of political risk factors on this
project in detail.
Ownership and the financing of necessary infrastructure, as well as the
interconnector itself, may be one of the most important risk factors. There are
many possible solutions that may be suitable for the project. The article
showcased one ownership scenario where risk is shifted to the UK away from
the Icelandic public and its government. A public-private partnership played a
key role in that scenario and it is likely that it would be the case in many
scenarios that allow the private sector to take part in the project, including
financing. Regardless of ownership, the project – including infrastructure
upgrades – must be financed. The participation of the European Investment
Bank and the Nordic Investment Bank may be beneficial in that regard. Both of
them offer loans and guarantees that might be available and feasible if the
project company and other parties involved choose to approach them for
participation.
Political Risk and the Iceland – UK Interconnector
33
A comprehensive power purchase agreement or Contracts for Difference,
possibly offered by the UK government, might partly guarantee revenue and
mitigate certain risks. These contracts might also increase the project’s
vulnerability to regulatory changes in the UK. Recent cases in Europe have
shown that energy reforms and policy changes in general can have a significant
impact on investment feasibility within the sector.
Due to the risk of policy changes occurring, it is imperative that any
agreements about the project address dispute settlement and where it may take
place. If disputes occur, a few well-recognised organisations offer international
arbitration which might be available. Where disputes are settled is, however,
dependant on the parties involved. If the opinions put forth in the article
materialise, the dispute would likely be between a PPP company and a state.
The Energy Charter and ICSID are likely to play a key role in these cases. This
is supported by recent cases from Europe where the ECT was used in ICSID
arbitration of investor-state disputes. However, there are numerous other
institutions that also offer arbitration, though they have not been as prominent
in recent cases. The subjects of this article are only a few of the many factors
that need to be analysed further. The article is largely based on preliminary
results as the project is still in the feasibility stage and many factors remain
unclear.
Political Risk and the Iceland – UK Interconnector
34
4 Discussion
The proposed interconnector project could, as a whole, have access to a
broad range of solutions to mitigate political risk, settle disputes, and arrange
ownership and financing. This was noted in both the articles before but in order
to take a well-informed decision about the feasibility of the project, all of the
options have to be analysed and discussed in detail.
One of the main points of the articles is that by incorporating the private
sector in the project and operating it as a PPP, risks would be shifted to the
United Kingdom from the Icelandic public and the country as a whole. To
some, it might seem unfair that the United Kingdom assumes most of the risks
involved in the project. However, there are clear reasons for it to do so. If the
project takes place, investments are made and the interconnector is constructed,
in addition to related infrastructure, the United Kingdom has much more
bargaining power than Iceland. This is mainly because most of the investments
would be made in Iceland and the effects of the project would likely be much
more apparent there. Therefore, the Icelandic parties involved – mainly
renewable power suppliers and the electricity transmission operators involved
– would have few choices but to keep supplying electricity even if the prices or
terms negotiated would change for the worse. Another possibility is that
importing electricity through the interconnector would suddenly become
financially unfeasible for the United Kingdom. This could be due to
technological advancements, competition or many other factors.
As noted in the second article, the project might rely on CfDs to counter
this risk. However, it is also pointed out that these contracts might change
during the operational lifetime of the interconnector and therefore expose the
project to policy changes in the United Kingdom. If private parties take part in
the project, a number of venues of international arbitration become available
which would normally not be available in state-state disputes. All of the
dispute settlement venues mentioned in the articles are compatible with
provisions of the Energy Charter Treaty. The treaty would likely apply to the
proposed interconnector project in major aspects. As there is currently no BIT
active between Iceland and the United Kingdom, the importance of the ECT
Political Risk and the Iceland – UK Interconnector
35
becomes even greater. Some of the arbitration venues available under the treaty
are, as noted before, generally only available in investor-state disputes. This
further emphasises the possible benefits of enabling the private sector to take
part in the project. Examples of some recent disputes that make use of these
venues were given in the articles, mainly the latter one.
In terms of capital mobilisation, ownership is also very important.
Although it is unclear to what degree private investors and governments could
finance the project, it seems likely that the two IFIs mentioned in the articles,
EIB and NIB, would take some part in the project, as they have done in other
renewable energy projects. The author did not contact these IFIs with enquiries
about this possibility, as it is unlikely that any clear answers could have been
given at this stage. However, their prior participation in similar projects is
evident, both in Iceland and abroad.
Political Risk and the Iceland – UK Interconnector
36
5 Conclusion
Due to the enormous scale of the proposed interconnector, in addition to
related infrastructure investments, any financial gains or losses are likely to be
huge. This is particularly the case for the smaller country involved, i.e. Iceland.
As noted in the articles, the two countries participating in the project have very
different capabilities and consequently their ability to assume risk also varies
greatly. The United Kingdom, as the much larger economy, is in a better
position to assume the political risks involved in the project. Moreover, it is
likely to be in a position to prevent many of those risk events from occurring in
the first place. This is not only true for political risk – mainly policy changes –
but also for demand risk and price volatility. CfDs or similar contracts, which
are likely to be fundamental for the feasibility of the interconnector, mitigate
these latter risk factors to some degree. However, they might also expose the
project further to policy changes. To counter this, it is important that any
agreements made address this. Furthermore, international treaties such as the
ECT include some provisions which may be of use in that regard.
Due to the absence of a BIT between Iceland and the United Kingdom,
the importance of the ECT is emphasised further. IFIs, such as the EIB and
NIB, may also be of use as they offer risk mitigation instruments, such as
guarantees, in addition to loans. ECAs could also be of use as they provide
political risk insurance and other instruments which may be feasible in the
proposed interconnector project.
In the event of disputes, the ECT might again be of use as it can be used
as an invoked instrument in a number of venues of international arbitration.
ICSID of the World Bank has commonly been used in recent cases, but other
venues, such as the SCC arbitration institute and a tribunal set under
UNCITRAL rules have also been used. The articles did not assess the
feasibility of each of these options, but both Iceland and the UK should have
access to all of them. Where, and how, disputes would be settled is likely to be
included in agreements about the project.
One of the main reasons for this research being conducted was to assess
if political risks could be properly mitigated in this particular interconnector
project, as the research questions put forth in the introduction indicate.
Political Risk and the Iceland – UK Interconnector
37
Although many factors are still unclear, the author believes that political risks
can be adequately mitigated if some major risk factors are minimised. A PPP
that enables the private sector to take part in the project could be an integral
component of a solution that minimises those risk factors. One possible
scenario, which the author believes manages to properly mitigate political
risks, is detailed further in the ‘Practical Value’ chapter that follows.
As mentioned before, the thesis mainly addresses political risks the
proposed interconnector project may be exposed to. However, it must be noted
that other risk factors, unrelated to political risks, may be at least equally
important. These other risk factors, in addition to political risk, must be
research further to assess the feasibility of the proposed interconnector project
comprehensively.
Political Risk and the Iceland – UK Interconnector
38
6 Practical Value
The scenario proposed in the articles showcased one way to mitigate
political risks in the interconnector project. In this specific scenario, this is
done by shifting risks from Iceland to the United Kingdom and the consumer.
By implementing take-or-pay contracts between renewable energy suppliers
and a project company with a state guarantee from the United Kingdom,
demand risk can be minimised. A revenue guarantee would also be provided by
the UK government, either via CfDs or other forms. In terms of capital
mobilisation, state guarantees from the United Kingdom would likely help
facilitate the flow of investment and lower the cost of capital. These guarantees
could apply to the project company, revenue and infrastructure investments.
Furthermore, the private sector might be able to take part in the project via
BOT projects. In any case, IFIs such as the EIB and NIB are likely to take
some part in the project.
When assessing the feasibility of a project that spans such a long time,
maybe up to half a century, it is important to take necessary precautions to
properly deal with disputes if they were to occur. It is therefore important to
study some of the available venues of international arbitration, such as ICSID,
the SCC arbitration institute and a tribunal set under UNCITRAL rules. As
noted before, all of these venues are compatible with the ECT, which may play
a significant role in the project. Although the articles did not assess the
viability of each option individually, knowing which options are available
should certainly provide significant practical value for the next steps of the
interconnector project. Moreover, examples of these venues being used in
relevant cases were studied in the articles to showcase the applicability of these
options.
The thesis outlined some of the most important political risk mitigation
options available to the proposed interconnector project. As such, it is valuable
for the next steps of the project. The details of each option will not be included
in this chapter, but many of them were assessed in a more thorough manner in
the enclosed articles. Judging from a literature review, an open seminar,
conference presentations and interviews with high-ranking officials and
Political Risk and the Iceland – UK Interconnector
39
academics, the effects of political risk on the project have not been assessed to
this degree until now.
Political Risk and the Iceland – UK Interconnector
40
7 References
7.1 References: Iceland – UK Interconnector:
A Brief Analysis of Possible Political Risk
Mitigation and Dispute Settlement
Baltag, C., 2015. What's New with the Energy Charter Treaty. [Online] Available at: http://kluwerarbitrationblog.com/2015/06/13/whats-new-with-the-energy-charter-treaty/ [Accessed 8 1 2016].
Bernasconi, N., 2009. Background paper on Vattanfall v. Germany arbitration, s.l.: International Institute for Sustainable Development.
Bernasconi-Osterwalder, N. & Brauch, M. D., 2014. The State of Play in Vattenfall v. Germany II: Leaving the German public in the dark, s.l.: International Institute for Sustainable Development.
Bridle, R. & Beaton, C., 2012. Assessing the Cost-Effectiveness of Renewable Energy Deployment Subsidies: Solar PV in Germany and Spain, s.l.: International Institute for Sustainable Development.
Delmon, J., 2009. Private sector investment in infrastructure: Project finance, PPP projects and risk. 2 ed. Alphen Aan Den Rijn: Kluwer Law International & The World Bank.
Department of Energy and Climate Change, 2013. Investing in renewable technologies – CfD contract terms and strike prices, s.l.: s.n.
Dinh, T. Q. & Hilmarsson, H. Þ., 2014. How can ECAs help solve funding challenges for capital intensive projects in emerging market economics?. Journal of Applied Economics: Systematic Research, 8(1), pp. 79-95.
EDF Energy, 2015. Hinkley Point C. [Online] Available at: http://www.edfenergy.com/energy/nuclear-new-build-projects/hinkley-point-c [Accessed 11 1 2016].
European Investment Bank, n.d.a. Projects. [Online] Available at: http://www.eib.org/projects/index.htm [Accessed 11 1 2016].
European Investment Bank, n.d.b. Iceland. [Online] Available at: http://www.eib.org/projects/regions/efta/iceland/index.htm [Accessed 11 1 2016].
