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Japan Passes Renewable Energy Law

September 8, 2011

I. DAWN OF NEW ERA FOR RENEWABLE ENERGY

Before the Great East Japan Earthquake on March 11, 2011, approximately 30% of Japan’s electricity was generated by nuclear power. Based on subsequent developments, nuclear energy will likely play a smaller role in supplying power to Japan.

The on-going disaster in Fukushima has dramatically changed the legal landscape. Among these changes, on August 26, the Japanese Diet passed a so-called “feed-in-tariff” law (“FIT Law”) that will require utility companies to purchase electricity generated by renewable sources. The purpose of the law is to reduce risk for investment in renewable energy generators and to promote investment by potential operators with the goal of making the national power supply more stable and reducing greenhouse gas emissions. The FIT Law will become effective on July 1, 2012.

Under the FIT Law, utilities will be required to purchase electricity from operators of renewable energy generators at a procurement price and for a duration that will be determined by the Minister of Economy, Trade and Industry (“Minister”). Japan already had certain legal measures in place to promote the renewable energy industry, but these measures were criticized as inadequate in scope: under the existing regime, utilities are only required to purchase electricity from operators of renewable energy generators up to a certain quota, and the procurement price is not set by the government but is negotiated between the parties.[1]

By contrast, the FIT Law significantly expands the amount of renewable energy which utilities must purchase at prices set by the government by eliminating purchase requirement caps. Utilities will be required to purchase electricity generated by solar, wind, hydro, geothermal, biomass and other sources to be determined by ordinance.

Important details of the law are still to be determined, creating some uncertainty as to whether the FIT Law will ultimately promote the expansion of the renewable energy industry as intended.

II. IMPLEMENTATION

Under the FIT Law, the Minister will determine the procurement price and duration after receiving the opinion of a third-party committee and discussing with relevant cabinet ministers. If the procurement price is set too high, the financial burden will ultimately be passed on to companies and households, resulting in harm to the Japanese economy.[2] On the other hand, if the procurement price is set too low or duration is too short, renewable energy generators may not be able to generate adequate profits and the goal of the FIT Law may not be achieved. The government will have to strike a proper balance.

Although the third-party committee members must be approved by the Diet, the committee members will be nominated by the Minister, and the Minister has the ultimate authority to set the procurement price and duration without approval by the Cabinet or Diet. Hence, there is some concern that the process will be unduly influenced by the utilities industry which has historically had a close relationship with Ministry of Economy, Trade and Industry (“METI”). To mitigate such concerns, the FIT Law stipulates that the government will give sufficient consideration to the benefits to operators of renewable energy generators in order to promote renewable energy for the first three years following the effective date, thereby encouraging existing and potential operators to invest in renewable energy.

Despite uncertainty as to procurement prices and duration, there are certain tangible benchmarks. The first is the weighted average negotiated price under the existing regime. According to the METI, the weighted average negotiated prices for each renewable resource in fiscal year 2010 was: wind JPY10.0/kWh; hydro JPY9.0/kWh; and biomass JPY9.4/kWh (note: there is no weighted average data for solar, but the price has varied from JPY10.5/kWh to JPY12.5/kWh).[3] Another benchmark is the procurement price set for excess electricity generated by solar power panels, which guarantees a price of JPY42.0/kWh for residences and JPY40.0/kWh for non-residences for 10 years if such solar power panels are installed during fiscal year of 2011. Lastly, when the METI submitted the draft bill, the METI explained in its outline of the bill that the procurement price except for the solar power panels is expected to be between JPY15.0 to 20.0/kWh while the procurement price for the solar power panels will be set in a higher price at the beginning and reduced over the years as the price of solar power panels go down. Their expected duration is 15 to 20 years (except that duration of solar power panels for residences is expected to be 10 years).

Implementation of the FIT Law is also subject to certain conditions. First, the Minister must certify that the selling operators can provide a stable supply of renewable energy efficiently for the period to be agreed with the utilities. Second, agreements between utilities and operators may not impair the interests of the utilities. Such conditions may be used by utilities to reject purchases despite the intent of the FIT Law.

Further, the FIT Law provides that utilities may refuse to connect renewable energy generators to electrical transmission facilities they own where there is a threat of impairing the smooth supply of electricity by the utilities or for other legitimate reasons to be stipulated by ordinance. Currently, Japan’s electricity is supplied by ten geographically divided, vertically integrated utilities. Unlike the United States or many European countries, the utilities not only dominate power plant facilities but also transmission facilities. As new renewable energy generators are expected to be built in rural areas, where there may not be sufficient transmission facilities, experts point out that the utilities may take advantage of this provision by refusing to connect new operators. These experts recommend that transmission functions be separated from the utilities.

Another obstacle arises from the restrictions relating to the use of land or the sea. Japan’s small land area leaves little space for renewable energy generators, especially solar panels, and operators of renewable energy generators must seek space in idled plots, natural parks, hot springs or the sea. However, since use of those areas are often restricted by laws or encumbered by third party rights such as owners of hot springs or fishermen. Appropriate deregulation is likely necessary to encourage use of these areas.

Lastly, it is worth noting that development of renewable energy may be further hampered by lack of financing as a result of “jigyo shiwake (budget screening process)” conducted by the government to cope with the country’s huge deficit. Various subsidies programs provided by national/local governments which would have financially supported construction of new renewable energy generators were recently abolished or significantly reduced.

III. CONCLUSION

The FIT Law has an uncertain future for the reasons noted. However, according to data from the World Bank, Japan was the third largest consumer of electricity in 2008 (approximately 1.03 million GW, behind the United States and China), and, given the very low percentage of renewable energy generators (3.2% in 2008, excluding large scale hydro), there is a lot of room for operators inside and outside Japan in the renewable energy industry to play important roles. Japan may become an ideal market for US and European investors who can take advantage of their deeper expertise and access to capital.

[1] The only exception under the existing regime is the purchase of all excess electricity offered to utilities which is generated by solar power panels in residences or non-residences which business purpose is not to generate electricity, at prices set by the government.
[2] The FIT Law provides for discounts of at least 80% on surcharges to business operators approved by the Minister.
[3] It should be noted that until recently, construction of new renewable energy generators were subsidized by the government up to one-thirds of the construction cost.