European Investment Bank, n.d.c. Guarantees & Securitisation. [Online] Available at: http://www.eib.org/products/blending/guarantees/index.htm [Accessed 11 1 2016].
Political Risk and the Iceland – UK Interconnector
41
Gíslason, G. R., 2014. Samkeppnishæfur Sæstrengur. [Online] Available at: http://www.vb.is/frettir/samkeppnishaefur-saestrengur/101710/ [Accessed 2 1 2016].
Goncharuk, A. G., 2015. Food Business and Food Security Challenges in Research. Journal of Applied Management and Investment, 4(4), pp. 223-230.
Gonzáles, P. d. R., 2008. Ten years of renewable electricity policies in Spain: An analysis of successive feed-in tariff reforms. Energy Policy, 36(8), pp. 2917-2929.
Hagfræðistofnun Háskóla Íslands, 2013. Þjóðhagsleg áhrif sæstrengs (Report nr. C13:02), s.l.: s.n.
Hellmann, G. & Herborth, B., 2008. Fishing in the mild West: democratic peace and militarised interstate disputes in the transatlantic community. Review of International Studies, 34(3), pp. 481-506.
Hilmarsson, H. Þ., 2015. The Collapse of the Icelandic Banking System and the Inaction of the International Community. Journal of Applied Management and Investment , 4(3), pp. 156-162.
Hobér, K., 2010. Investment Arbitration and the Energy Charter Treaty. Journal of International Dispute Settlement , 1(1), pp. 153-190.
Holland, B. & Ashley, P. S., 2013. Enforceability of Take-or-Pay Provisions in English Law Contracts - Revisited. Journal of Energy & Natural Resources Law, 31(2), pp. 205-218.
ICSID, n.d.a. Case Details: Case No. ARB/12/12. [Online] Available at: https://icsid.worldbank.org/apps/icsidweb/cases/Pages/casedetail.aspx?caseno=ARB/12/12 [Accessed 10 1 2016].
ICSID, n.d.b. Case Details: Case No. ARB/09/6. [Online] Available at: https://icsid.worldbank.org/apps/ICSIDWEB/cases/Pages/casedetail.aspx?CaseNo=ARB/09/6 [Accessed 10 1 2016].
ICSID, n.d.c. Cases. [Online] Available at: https://icsid.worldbank.org/apps/ICSIDWEB/cases/ [Accessed 11 1 2016].
ICSID, n.d.d. Database of ICSID Member States. [Online] Available at: https://icsid.worldbank.org/apps/ICSIDWEB/about/Pages/Database-of-Member-States.aspx [Accessed 11 1 2016].
ICSID, n.d.e. Process Overview. [Online] Available at: https://icsid.worldbank.org/apps/ICSIDWEB/process/Pages/Overview.aspx [Accessed 11 1 2016].
Political Risk and the Iceland – UK Interconnector
42
Kluwer Law International, 2016. Bilater Investment Treaties (BITs): Iceland. [Online] Available at: http://www.kluwerarbitration.com/CommonUI/BITs.aspx?country=Iceland [Accessed 11 1 2016].
Landsvirkjun, 2013. Haustfundur 2013. [Online] Available at: http://www.landsvirkjun.is/Media/PPT_haustfundur2013_131113_OK_small.pdf [Accessed 12 1 2016].
Landsvirkjun, n.d.a. Submarine Cable to Europe. [Online] Available at: http://www.landsvirkjun.com/ResearchDevelopment/Research/SubmarineCabletoEurope/
Landsvirkjun, n.d.b. Sæstrengur. [Online] Available at: http://www.landsvirkjun.is/rannsoknirogthroun/throunarverkefni/saestrengur/
Méndez-Pinedo, M. E., 2011. The icesave Dispute in the Aftermath of the Icelandic Financial Crisis: Revisiting the Principles of State Liability, Prohibition of State Aid and Non-discrimination in Euopean Law. European Journal of Risk Regulation, 2(3), pp. 356-372.
Nordic Investment Bank, n.d.. NIB in Brief. [Online] Available at: http://annual.nib.int/2014/about-nib/nib-in-brief [Accessed 11 1 2016].
Orkustofnun, n.d. Raforkuvinnsla eftir framleiðanda 2014. [Online] Available at: http://www.orkustofnun.is/yfirflokkur/raforkutolfraedi/raforkutolfraedi-2014/raforkuvinnsla-eftir-framleidanda-2014/ [Accessed 9 1 2016].
Parail, V., 2009. Can Merchant Interconnectors Deliver Lower and More Stable Prices? The Case of NorNed. IDEAS Working Paper Series from RePEc (Cambridge Working Papers in Economics), pp. 1-50.
Raforkulög nr. 65 (27. mars 2003).
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Salacuse, J. W., 2010. The Emerging Global Regime for Investment. Harvard International Law Journal, 51(2), pp. 427-473.
Sigurðsson, B. S., 2014. Viðskiptatækifæri sæstrengs: Breytingar í orkumálum Evrópu. Þjóðmál, pp. 22-28.
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Political Risk and the Iceland – UK Interconnector
43
Turvey, R., 2006. Interconnector Economics. Energy Policy, Volume 34, pp. 1457-1472.
White, T., 2013. Spain Power Deficit Widens 46% as Steps to Close Gap Founder. Bloomberg, 25 April.
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Political Risk and the Iceland – UK Interconnector
44
7.2 References: Iceland – UK Interconnector:
Is Proper Political Risk Mitigation
Possible?
1. Arbitration Institute of the Stockholm Chamber of Commerce, n.d.a. Arbitration. [Online] Available at: http://sccinstitute.com/dispute-resolution/arbitration/ [Accessed 6 2 2016].
2. Arbitration Institute of the Stockholm Chamber of Commerce, n.d.b. Dispute Resolution Services. [Online] Available at: http://sccinstitute.com/dispute-resolution/ [Accessed 6 2 2016].
3. Atlantic Superconnection Corporation, 2014. Atlantic Superconnection Corporation: response to Ofgem consultation on the future of electricity interconnection: Proposal to roll out a cap and floor regime to near term projects. [Online] Available at: https://www.ofgem.gov.uk/sites/default/files/docs/2014/08/atlantic_superconnection_response_cap_and_floor_near_term_projects_consultation.pdf [Accessed 3 2 2016].
4. Baltag, C., 2015. What's New with the Energy Charter Treaty. [Online] Available at: http://kluwerarbitrationblog.com/2015/06/13/whats-new-with-the-energy-charter-treaty/ [Accessed 8 1 2016].
5. Bankes, N., 2012. Decarbonising the Economy and International Investment Law. Journal of Energy & Natural Resources Law, 30(4), pp. 497-510.
6. Bernasconi-Osterwalder, N. & Brauch, M. D., 2014. The State of Play in Vattenfall v. Germany II: Leaving the German public in the dark, s.l.: International Institute for Sustainable Development.
7. Bridle, R. & Beaton, C., 2012. Assessing the Cost-Effectiveness of Renewable Energy Deployment Subsidies: Solar PV in Germany and Spain, s.l.: International Institute for Sustainable Development.
8. Delmon, J., 2009. Private sector investment in infrastructure: Project finance, PPP projects and risk. 2 ed. Alphen Aan Den Rijn: Kluwer Law International & The World Bank.
9. Department of Energy & Climate Change and The Rt Hon Amer Rudd MP, 2015. Changes to renewables subsidies. [Online] Available at: https://www.gov.uk/government/news/changes-to-renewables-subsidies [Accessed 3 2 2016].
10. Department of Energy and Climate Change, 2013. Investing in renewable technologies – CfD contract terms and strike prices, s.l.: s.n.
Political Risk and the Iceland – UK Interconnector
45
11. Dinh, T. Q. & Hilmarsson, H. Þ., 2014. How can ECAs help solve funding challenges for capital intensive projects in emerging market economics?. Journal of Applied Economics: Systematic Research, 8(1), pp. 79-95.
12. EDF Energy, 2015. Hinkley Point C. [Online] Available at: http://www.edfenergy.com/energy/nuclear-new-build-projects/hinkley-point-c [Accessed 11 1 2016].
13. Energy Charter , n.d.b. What we do: Investment - Overview. [Online] Available at: http://www.energycharter.org/what-we-do/investment/overview/ [Accessed 18 12 2015].
14. Energy Charter, n.d.a. Constituency of the Energy Charter Conference: Members of the Energy Charter Conference. [Online] Available at: http://www.energycharter.org/who-we-are/members-observers/ [Accessed 17 12 2015].
15. Energy Charter, n.d.c. What we do: Use of the Dispute Settlement Mechanisms. [Online] Available at: http://www.energycharter.org/what-we-do/dispute-settlement/use-of-the-dispute-settlement-mechanisms/ [Accessed 18 12 2015].
16. Energy Charter, n.d.. Investment Dispute Settlement Cases. [Online] Available at: http://www.energycharter.org/what-we-do/dispute-settlement/investment-dispute-settlement-cases/ [Accessed 8 1 2016].
17. European Commission, 2007. The European Investment Bank finances NorNed - the submarine power cable linking the Netherlands and Norway. [Online] Available at: http://europa.eu/rapid/press-release_BEI-07-118_en.htm?locale=en [Accessed 18 12 2015].
18. European Investment Bank, n.d.a.. Guarantees & Securitisation. [Online] Available at: http://www.eib.org/products/blending/guarantees/index.htm [Accessed 18 12 2015].
19. European Investment Bank, n.d.. Iceland. [Online] Available at: http://www.eib.org/projects/regions/efta/iceland/index.htm [Accessed 18 12 2015].
20. Eysteinsson, Æ. Þ., 2015. Bandarísk stórfyrirtæki vilja leggja sæstreng til Íslands - funduðu með ráðherrum í síðustu viku. [Online] Available at: http://kjarninn.is/frettir/bandarisk-storfyrirtaeki-vilja-leggja-saestreng-til-islands-fundudu-med-radherrum-i-sidustu-viku/ [Accessed 21 11 2015].
21. Gíslason, G. R., 2014. Samkeppnishæfur Sæstrengur. [Online] Available at: http://www.vb.is/frettir/samkeppnishaefur-saestrengur/101710/ [Accessed 2 1 2016].
Political Risk and the Iceland – UK Interconnector
46
22. Gíslason, J., 1955. Vatnsafl Íslands, útflutningur á raforku og stóriðja. Tímarit Verkfræðingafélag Íslands, 40(1), pp. 9-16.
23. Goncharuk, A. G., 2016. Banking Sector Challenges in Research. Journal of Applied Management and Investment, 5(1), pp. 34-39.
24. Gonzáles, P. d. R., 2008. Ten years of renewable electricity policies in Spain: An analysis of successive feed-in tariff reforms. Energy Policy, 36(8), pp. 2917-2929.
25. Hagfræðistofnun Háskóla Íslands, 2013. Þjóðhagsleg áhrif sæstrengs (Report nr. C13:02), s.l.: s.n.
26. Hellmann, G. & Herborth, B., 2008. Fishing in the mild West: democratic peace and militarised interstate disputes in the transatlantic community. Review of International Studies, 34(3), pp. 481-506.
27. Hilmarsson, H. Þ., 2015. The Collapse of the Icelandic Banking System and the Inaction of the International Community. Journal of Applied Management and Investment , 4(3), pp. 156-162.
28. Hobér, K., 2010. Investment Arbitration and the Energy Charter Treaty. Journal of International Dispute Settlement, 1(1), pp. 153-190.
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40. Matsukawa, T. & Habeck, O., 2007. Review of Risk Mitigation Instruments for Infrastructure Financing and Recent Trends and Developments, Washington DC: The International Bank for Reconstruction and Development.
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47. Parail, V., 2009. Can Merchant Interconnectors Deliver Lower and More Stable Prices? The Case of NorNed. IDEAS Working Paper Series from RePEc (Cambridge Working Papers in Economics), pp. 1-50.
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51. Rucinski, T. & Rodríguez, J. E., 2013. Exclusive: Foreign investors set to sue Spain over energy reform. Reuters, 14 February.
52. Salacuse, J. W., 2010. The Emerging Global Regime for Investment. Harvard International Law Journal, 51(2), pp. 427-473.
53. Sigurðsson, B. S., 2014. Viðskiptatækifæri sæstrengs: Breytingar í orkumálum Evrópu. Þjóðmál, pp. 22-28.
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55. Thoroddsen, V., 1954. Flutningur raforku milli landa: Hvaða möguleikar eru á útflutningi raforku frá Íslandi?. Alþýðublaðið, Volume 42, pp. 5-7.
56. Turvey, R., 2006. Interconnector Economics. Energy Policy, Volume 34, pp. 1457-1472.
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http://www.uncitral.org/uncitral/en/uncitral_texts/arbitration/2010Arbitration_rules.html [Accessed 6 2 2016].
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7.3 References: Introduction
7.3.1 Print Sources
Atvinnuvega- og nýsköpunarráðuneytið. (2013a). Raforkustrengur til Evrópu: Niðurstöður og tillögur ráðgjafarhóps iðnaðar- og viðskiptaráðherra.
Atvinnuvega- og nýsköpunarráðuneytið. (2013b). Greinagerð um lögfræðileg málefni vegna sæstrengs til Evrópu.
Delmon, J. (2009). Private sector investment in infrastructure: Project finance, PPP projects and risk (2 útg.). Alphen Aan Den Rijn, The Netherlands: Kluwer Law International & The World Bank.
Gíslason, J. (1955). Vatnsafl Íslands, útflutningur á raforku og stóriðja. Tímarit Verkfræðingafélag Íslands, 40(1), pp. 9-16. Retrieved 11 21, 2015, from http://timarit.is/view_page_init.jsp?issId=348208
Hagfræðistofnun Háskóla Íslands. (2013). Þjóðhagsleg áhrif sæstrengs (Report nr. C13:02). Retrieved 29. 12 2015 from https://www.atvinnuvegaraduneyti.is/media/saestrengur-til-evropu/Skyrsla-HHI-26-juni-2013.pdf
MIGA, The World Bank Group. (2014). World Investment and Political Risk 2013. MIGA, The World Bank Group. doi:10.1596/978-1-4648-0039-9
National Energy Authority of Iceland; The Arctic University of Norway; Danish Energy Agency; Faroese Earth and Energy Directorate; Shetland Island Council - Economic Development Service; Greenland Innovation Centre. (2016). North Atlantic Energy Network.
Salacuse, J. W. (2010). The Emerging Global Regime for Investment. Harvard International Law Journal, 51(2), 427-473.
Smith, W. (1997). Covering Political and Regulatory Risks: Issues and Options for Private Infrastructure Arrangements. In T. Irwin, M. Klein, G. E. Perry, & M. Thobani, Dealing with Public Risk in Private Infrastructure. Washington D.C.: The International Bank for Reconstruction and Development / THE WORLD BANK.
The World Bank Group [International Finance Corporation & Multilateral Investment Guarantee Agency]. (2012). Political Risk: The Missing Link in Understanding Investment Climate Reform? Investment Climate - In practice, 20. Retrieved 12 17, 2015, from https://www.wbginvestmentclimate.org/uploads/In%20Practice%20-Political%20Risk.pdf
Thoroddsen, V. (1954). Flutningur raforku milli landa: Hvaða möguleikar eru á útflutningi raforku frá Íslandi? Alþýðublaðið, 42, pp. 5-7. Retrieved 11 21, 2015, from http://m.timarit.is/view_page_init.jsp?pageId=1098612
Traustason, A. D., & Hilmarsson, H. Þ. (2016). Iceland – UK Interconnector: Is Proper Political Risk Mitigation Possible? Project Management Development – Practice and Perspectives (pp. 350-363). Riga: University of Latvia / Professional Association of Project Managers.
Political Risk and the Iceland – UK Interconnector
51
Traustason, A. D., & Hilmarsson, H. Þ. (2016). Iceland-UK Interconnector: A Brief Analysis of Possible Risk Mitigation and Dispute Settlement. Journal of Applied Management and Investments, 5(1), 66-74.
Wagner, D. (2012). Managing country risk: a practitioner's guide to effective cross-border risk analysis. Boca Raton, Florida, United States of America: CRC Press / Taylor & Francis Group.
Yin, R. K. (2014). Case Study Research: Design and Methods (5 ed.). Thousand Oaks, California: Sage Publications, Inc.
7.3.2 Electronic Sources
European Investment Bank. (n.d.a.). Guarantees & Securitisation. Retrieved 12 18, 2015, from http://www.eib.org/products/blending/guarantees/index.htm
Landsvirkjun. (n.d.a). Submarine Cable to Europe. Retrieved from Landsvirkjun: http://www.landsvirkjun.com/ResearchDevelopment/Research/SubmarineCabletoEurope/
Landsvirkjun. (n.d.b). Sæstrengur. Retrieved from Landsvirkjun: http://www.landsvirkjun.is/rannsoknirogthroun/throunarverkefni/saestrengur/
Nordic Investment Bank. (2015). Annual Report 2014. Retrieved 12 18, 2015, from http://www.nib.int/filebank/a/1425933453/594634fd57e820fabc7eed56fd348aff/4379-NIB_Annual_Report_2014.pdf
Political Risk and the Iceland – UK Interconnector
i
8 Appendix A
8.1 Conducted Interviews
1. Björgvin Skúli Sigurðsson, Executive Vice President: Marketing and
Business Development Divison. Landsvirkjun sf. Conducted January 6,
2016 in Reykjavík, Iceland.
2. Ingvi Már Pálsson, LL.M, Director General: Department of Industry and
Energy, Ministry of Industries and Innovation. Conducted February 12,
2016 in Reykjavík, Iceland.
3. Erla Björk Þorgeirsdóttir, Manager – Master plan: Energy Generation,
National Energy Authority. Conducted February 12, 2016 in Reykjavík,
Iceland.
4. Sverrir Jan Norðfjörð, Executive Vice President, Development &
Technology, Landsnet (Icegrid). Conducted February 12, 2016 in
Reykjavík, Iceland.
8.2 Consultations
1. Pétur Dam Leifsson, Senior Lecturer, School of Social Sciences - Faculty
of Law University of Iceland. Conducted January 6, 2016 in Reykjavík,
Iceland.
2. Gylfi Zoega, Professor, School of Social Sciences - Faculty of
Economics, University of Iceland. Conducted January 6, 2016 in
Reykjavík, Iceland.
Political Risk and the Iceland – UK Interconnector
ii
9 Appendix B
This appendix contains the published articles as they appear in their original
format in addition to slides used in a presentation on the subject. The
presentation was originally delivered in an open seminar at the University of
Akureyri, hosted by the School of Business and Science, Faculty of Business
Administration. Some related material, such as marketing material and excerpts
from conference programmes, is also included in the appendix.
66
ICELAND-UK INTERCONNECTOR:
A BRIEF ANALYSIS OF POSSIBLE POLITICAL RISK
MITIGATION AND DISPUTE SETTLEMENT
Andri Dan Traustason, Student
Hilmar Þór Hilmarsson, PhD, Professor
School of Business and Science
University of Akureyri, Iceland
Introduction
There is growing debate regarding the feasibility of an electricity interconnector
between Iceland and the United Kingdom. Many different factors play a role when
assessing the feasibility of this project, but this article will mainly focus on the political
risks associated as well as ways to mitigate those risks. Furthermore, ways to seek
arbitration and settle disputes will be reviewed. The article will attempt to answer the
following research question: What are the political risks that Iceland could be
confronted regarding the Iceland – UK interconnector project and how can they be
mitigated?
Large scale energy projects, such as the proposed interconnector, take a long
time to develop and to construct. Moreover, the operating lifetime of these investments
can be of 20-30 years. Consequently, political risks need to be assessed with a few
decades in mind. Numerous reports and research papers have been published
evaluating the feasibility of the interconnector, but after conducting a literature review,
the authors did not find any comprehensive critical assessment of the political risks
associated with this project. Landsvirkjun, Iceland’s national power company has
compiled a comprehensive list of news as well as reports and other material about the
project on their website (Landsvirkjun, n.d.a; n.d.b) All of this information data was
included into the review. An interconnector can be defined as “…a cable or overhead
line connecting two separate market or pricing areas” (Turvey, 2006, p. 1457). This
particular interconnector is somewhat special in terms of its scale. It is estimated to be
over 1000km in length and have a transmission capacity of 800-1200MWh DC
(Landsvirkjun, n.d.a). Furthermore, it needs a significant amount of investment in
Iceland to become economically feasible. The total investment can be roughly divided
into three sections as follows:
the interconnector itself along with landing and launching stations in Iceland
and the United Kingdom.
strengthening of the national grid in Iceland, needed to cope with the increased
flow of electricity due to the interconnector.
the upgrade of current power stations in Iceland, in addition to the construction
of new ones, needed to increase electricity supply.
The total cost of the project has yet to be determined, but numerous parties have
come up with some estimates. For instance, according to a report made for the Ministry
of Industry and Innovation (Iceland) the investment needed ranges from 288 to 553
billion ISK (Hagfræðistofnun Háskóla Íslands, 2013). Bloomberg New Energy Finance
introduced a significantly higher sum of up to 813 billion ISK, or 4.327 billion GBP
(as cited in Gíslason, 2014 [using current exchange rates]). It is clear that regardless of
the final cost, investment into the project will be large, especially for a small economy
67
like in the case of Iceland. It would amount to a large portion of the country’s GDP,
possibly about 30 percent (Sigurðsson, 2014). The United Kingdom, on the other hand,
is one of the largest European economies in terms of GDP (World Bank, 2015).
Therefore, it would likely find the investment’s risks more manageable.
Methodology
Numerous relevant cases were studied to provide some insight into the problem
at hand. The methodology used in this article is the case study method. Compared to
other research methods, a case study enables the researcher to examine the issues
involved in greater depth. According to Yin (2009) six sources of evidence are most
commonly used in case studies. These are: documentation, archival records, interviews,
direct observations, participant-observation, and physical artefacts. Each of these
sources has advantages and disadvantages, and, according to Yin, one should “…note
that no single source has a complete advantage over all the others. In fact, the various
sources are highly complementary, and a good case study will therefore want to rely
on as many sources as possible” (2014). Information from international institutions,
government institutions and companies as well as academic journals played a key role
in this article. Furthermore, leading experts in the field at Harvard Business School,
John F. Kennedy School of Government, Fletcher School of Law and Diplomacy and
the University of Iceland were consulted. They provided valuable comments and ideas.
Political Risk Mitigation
Political risks can be defined as “Risks usually comprising currency
inconvertibility, expropriation, war and insurrection, terrorism, non-government
activists, and legal and administrative approvals” (Delmon, 2009, p. 598).
Furthermore, Salacuse states that ”(a) sudden, unexpected change in the rules (i.e. laws
and regulations) is a principal form of political risk, perhaps its very essence “ (2010,
p. 450). Risk associated with changes in policy, regulation and law is especially
important for the interconnector given the probable importance of Contracts for
Difference (CfD). These contracts are supposed to make investment into renewable
energy more attractive by partly guaranteeing revenue. In practice this has been done in
the UK by paying a variable top-up payment that amounts to the difference between
the market price on a yearly basis and a fixed strike price (Department of Energy and
Climate Change, 2013). The whole project could likely rely on such a scheme.
Landsvirkjun has shown interest in studying those contracts further (Landsvirkjun,
2013). Although it is not the only supplier of electricity in Iceland Landsvirkjun, a state
owned enterprise, is by far the largest (Orkustofnun, n.d.). Consequently, any decisions
on this project in Iceland are likely to be influenced by Landsvirkjun in some way, not
only because of its importance as an electricity supplier, but also due to its expertise
and research in recent years.
Many other interconnectors rely on other methods to acquire revenue, sometimes
without a long term revenue guarantee. One example is the NorNed interconnector
between Norway and the Netherlands which relies on price variation between energy
markets to secure a profit, rather than long term contracts. Interconnectors of this type
are called merchant interconnectors (Parail, 2009). The scale of the project is huge for
Iceland, as noted before, and it is crucial that the ownership and planning of the project
minimise risk for the Icelandic nation and maintain Iceland’s sovereign power over its
68
clean energy sources. A possible scenario to mitigate risk can be seen in Figure 1.
Figure 1. Possible Interconnector Scenario
In this scenario the interconnector is operated, owned and financed by a project
company, which would most likely be some sort of a public private partnership. It
would not be owned by Landsvirkjun or the government of Iceland. A public private
partnership can be defined as an “…arrangement between public and private entities
for the delivery of infrastructure services and are seen as a way of raising additional
funds for infrastructure investments but more importantly as a means to extend or
leverage better budget funding through efficiency gains” (Delmon, 2009, p. 7). The
PPP would serve as a project company for the interconnector and be guaranteed by the
UK government which might also provide guarantees for the necessary infrastructure
investments in Iceland.
In regard to the construction of new hydro and geothermal power stations in
Iceland, needed to increase supply of electricity, a BOT (build-operate-transfer),
financed by private investors, might be feasible. A BOT is a form of investment where
“…the project is transferred back to the party granting the concession (in this case the
Icelandic government or its SOEs)” (Delmon, 2009, p. 552). The BOT project would
pay a fee to the Icelandic government for the use of resources during the investment’s
lifetime. The project company would arrange a take-or-pay contract with energy
suppliers in Iceland.
According to Holland and Ashley (2013, p. 205) “…take-or-pay clauses require
a purchaser to pay for a minimum quantity of goods or services (i.e. electricity),
whether or not those goods or services are taken”. The project company would thus
assume the demand risk. A guaranteed minimum amount of electricity would in turn be
transferred via the interconnector to consumers in the UK at an agreed price. This
revenue guarantee could be provided with a CfD or other means. In addition, the
project company would pay a fee to Landsnet, Iceland’s national grid. These fees need
to cover the cost of investment and acceptable returns. Under the current law, it seems
unlikely that the necessary upgrade of Iceland’s national grid could be financed with
foreign investment (Raforkulög, 2003). However, foreign investors could take part in
the upgrade of current power stations.
Two international institutions in particular seem likely take part in infrastructure
financing of this sort. The European Investment Bank has a wide range of financial
instruments to offer and might provide loans and guarantees to support this project.
The bank puts a special emphasis on infrastructure and climate friendly projects and
has already lent close to 780 million EUR in Iceland, most of which went to renewable
energy projects recently (European Investment Bank, n.d.a; n.d.b). EIB also provides
guarantees which can in turn lower the cost of financing projects (European Investment
69
Bank, n.d.c). Another institution, of which Iceland is a founding member and part-
owner, the Nordic Investment Bank might also play some role in this regard (Nordic
Investment Bank, n.d.). National export credit agencies could provide guarantees for
trade finance related to the project (Dinh and Hilmarsson, 2014; Goncharuk, 2015).
The scenario in figure 1 could allow the private sector to take part in the project
and thus shift risks from the Icelandic government, its SOEs and the Icelandic nation to
the UK government and the consumers in the UK. Efficient allocation of risks is key to
the success of the project and the UK government is in the best position to prevent risk
events, such as energy policy changes in the UK that could negatively affect the
feasibility of the interconnector, from occurring. Therefore it should be willing to
assume most of the risks involved. This might seem far-fetched but renewable energy
projects seem to have a momentum and strong political backing in the UK. This can be
seen in a recent case, where the UK government partly insured a large nuclear energy
project (EDF Energy, 2015). Whether or not they would be willing to do the same for
foreign investment remains unclear. It must be noted that the abovementioned scenario
is only one of numerous possibilities. The project is still in the feasibility stage so
many factors remain unclear. However, it is certain that Iceland’s comparative
advantage lies in its resources – not economic power and ability to take on risks or
provide funding.
The State of Play
Political and commercial relations between the two countries, Iceland and the
UK, have normally been good. However, there have been some major exceptions.
Perhaps the most prominent ones are the Icesave dispute and the Cod Wars. The more
recent one revolved around Icesave during and following the 2008 crisis. One of the
measures undertaken by the UK was activating the Anti-terrorism, Crime and Security
Act of 2001 (Méndez-Pinedo, 2011) against Iceland. During the dispute Iceland was
largely isolated and without friends. Major central banks such as the European Central
Bank, the Bank of England and the Federal Reserve refused to assist. The limited
support provided by Nordic Central Banks proved inadequate. This shows that Iceland
cannot rely on “friendly” nations during times of crisis and political disputes with a
larger nation such as the UK (Hilmarsson, 2015). The former conflict, known as the
Cod Wars, occurred between 1952 and 1976 when Iceland expanded its fishery
territories. This led to the intervention of the British Royal Navy (Hellmann and
Herborth, 2008) and an unprecedented act given that both nations are NATO member
states.
Disputes in the energy sector in Europe have occurred in recent years due to
shifts in government policies, for instance in Spain and Germany. These cases show
that energy policies can change fast and have a detrimental effect on the feasibility of
investments in the energy sector. Spain used a support system of feed-in tariffs and
other subsidies to promote renewable energy generation. The first steps were taken
around 1980 and subsequent steps led to a highly subsidised renewable energy sector
(Gonzáles, 2008). What followed was a huge increase in renewable energy generation
(Bridle and Beaton, 2012). Consequently, the cost of the system increased and
eventually the Spanish government introduced policy changes to counter the problem.
This included cutting subsidies and increasing taxation on renewable energy suppliers,
thereby removing one of the main incentives that attracted investors to the sector in
70
Spain. Consequently, a large number of investor claims versus the Spanish government
were filed for arbitration. Many of these claims used provisions provided by the
Energy Charter Treaty which will be discussed later in the article (Baltag, 2015; White,
2013; Rucinski and Rodríguez, 2013).
A similar scenario occurred in Germany following the 2011 Fukushima nuclear
disaster. A shift in policy by the German government resulted in the phase out of
nuclear energy, earlier than had been announced before, and included the immediate
shut down of some old reactors. Vattenfall, owned by the Swedish government, owned
two of these reactors and filed for arbitration before the International Centre for
Settlement of Investment Disputes (ICSID) because of the losses associated. The
arbitration is listed under the Energy Charter Treaty, but further details are mostly
confidential (Vattenfall AB and others v. Federal Republic of Germany (ICSID Case
No. ARB/12/12)) (Bernasconi-Osterwalder and Brauch, 2014) (ICSID, n.d.a). This case
is known as ‘Vattenfall v Germany II’ because an earlier case, now known as
‘Vattenfall v Germany I’ had already been settled with the ICSID. That case, much like
the latter, came to because of a policy change. However, the origin of the dispute lay in
conditions set forth by the EU rather than the German government (ICSID, n.d.b;
Bernasconi, 2009; Vattenfall AB and others v. Federal Republic of Germany (ICSID
Case No. ARB/09/6)).
These cases are relevant to the proposed interconnector in many ways. They
show how political risks, in these cases policy changes or even expropriation, can
change the environment which investors entered into and negatively affect the
feasibility of the project. Something similar might very well occur during a long term
project such as the Iceland-UK interconnector. They also show what possibilities are
available for arbitration, although the outcome is somewhat unclear as many cases are
still pending and arbitration awards in concluded cases are often confidential.
Dispute Settlement
If disputes do occur, numerous different options are available for arbitration
between a PPP/investor and a state. The Energy Charter Treaty, which has been
mentioned before, could possibly be a player in that regard, due to the fact that both
Iceland and the UK have signed the treaty. Although the genesis of the charter lies in
cooperation between Eastern and Western Europe it spans a much wider range today.
Hobér states that the ECT is “…the only binding multilateral instrument dealing
with inter-governmental cooperation in the energy sector, and contains far-reaching
undertakings for the contracting parties. The ECT includes provisions regarding
investment protection, provision on trade, transit of energy, energy efficiency and
environmental protection and dispute resolution.” (2010, p. 155). Therefore it seems
clear that in the case of disputes, the ECT could prove beneficial. This is emphasised
further by the fact that there is currently no bilateral investment treaty between Iceland
and the UK (Kluwer Law International, 2016). Surely, many of the factors mentioned
above, in addition to financing, ownership and general operation of the interconnector,
will be addressed in a bilateral contract made especially for the project. The contract
could be made between the energy suppliers and a PPP or other contracting parties
including the two states involved. It might also state where and how disputes should be
settled. If provisions from the ECT are used, a few forms of international arbitration
are available (Hobér, 2010).
71
Perhaps the most prominent one, the International Centre for Settlement of
Investment Disputes (one of the five institutions of the World Bank), has already
shown its merit in the cases above. Iceland and the UK are both members (ICSID,
n.d.d). It uses a number of instruments for arbitration in disputes between member
states and nationals of other member states, i.e. investors. It does however, not make
procedural rulings. The ICSID website states that “Independent conciliation
commissions and arbitral tribunals constituted in each case are vested with the power
to rule on procedural issues and resolve the parties’ dispute (ICSID, n.d.e). ICSID
keeps a regularly updated list of cases on their website. A large number of cases are
listed with the ECT as an invoked instrument, many of which are between two
developed parties from Western Europe (ICSID, n.d.c). In addition to ICSID, the ECT
can use UNCITRAL and the Arbitration Institute of the Stockholm Chamber of
Commerce to settle disputes (Hobér, 2010). The New York Arbitration Convention
could also prove useful as Iceland and the UK are both members (The New York
Arbitration Convention, n.d.). Further research is needed to analyse other options
available.
Conclusion and Further Research
Given the state of the energy sector in Europe, in addition to historical relations
between Iceland and the United Kingdom, it certainly seems important to study
political risks that may affect the feasibility of the proposed interconnector. Ownership
and financing of the interconnector along with related infrastructure may become
predominant risk factors. Contracts for difference, possibly offered by the UK
government, might help improve the project’s feasibility in addition to mitigating some
risk. These contracts might also increase the project’s vulnerability in the case of
regulatory changes in the UK. The terms of the project have yet to be determined as it
is still in the feasibility stage. A bilateral contract could consider many of the
associated political risks. If disputes occur, a few well recognised organisations offer
international arbitration between PPPs and states, notably the Energy Charter and
ICSID. However, there are numerous other institutions that also offer arbitration,
though they have not been as prominent in recent cases.
This brief analysis has covered some of the ways available to mitigate political
risks related to the proposed interconnector between Iceland and the UK. There are, of
course, many other risk factors associated with the project, including environmental
and technical risks. In addition, legal issues are not covered in detail. These factors are
all subjects that need to be researched further and in greater detail.
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74
ICELAND-UK INTERCONNECTOR:
A BRIEF ANALYSIS OF POLITICAL RISK
MITIGATION AND POSSIBLE DISPUTE SETTLEMENT
Andri Dan Traustason
Hilmar Þór Hilmarsson University of Akureyri, Iceland
Abstract
The proposed interconnector between Iceland and the United Kingdom carries
numerous and different types of risks for Iceland. This article focuses on political risk.
Ownership of the interconnector and related infrastructure needs to be settled in a way
that minimizes political risk for the Icelandic nation without sacrificing national
sovereignty over its clean energy sources. A public-private partnership could use
various methods to mitigate risk. International institutions, such as the Energy Charter
Organization and the International Centre for Settlement of Investment Disputes (part
of the World Bank Group) could provide a basis for international arbitration in the
event of dispute. Other solutions, such as bilateral legal agreements and contracts for
difference, are also assessed with regard to the interconnector in addition to some
financing options.
Keywords: political risk, risk mitigation, cross-border investments, cross-border
financing, international business
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350 Andri Dan Traustason, Hilmar Þór Hilmarsson
ICELAND – UK INTERCONNECTOR:
IS PROPER POLITICAL RISK MITIGATION POSSIBLE?
Andri Dan Traustason, University of Akureyri, School of Business and Science
Faculty of Business Administration, Akureyri, Iceland, [email protected]
Hilmar Þór Hilmarsson, University of Akureyri, School of Business and Science | Faculty of
Business Administration, Akureyri, Iceland, [email protected]
Abstract The proposed interconnector between Iceland and the United Kingdom carries numerous different
types of risk for Iceland. Ownership of the interconnector and the infrastructure related to it needs to be
settled in a way that minimizes political risk for the Icelandic nation without sacrificing national
sovereignty over its renewable energy sources. A public-private partnership project could use various
methods to mitigate risk, many of which are related to ownership and financing. Guarantees and loans
provided by IFIs, such as the European Investment Bank and the Nordic Investment Bank, might play a
key role in the mobilisation of capital. Export credit agencies might also support trade finance. Other
solutions, such as a bilateral legal agreement and contracts for difference, will also be assessed with
regard to the interconnector. In the event of disputes occurring, the Energy Charter Organization and
ICSID, of the World Bank, might be key players among other institutions. This would require serious
arbitration provisions in those agreements and awards would be subject to the New York Convention.
Keywords: Political risk, risk mitigation, cross-border investments, international business, dispute
settlement.
JEL Code: P48, F50, G28, G32, F23.
Introduction
The proposed interconnector is by no means a new idea (Thoroddsen, 1954; Gíslason,
1955). It has been contemplated for decades but due to various issues, including technical and
financial concerns, it has not been seriously considered until in recent years. Landsvirkjun,
Iceland’s National Power Company, has compiled a list of reports, news and other literature
related to the proposed interconnector on their website (Landsvirkjun, n.d.a; Landsvirkjun,
n.d.b). A literature review, carried out by the authors, included this list among other relevant
literature. According to this review, the vast majority of articles on the subject cover the
economic and financial aspects of the interconnector as well as environmental and technical
factors. Current research on the subject therefore apparently fails to address political risks
properly, even though serious incidents have occurred in the history of the two nations. Political
and commercial relations between Iceland and the UK are normally good, as is usually the case
between two western nations, but there have certainly been some major exceptions. Serious
disputes have erupted in the past, for instance the Cod Wars, when Iceland expanded its fishery
territory, (Hellmann & Herborth, 2008) and more recently, the Icesave dispute when the UK
activated the Anti-terrorism, Crime and Security Act of 2001 against Iceland (Méndez-Pinedo,
2011). During the Icesave dispute, Iceland was largely isolated and without friends. Major
central banks such as the European Central Bank, the Bank of England and the Federal Reserve
refused to assist. The limited support provided by Nordic Central Banks proved inadequate.
This shows that Iceland cannot rely on allies during times of crisis and political disputes with a
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Andri Dan Traustason, Hilmar Þór Hilmarsson 351
larger nation such as the UK (Hilmarsson, 2015; Goncharuk, 2016). Both disputes had serious
economic and political consequences for Iceland.
Furthermore, numerous disputes have arisen due to shifts in government policies within
the energy sector in Europe in recent years, some of which had serious consequences for the
parties involved. It is therefore clearly important to assess the political risks involved and
contemplate possible solutions. Because of the large scale and long operating lifetime of the
interconnector, incidents such as those mentioned above cannot be overlooked, and studies that
do not take political risk properly into account are insufficient to make a final decision about the
feasibility of Iceland’s participation in this project.
An electricity interconnector, such as the one in question here can be defined as “… a
cable […] connecting two separate market or pricing areas” (Turvey, 2006, p. 1457). This kind
of energy projects tend to be very large and with long repayment periods. As a result, they face
political risks that may adversely affect their viability (Bankes, 2012). The investment needed
for this particular project can be roughly divided into three different phases. Those phases differ
considerably in terms of required funding and scale but all must be taken care of to get the
1000km long 800-1200MWh DC interconnector operational (Landsvirkjun, n.d.a). The phases
are as follows:
Investment needed to upgrade and increase the supply of electricity in
Iceland, including the construction of geothermal and hydro-electric plants.
Investment related to the strengthening of the national grid and the construction
of launching and landing stations.
Investment to construct the interconnector.
The total amount of investment needed for the interconnector is not certain but for the last
few years, numerous different parties have come up with estimates. For instance, The Institute
of Economic Studies at the University of Iceland stated that the total investment needed ranged
from 288 to 553 billion ISK (Hagfræðistofnun Háskóla Íslands, 2013). Bloomberg New Energy
Finance suggested a considerably higher estimate of up to 813 billion ISK or 4.327 bnGBP (as
cited in Gíslason, 2014 [using current exchange rates]). It seems likely that the total investment
will be in excess of 4 bnGBP, of which a significant portion will be allocated to grid
connections and upgrades, power plants and related infrastructure. Björgvin Skúli Sigurðsson
(2014, p. 26), executive vice president for the Marketing and Business Development division at
Landsvirkjun, notes that although the investment is huge compared to the Icelandic economy
(the average estimate of 553 bnISK is roughly 30% of gross domestic product) this certainly is
not the case for the UK, a much larger player in the global economy.
The main subject of this article is to analyse the important role of political risks in this
particular energy project and consequently look at available risk mitigation instruments and
venues for dispute settlement. Moreover, the article will seek ways to answer the following
research questions: Is proper risk mitigation possible for the Iceland – UK electricity
interconnector? What would be possible venues for dispute settlement? While this article
focuses on political risks, numerous other types of risks are apparent, such as technical,
financial, economic and environmental, which is not the subject of this article.
In an attempt to answer these research questions, information was collected from many
different sources including – but not limited to – international financial institutions (IFIs),
government institutions and state-owned-enterprises (SOEs). In addition, leading experts within
the field at Harvard Business School, John F. Kennedy School of Government, Fletcher School
of Law and Diplomacy, Landsvirkjun and University of Iceland were consulted.
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352 Andri Dan Traustason, Hilmar Þór Hilmarsson
Numerous relevant cases for clean energy investments were studied to provide some
insight into the problem at hand. The methodology used is the case study method. Compared to
other research methods, a case study enables the researcher to examine the issues involved in
greater depth. According to Yin (2014), six sources of evidence are most commonly used in
case studies. These are documentation, archival records, interviews, direct observations,
participant-observation and physical artefacts. Each of these sources has advantages and
disadvantages and according to Yin (2014, p. 105), one should “…note that no single source
has a complete advantage over all the others. In fact, the various sources are highly
complementary, and a good case study will therefore want to rely on as many sources as
possible”.
Possible solutions
A wide variety of factors affect the risk profile of this project. Ownership and financing
of the interconnector and related infrastructure play a key role in that regard. This needs to be
settled in such a way as to minimize political risks without compromising an acceptable return
for the investment. Besides solutions related to ownership and financing, preliminary results
suggest a few possible options available for the Iceland – UK interconnector which also include
ways to settle disputes, should they occur:
A well-established power purchase agreement and/or Contracts for Difference,
possibly offered by the UK government, could mitigate some risks.
Other risk mitigation solutions could include serious arbitration provisions in
the agreement that both parties find appropriate. This could be included in a bilateral
investment treaty between Iceland and the United Kingdom. Currently, there is no
bilateral investment treaty between the countries (Kluwer Law International, 2016)
Dispute settlement under the Energy Charter Treaty, which Iceland and the
United Kingdom have both ratified (Energy Charter, n.d.a). Dispute settlement via the
International Centre for Settlements of Investment Disputes (ICSID) of the World Bank,
of which Iceland and the United Kingdom are both members (International Centre for
Settlement of Investment Disputes, n.d.a). Other forums of international arbitration
might also be beneficial. Awards would be subject to the New York Convention.
Other options that deal with financing, as well as risk mitigation, might include
export credit agencies and investment banks, such as the European Investment Bank
and the Nordic Investment Bank. By providing loans and guarantees, they might assist
in the financing of the project and lower risk premiums.
Ownership and financing of the proposed interconnector, as well as related infrastructure,
has yet to be determined. After these factors are settled and the terms of the project are agreed, it
is crucial that all commitments and agreements will be honoured by both parties throughout the
contract period. Any large and unexpected changes in the policy, including laws or regulations
of the participating countries, might be detrimental. Such changes are a principle form of
political risk according to Salacuse (2010) and may even be the essence of it. In more general
terms, political risk can be defined as “…the probability of disruptions in company operations
by political forces and events” (The World Bank Group [International Finance Corporation &
Multilateral Investment Guarantee Agency], 2012).
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Andri Dan Traustason, Hilmar Þór Hilmarsson 353
Ownership & Financing
As stated before, ownership can have a significant impact on the project’s political risk
profile. Due to the enormous scale of the project, it seems clear that the Icelandic government
and its institutions or SOEs have neither the capabilities nor the will to invest in the project
directly and consequently take on the risks that follow. In light of these circumstances the
authors believe that a likely outcome is that the project will be a public-private partnership of
some kind. A public-private partnership can be defined as an "…arrangement between public
and private entities for the delivery of infrastructure services and are seen as a way of raising
additional funds for infrastructure investments but more importantly as a means to extend or
leverage better budget funding through efficiency gains (Delmon, 2009, p. 7). In fact, numerous
private investors – mainly, Atlantic Superconnection Corporation, Powerbridge LLC and
Starwood Energy Group – have been named as companies showing interest in taking some part
in the project (Eysteinsson, 2015). A possible ownership scenario, incorporating the private
sector, can be seen in figure 1, below.
Figure 1. A possible ownership scenario, incorporating the private sector
Source: Authors’ construction
According to this scenario (figure 1), the interconnector would be operated, owned and
financed by a project company which would be some sort of a public-private partnership
without the direct involvement of the Icelandic government or its SOEs. The PPP would serve
as a project company for the interconnector and have a state-guarantee from the UK government
that could be critical for its capital mobilization efforts. Investment-guarantees for necessary
infrastructure in Iceland might also be provided by the UK government, as was done in a recent
project in the UK45
. These infrastructure investments could include the construction of new
hydro and geothermal power stations in Iceland in addition to the upgrade of current utilities. In
order to enable private investors to take part in these investments, a Build-Operate-Transfer
(BOT)46
arrangement might be feasible. To be able to secure a steady supply of electricity to the
UK, the project company would arrange take-or-pay47
contracts with renewable energy
45
The UK government recently provided a 2 billion GBP guarantee for a large nuclear energy project
(EDF Energy, 2015). 46
A BOT is a form of investment where "…the project is transferred back to the party granting the
concession [in this case the Icelandic government or its SOEs]” (Delmon, 2009, p. 552). 47
According to Holland and Ashley “…take-or-pay clauses require a purchaser to pay for a minimum
quantity of goods or services [i.e. electricity], whether or not those goods or services are taken.” (2013, p.
205).
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354 Andri Dan Traustason, Hilmar Þór Hilmarsson
suppliers in Iceland and therefore assume the demand risk. These take-or-pay arrangements
would have a UK government guarantee.
A guaranteed minimum amount of electricity would, in turn, be transferred via the
interconnector to consumers in the UK at an agreed minimum price. This revenue guarantee
could be provided with a power purchase agreement, Contracts for Difference or perhaps some
other means. In addition, the project company would pay a fee to Landsnet, Iceland’s national
grid. These fees need to cover the cost of investment with acceptable returns and be guaranteed
by the UK government. Under the current law, it seems unlikely that the necessary upgrade of
Iceland’s national grid could be financed with foreign investment (Raforkulög nr. 65 , 27. mars
2003). The scenario in figure 1 could enable the private sector to take part in the project and
thus shift risks from the Icelandic government, its SOEs and the Icelandic nation to the UK
government and the consumers in the UK. Efficient allocation of risks is key to the success of
the project and the UK government is in the best position to prevent such political risk events
from occurring. Those events could include energy policy changes in the UK that might
negatively affect the feasibility of the interconnector. Therefore, it should be willing to assume
most of the political risks involved.
Power purchase agreements (PPAs) are frequently used when participating parties face
considerable uncertainty. In some cases, it is unclear whether supply will meet demand or if the
spot prices are high enough to secure the necessary minimum revenue. These are some of the
main reasons for the use of PPAs in energy projects according to the Public Private Partnership
in Infrastructure Resource Center (n.d.). One might assume this to be the case with regard to the
proposed interconnector. As a very large and expensive long term project, it might be very
sensitive to price changes whether they stem from increased competition or other risk factors.
In addition to PPAs, it is worth mentioning that the United Kingdom's Department of
Energy and Climate Change offers Contracts for Difference (CfDs) as part of the Electricity
Market Reform programme which is meant to make investments in renewable energy more
attractive. The CfDs are at the core of the programme and ensure that the generation of energy
from renewable resources is economically feasible by paying the variable difference between
the market price and a fixed price, i.e. the strike price. Consequently, investor uncertainty is
lowered and financing ‘green’ projects becomes cheaper (Department of Energy and Climate
Change, 2013).These contracts were introduced as part of the Energy Act in 2013 which is “An
Act to make provision for the setting of a decarbonisation target range and duties in relation to
it”(Energy Act 2013, p. 1).
The importance of CfDs for the project seems to be considerable. Landsvirkjun has
shown interest in studying these contracts further (Landsvirkjun, 2013). Although it is not the
only supplier of electricity in Iceland, Landsvirkjun – an SOE – is by far the largest
(Orkustofnun, n.d.). Consequently, any decisions on this project in Iceland are likely to be
influenced by Landsvirkjun in some way, not only because of its importance as an electricity
supplier, but also due to its expertise and research within the renewable energy sector.
Furthermore, other potential investors, such as the Atlantic Superconnection Corporation, have
stated that CfDs play a key role in the project’s revenue stream (Atlantic Superconnection
Corporation, 2014).
One might argue that it is essential for the feasibility of the interconnector to secure such
a contract and the revenue guarantees that follow. While that may be true, they might also
increase the effect of political risks on the project. The consequences of government action,
such as policy changes, could seriously undermine the feasibility of the interconnector. The
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Andri Dan Traustason, Hilmar Þór Hilmarsson 355
likelihood of these events occurring might be high. In fact, the UK government recently made
changes to its renewables subsidies in order to cut costs (Department of Energy & Climate
Change and The Rt Hon Amer Rudd MP, 2015). It is essential that any contracts about the
project include provisions that cover this possibility. Despite this, CfDs remain a possibility and
might play an integral role in the first stages of negotiation about the project.
Securing a revenue stream is not the only aspect of getting the project operational. It must
be financed as well. How this will be done is unclear but preliminary results suggest a few
possible options in addition to equity funding and loans from private investment banks. Some
IFIs, such as the European Investment Bank (EIB) and the Nordic Investment Bank (NIB)
provide financing as well as risk mitigation instruments, i.e. guarantees. The EIB, which is
entirely owned by member states of the European Union, mainly provides loans but may also
provide guarantees. According to Matsukawa & Habeck (2007, p. 45), the EIB provides the
following instruments: “Inside EU: EIF loan guarantees, microcredit guarantees, equity
guarantees, and loan guarantee. Outside EU: political risk carve-out on guarantees to EIB
[…]; credit enhancement guarantees by EIB to assist local borrowers to raise funds; portfolio
credit risk sharing with local banks”. These instruments are available to large as well as small
projects for private and public beneficiaries. Guarantees such as those mentioned can be
beneficial for projects in addition to possible loans from the EIB. The benefits mainly stem from
lower capital charges and greater value added (European Investment Bank, n.d.a.). Whether or
not these solutions from the EIB would be available for the interconnector remains to be seen.
Furthermore, it is unclear if the parties involved would choose to approach the EIB at all.
However, it is clear that the EIB has already financed numerous projects in Iceland for around
EUR 780 million, most of which (EUR 650 million) were associated with renewable energy
production (European Investment Bank, n.d.). The EIB has attached high priority to clean
energy projects in recent years.
Another IFI worth noting is the Nordic Investment Bank. Just as the EIB, it offers long-
term loans and guarantees that can support capital mobilization. Its main area of operation is the
Nordic and Baltic region. The NIB attaches special emphasis on the development of clean
energy projects and environmentally friendly solutions in general (Nordic Investment Bank,
2015). One might assume that the export of energy from renewable resources fits the emphasis
well.
In addition to this, national export credit agencies could also take part in the project and
provide guarantees for related trade finance (Dinh & Hilmarsson, 2014). A recent example of
this occurred when Japan Bank for International Cooperation took part in the financing of a
renewable energy project in Iceland in cooperation with other financial institutions
(Landsvirkjun, 2015).
Dispute Settlement
Where and how disputes can be settled is likely to be included in the agreements related
to the project. This might be a bilateral investment treaty between Iceland and the UK, which –
as noted before – is non-existent at the moment, or a contract made on an ad hoc basis for the
interconnector project. Numerous forums of international arbitration are available but
preliminary results suggest a few in particular. The Energy Charter Treaty is important in that
regard because the dispute settlement venue depends, to a degree, on provisions in the treaty.
Iceland and the UK have both ratified the treaty so it will likely affect the project in some ways.
The roots of the Energy Charter Treaty lie in the problem that many countries faced at
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356 Andri Dan Traustason, Hilmar Þór Hilmarsson
the turn of the last century when they themselves lacked energy resources but other, more
politically unstable, countries had an abundance of resources but needed foreign investment.
Consequently, steps were taken to amend this problem and in 1998, the ECT came into power.
The treaty mainly aims to minimize non-commercial risks and promote investment within the
energy sector (Hobér, 2010; Energy Charter , n.d.b). According to Hobér (2010, p. 155), the
ECT is "…the only binding multilateral instrument dealing with inter-governmental cooperation
in the energy sector, and contains far-reaching undertakings for the contracting parties. The
ECT includes provisions regarding investment protection, provisions on trade, transit of energy,
energy efficiency and environmental protection and dispute resolution”. It seems clear that these
provisions could be very beneficial in reducing political risk for the interconnector project.
Dispute settlement under the ECT has taken place numerous times and the frequency is
rising along with increased renown of the treaty and, in turn, more awareness by investors. The
Energy Charter Website mentions three ways for investors to bring a dispute to arbitration under
the treaty.
“the International Centre for the Settlement of Investment Disputes
(ICSID - an autonomous international institution with close links to
the World Bank); a sole arbitrator or an ad hoc arbitration tribunal
established under the rules of the United Nations Commission on
International Trade Law (UNCITRAL); or an application to the
Arbitration Institute of the Stockholm Chamber of Commerce.”
(Energy Charter, n.d.c).
According to these options, dispute settlement under the treaty can work in close relation
with ICSID, among other institutions. Hobér (2010) names numerous cases which have been
settled by ICSID under the Energy Charter Treaty. Arbitral awards set under the treaty are
binding and final so each contracting party has to act accordingly (Energy Charter, n.d.c).
As noted above, both Iceland and the United Kingdom are members of ICSID and as such
have access to arbitration and conciliation services. It uses a number of instruments for
arbitration in disputes between member states and nationals of other member states, i.e.
investors. The ICSID Convention is one of those instruments and has very wide state support
with 159 signatory states and 151 contracting states (International Centre for Settlement of
Investment Disputes, 2015). The Convention works as a neutral and independent system that
allows ICSID member states and their nationals to settle investment disputes in a fair manner
using a basic arbitration and conciliation framework provided by the Convention. The ICSID
website states that “Independent conciliation commissions and arbitral tribunals constituted in
each case are vested with the power to rule on procedural issues and resolve the parties’
dispute” (International Centre for Settlement of Investment Disputes, n.d.e). If the parties
involved agree to the ICSID proceedings under the Convention they accept the arbitration as an
exclusive, final and binding solution (International Centre for Settlement of Investment
Disputes, n.d.b.).
The other arbitration venues mentioned – the Arbitration Institute of the Stockholm
Chamber of Commerce and a tribunal set under the United Nations Commission on
International Trade Law (UNCITRAL) – are also valid options, although they are not used as
commonly as ICSID in ECT cases (Energy Charter, n.d.). UNCITRAL is the “…core legal body
of the United Nations system in the field of international trade law” (UNCITRAL, n.d.a). It
Project Management Development – Practice and Perspectives Fifth International Scientific Conference on Project Management in the Baltic Countries
April 14-15, 2016, Riga, University of Latvia
Andri Dan Traustason, Hilmar Þór Hilmarsson 357
provides arbitration rules which cover state-state as well as investor-state disputes (UNCITRAL,
n.d.b). The Arbitration Institute of the Stockholm Chamber of Commerce also offers
international arbitration services which the contracting parties of the project might agree to
(Arbitration Institute of the Stockholm Chamber of Commerce, n.d.a; n.d.b). In addition, The
Convention on the Recognition and Enforcement of Foreign Arbitral Awards, somewhat better
known as The New York Convention could be useful by enforcing arbitral awards after disputes
are settled, as both Iceland and the UK have ratified the Convention (New York Arbitration
Convention, n.d.a; United Nations, 1958). Examples of how some of these arbitration options
can be used can be seen in recent cases.
Recent experiences
Most cases related to political risk mitigation and dispute settlement are between
developing and developed countries. Because of that, cases between two developed, high-
income countries, are not abundant. However, the number of disputes within the energy sector
in Europe, Spain in particular, has increased significantly in recent years. Many of these
disputes occurred due to changes in subsidies that were meant to promote investment in
renewable energy. Nathanson (2012) notes that such policy changes are one of the primary
barriers of renewable energy investment.
Spain used a system of subsidies, mainly feed-in tariffs, to promote the solidification of
renewable energy within the country. By implementing a series of subsidies, Spain continuously
strengthened this system. For instance, renewable energy suppliers were offered a choice of
either a fixed total price (fixed feed-in) or a fixed premium in addition to the market price, much
like the CfDs mentioned before (Gonzáles, 2008). The system was meant to limit investor risk
as well as financing costs by providing security and revenue guarantees (Río & Gual, 2007).
This resulted in a significant increase in renewable energy generation. Most importantly, solar
photovoltaic generation expanded from 18GWh in 2000 to c.a. 6.4 TWh in 2010 (Bridle &
Beaton, 2012). Consequently, the feed-in tariffs became a huge burden on the Spanish state and
the situation was made even worse by unfavourable market conditions (White, 2013). The
policy changes that followed were intended to close this deficit by reducing subsidies and
introducing additional limitations on renewable energy generators, therewith compromising the
rationale that had attracted investors to the sector. A large number of claims followed, many of
which were filed with ICSID under the ECT (Baltag, 2015; Rucinski & Rodríguez, 2013). The
Energy Charter Secretariat maintains a regularly updated list of cases where the ECT is an
invoked instrument and there are currently 27 listed in Spain (Energy Charter, n.d.). Many of
these cases have yet to be settled and will have to be analysed further at a later point in time.
Similar situations have occurred in other European countries. One recent case, in
particular, received substantial attention. It occurred in Germany following the 2011 Fukushima
nuclear disaster. A shift in policy by the German government resulted in the phase-out of
nuclear energy, earlier than had been announced before, and included the immediate shut-down
of some old reactors. Vattenfall, owned by the Swedish government, partly owned two of these
reactors and filed for arbitration before ICSID because of the losses associated. The arbitration
is listed under the Energy Charter Treaty but further details are mostly confidential (Vattenfall
AB and others v. Federal Republic of Germany (ICSID Case No. ARB/12/12)) (Bernasconi-
Osterwalder & Brauch, 2014; International Centre for Settlement of Investment Disputes, n.d.a;
Vattenfall AB, 2014; World Nuclear Association, 2015).
These cases from Spain and Germany are only examples of some of the recent disputes
Project Management Development – Practice and Perspectives Fifth International Scientific Conference on Project Management in the Baltic Countries
April 14-15, 2016, Riga, University of Latvia
358 Andri Dan Traustason, Hilmar Þór Hilmarsson
that have occurred within the energy sector in Europe. Of course, other cases may be relevant,
some of which may have occurred outside of Europe, but they will not be analysed in this
article. As the proposed interconnector is rather unique, with regards to size and other factors,
cases directly related to it are hard to come by. There are, however, other interconnectors which
may provide some comparison for the project.
One energy project that is often mentioned in the discussion about the Iceland – UK
interconnector, is the NorNed interconnector between Norway and the Netherlands.
Commissioned in 2008, the 580km long 700 MW merchant interconnector depends on price
variations between markets to secure a profit (Nooij, 2011; Parail, 2009). As such, its revenue
model is likely to differ from the Iceland-UK interconnector, which is – as stated before – likely
to rely on revenue guarantees. The NorNed project was a joint venture between the national
electricity grids in Norway and the Netherlands, Statnett and Tennet respectively. The project
was partly financed by the Nordic Investment Bank. It is therefore clear that although NIB
primarily engages in the Nordic and Baltic region it also participates in projects that have
connections outside this specific area of operations (Nordic Investment Bank, 2007). EIB also
took part in the financing of the NorNed project and financed 50%, even more than NIB. The
project matched the EUs emphasis on sustainable energy as well as the integration of energy
markets throughout Europe (European Commission, 2007). NorNed is likely to be financed and
operated differently from the proposed interconnector between Iceland and the UK. However, it
highlights some of the financing options available for the project at hand.
Conclusion and further research
It seems clear that the proposed interconnector between Iceland and the UK could have
access to a variety of risk mitigation instruments, financing options as well as forums for
international arbitration. However, it is rather unclear which of them are most feasible. This is,
to a large extent, due to the fact that many important decisions regarding the interconnector have
yet to be made. Regardless of these decisions, it certainly seems important to study political
risks and the effects they may have on the feasibility of the proposed interconnector. The state
of the energy sector in Europe, in addition to historical relations between Iceland and the United
Kingdom, shows that it would be ill-advised not to analyse the effect of political risk factors on
this project in detail.
Ownership and the financing of necessary infrastructure, as well as the interconnector
itself, may be one of the most important risk factors. There are many possible solutions that may
be suitable for the project. The article showcased one ownership scenario where risk is shifted to
the UK away from the Icelandic public and its government. A public-private partnership played
a key role in that scenario and it is likely that it would be the case in many scenarios that allow
the private sector to take part in the project, including financing. Regardless of ownership, the
project – including infrastructure upgrades – must be financed. The participation of the
European Investment Bank and the Nordic Investment Bank may be beneficial in that regard.
Both of them offer loans and guarantees that might be available and feasible if the project
company and other parties involved choose to approach them for participation.
A comprehensive power purchase agreement or Contracts for Difference, possibly
offered by the UK government, might partly guarantee revenue and mitigate certain risks. These
contracts might also increase the project’s vulnerability to regulatory changes in the UK. Recent
cases in Europe have shown that energy reforms and policy changes in general can have a
Project Management Development – Practice and Perspectives Fifth International Scientific Conference on Project Management in the Baltic Countries
April 14-15, 2016, Riga, University of Latvia
Andri Dan Traustason, Hilmar Þór Hilmarsson 359
significant impact on investment feasibility within the sector.
Due to the risk of policy changes occurring, it is imperative that any agreements about
the project address dispute settlement and where it may take place. If disputes occur, a few well-
recognised organisations offer international arbitration which might be available. Where
disputes are settled is, however, dependant on the parties involved. If the opinions put forth in
the article materialise, the dispute would likely be between a PPP company and a state. The
Energy Charter and ICSID are likely to play a key role in these cases. This is supported by
recent cases from Europe where the ECT was used in ICSID arbitration of investor-state
disputes. However, there are numerous other institutions that also offer arbitration, though they
have not been as prominent in recent cases. The subjects of this article are only a few of the
many factors that need to be analysed further. The article is largely based on preliminary results
as the project is still in the feasibility stage and many factors remain unclear.
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INTERNATIONAL FINANCE
AND
BANKING CONFERENCE
FI BA 2016 (XIV edition)
March 24-26, 2016, Bucharest, Romania
Organized by
FACULTY OF FINANCE AND BANKING from Bucharest University of Economic Studies
in collaboration with
SIF BANAT-CRISANA
Romanian Association of Finance and Banking – RoFIBA (Asociatia Romana de Finante - Banci –RoFIBA)
Center of Financial and Monetary Research (CEFIMO) (Centrul de Cercetări Financiar-Monetare CEFIMO)
www.fin.ase.ro/FIBA2016
FACULTY OF FINANCE,
AND BANKING
09.00 – 12.45 Session 3
Macroeconomic stability and banking Location: Department of Finance
Room 3209
Session Chair:
Professor Petre BREZEANU, Ph.D. – Faculty of Finance and Banking, Bucharest University of Economic Studies, Romania Lecturer Bogdan MURĂRAȘU, PhD. – Faculty of Finance and Banking, Bucharest University of Economic Studies, Romania
Secretary: Simona MAȘCU, PhD. – Bucharest University of Economic Studies, Romania
1. International spillovers of ECB’s unconventional
monetary policy: the effect on Central and
Eastern Europe
Discussant: Presenter of paper no. 2
Klara HALOVA, PhD. – CSOB, Prague, Czech Republic Associate Professor Roman HORVATH, PhD. – Charles University, Prague and IOS, Regensburg, Czech Republic
2. Output comovement between EU New Member
States and the Euro Zone
Discussant: Presenter of paper no. 1
Lecturer Bogdan MURĂRAȘU, PhD. – Faculty of Finance and Banking, Bucharest University of Economic Studies, Romania Alina BOBAȘU, PhD. – Bucharest University of Economic Studies, Romania
3. The Iceland-UK interconnector: political risk
mitigation and dispute settlement
Discussant: Presenter of paper no. 5
Andri Dan TRAUSTASON – B.Sc Student in Business Administration, Iceland Professor Hilmar Þór HILMARSSON, Ph.D. – School of Business and Science, University of Akureyri, Iceland
4. The role of fiscal policies in the relation between
public governance and economic performance at
the EU level
Discussant: Lecturer Georgiana CRETAN, Ph.D. – Faculty of Finance and Banking, Bucharest University of Economic Studies, Romania
Cristina VLAD, PhD. Student – Bucharest University of Economic Studies, Romania Birol IBADULA, PhD. Student – Bucharest University of Economic Studies, Romania Professor Petre BREZEANU, Ph.D. – Faculty of Finance and Banking, Bucharest University of Economic Studies, Romania
11.00 – 11.15 Coffee break Location: Department of Money and Banking
5. The impact of macroeconomic factors on non-
performing loans in Romania: a time series
analysis
Discussant: Presenter of paper no. 6
Simona MAȘCU, PhD. – Bucharest University of Economic Studies, Romania Marușa PESCU (BECA) , PhD. –“Ovidius” University of Constanta, Romania
6. The incidence of the liquidation of three
commercial banks in the economic and financial
activity of banking system in Moldova
Discussant: Presenter of paper no. 4
Irina FRUNZĂ, PhD. Student – Academy of Economic Studies of Moldova, Republic of Moldova
7. An essay regarding the real exchange rate: review
on definitions and influencers
Discussant: Simona MAȘCU, PhD. – Bucharest University of Economic Studies, Romania
Dana HAULICA, PhD. Student – Bucharest University of Economic Studies, Romania
12.45 – 15.00 Lunch
Location: Cafeteria located in the Moxa Complex Address: Mihail Moxa Street no. 5-7, District 1, Bucharest
Fr
ida
y, 2
5 M
arc
h 2
01
6
Project Management Development – Practice and Perspectives Fifth International Scientific Conference on Project Management in the Baltic
Countries
CONFERENCE PROGRAMME
ISSN 2256-0513
Project Management Development – Practice and Perspectives
April 14-15, 2016 Riga, University of Latvia
Professional Association of Project Managers
2
The aim of the conference is to discuss results of scientific research in project management issues, to establish new contacts and networking between professionals involved in project management as well as enhance the capacity of project managers. The conference programme includes opening plenary session, parallel sessions. All abstracts are reviewed by two reviewers and papers included in the conference proceedings are double blind reviewed. Conference language is English.
The work of the conference will be organised in the 4 parallel sessions: 1. Education, Social Aspects and Personnel in Project Management
Session chairs: Prof. Ruta Čiutiene,
Prof. Biruta Sloka
Prof. Inesa Vorončuka
2. New Directions in Project Management
Session chairs: Prof. Arvi Kuura,
Prof. (emer.) Dr. Žaneta Ilmete,
Prof. José Ramon Otegi Olaso
3. Quantitative Methods and Technologies in Project Management
Session chairs: Prof. Wolfgang Tysak,
Prof. Marco Sampietro, 4. Practical Project Management
Session chairs: Prof. Carsten Wolff,
Prof. (emer.) Dr.Rolf A. Lundin
3
Detailed Programme of the Conference
Thursday, April 14, 2016 17.30 – 20.00 Registration for the conference, Raiņa bulv. 19, lobby 18.00 – 20.00 Welcome Cocktail, Raiņa bulv. 19, hosted by Prof. Indriķis Muižnieks, Rector of University of Latvia
Friday, April 15, 2016 9.00 – 10.00 Registration for the conference Raiņa bulv. 19, lobby 10.00 – 12.00 Plenary Session, Raiņa bulv. 19, Lielā aula (Great Aula) Session chairs: Prof. Juris Krūmiņs (Latvia), Prof.Carsten Wolff (Germany)
Conference opening: Prof. Indriķis Muižnieks, Rector of University of Latvia Prof. (emer.) Žaneta Ilmete, President of Professional Association of Project Managers
Presentations
Prof. Gilbert Silvius (The Netherlands) Social Project Management?
Prof. (emer.) Rolf Lundin (Sweden) Projects and Rituals: Exploring Some Connections?
Andri Dan Traustason, Prof. Hilmar Þór Hilmarsson (Iceland) Iceland – UK
Interconnector: Is Proper Political Risk Mitigation Possible?
12.00 – 14.00 Lunch , Aspazijas bulv. 5 14.00 – 15.30 Parallel Sessions, Aspazijas bulv. 5 15.30 – 16.00 Coffee Break, Aspazijas bulv. 5 16.00 – 17.30 Parallel Sessions, Aspazijas bulv. 5 17.30 – 18.00 Conference conclusions and future prospects, Aspazijas bulv. 5, 322
Session chairs
19.00 – 22.00 Reception Hosted by Prof. (emer.) Žaneta Ilmete, President of Professional Association of Project Managers, Latvia
The Iceland-UK InterconnectorA way to Prosperity or Political Disaster?
Andri Dan Traustason & Professor Hilmar Þór Hilm
arssonSchool of Science & Business, Faculty of Business Adm
inistrationUniversity of Akureyri
Agenda
Scale of the project &
investment
Political risk factors
Possible solutions
Recent cases
Dispute settlem
ent
Conclusions
Scale of the projectN
umerous separate but related projects
The interconnector itself w
ill...... be over 1000km
in length.... have a transm
ission capacity of 800-1200MW
hDC
.
The upgrade of current pow
er stations in Iceland, in addition to the construction of new
ones.
Strengthening of the Icelandic national grid.
Landing and launching stations.
Investment needed
Has yet to be determ
ined.
Estim
ates cover a wide range (288 –
813 billion ISK
)
Likely in excess of £4 billion
Huge num
ber for Iceland but manageable for the U
K30-40%
vs. <1%
of GD
P
Political risk
Wide range of definitions that cover…
…expropriation
…w
ar & insurrection
…leg
al & ad
min
istrative app
rovals
…and m
ore
Salacuse
states that ”[a] sudden, unexpected change in the rules[i.e. law
s and
regu
lation
s] is a principal form of political
risk, perhaps its very essence “
Possible risk factorsC
ontracts for difference might play a key role
Partly guarantee long-term
revenue
Changes in policy, regulations and law
.
Could be necessary
Could be detrim
ental!
How
will the U
K change in half a century?
In or out of the EU
?W
ill the EU
exist at all?
Risk mitigation
Bilateral investm
ent treaties could be of use.
None of Iceland‘s 11 B
ITs are with the U
K
Ow
nership is crucial.
A public-private partnership m
ight be feasible
Financing of the project is closely related
European Investm
ent Bank
Nordic Investm
ent Bank
Operated, ow
ned and financed by a project company (P
PP
) + S
tate-guarantee(U
K)
Take-or-pay contracts with renew
able energy suppliersB
uild-operate-transfer power stations
Paym
ents to cover infrastructure investments
Risk allocation
The U
K is in a m
uch better position to accept risk.
Additionally, it can prevent risk events from
occurring.
Political backing in the U
K is apparent.
Recent case concerning E
DF
Energy.
Iceland’s comparative advantage lies in its resources
-not econom
ic power or capital m
obilization
Can disputes occur?
Recent cases have show
n that disputes can –and are likely to
occur at some point.
Subsidies in S
pain.
Nuclear energy in G
ermany.
Policy changes can have a catastrophic effect on feasibility.
Dispute settlement
The E
nergy Charter T
reaty
International Centre for S
ettlement
of Investment D
isputes
Other institutions and conventions
ConclusionT
he results of this research are preliminary.
Clear reason to study this subject further.
Most risk factors are still unclear.
Ow
nership & R
isk allocationD
ispute Settlem
entB
ITs, Take-or-pay, BO
T etc.
These factors need to be addressed to facilitate capital m
obilization
This is only one of m
any possibilities.
11.45 – 12.45 Friday, February 19th, 2016Classroom M102, University of Akureyri
Open seminar in businessadministration
The feasibility of an electricity interconnector between Iceland and the UK has been regularly assessed over the last 30 years. The proposed interconnector carries numer-ous types of risk for Iceland, including political risks that have not been critically assessed.
The proposed interconnector would be capital intensive and its construction and operational time would span a period of a few decades. What are the political risks involved? Can those risks be managed for such a long period of time? Are there any venues for dispute settlement? Is this project a way to prosperity or political disaster for Iceland?
Iceland-UK Interconnector: A Way to Prosperity or Political Disaster? Andri Dan Traustason BSc Student in Business Administration – Management and Finance
The seminar will be in English and the agenda will be as follows:
1. Introduction: Guðmundur Kristján Óskarsson, Head of Faculty of Business Administration2. The project in a local and a global context: Hilmar Þór Hilmarsson, Professor3. Presentation: Andri Dan Traustason, B.Sc. Student4. Questions and answers