TE STIMONY

ASSESSING THE DEPARTMENT OF ENERGY

LOAN GUARANTEE PROGRAM

VERONIQUE DE RUGY

Senior Research Fellow

In his famous book Economics in One Lesson, economist Henry Hazlitt wrote, “Government encouragement to

business is sometimes as much to be feared as government hostility.”

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In 2009, renewable energy company Solyndra received $535 million through the federally backed 1705 loan guar-

of borrowing. At a minimum, such guarantees distort crucial market signals that determine where capital should

be invested, causing unmerited lower interest rates and a reduction of capital in the market for more worthy

projects. At their worst, they introduce political incentives into business decisions, creating the conditions for

businesses to seek financial rewards by pleasing political interests rather than customers. This is called cronyism,

and it entails real economic costs.

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Yet, these loan programs remain popular with Congress and the executive. That’s because in general most of the

financial cost of these guaranteed loans will not surface for many years. That means that Congress can approve

billions of dollars to benefit special interests, with little or no immediate impact to federal appropriations in the

short term, because they are almost entirely off-budget.

2. Matt Mitchell, The Pathology of Privileges (working paper, Mercatus Center at George Mason University, July 2012).

3. United States Department of Energy, accessed June 13, https://lpo.energy.gov/.

For more information or to meet with the scholars, contact

Robin Bowen, (703) 993-8582, rbowen5@gmu.edu

Mercatus Center, 3301 Fairfax Drive, 4

According to LPO’s website, DOE’s loan guarantee authority originated from Title XVII of the Energy Policy Act

of 2005 (P.L. 109–58).

cost. The American Recovery and Reinvestment Act of 2009 (P.L. 111–5) amended the Energy Policy Act of 2005

by adding Section 1705.

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Section 1705 was created as a temporary program, and 1705 loan guarantee authority

ended on September 30, 2011.

charge the up-front guarantee fee to the borrower after the lender has paid the fee to DOE and has made the first

disbursement of the loan.

for credit subsidy costs associated with Section 1705 loan guarantees, which, after rescissions and transfers, was

attractive as they provided an opportunity to obtain low-cost capital with the required credit subsidy costs paid

for by appropriated government funds.”

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DOE does not provide loans directly. Instead, borrowers have to apply to qualified finance organizations. These

lenders are expected to perform a complete analysis of the application. Then DOE reviews the lender’s credit

5. Section 1705 of the Energy Policy Act of 2005 (P.L. 109-58). Section 1705 was created by amending the EnergyPolicy Act of 2005 through the

American Recovery and Reinvestment Act of 2009 (P.L. 111-5)

6. However, the Office of Management and Budget has calculated that only 55 percent of loan can be recouped from the sale of assets.

7. Phillip Brown, “Solar Projects: DOE Section 1705 Loan Guarantees,” (Congressional Research Service, October 25, 2011), accessed June 13,

2012, http://op.bna.com/env.nsf/id/jstn-8mzszy/$File/CRSSolar.pdf.

not have gotten capital on their own). Absent such a private-sector deficiency, the DOE’s activities would simply

be a wasteful at best, politically motivated at worst subsidy to this sector of the economy.

Yet, many argue that some public policy objectives require the sacrifice of marketplace efficiency. It is an accepted

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otherwise would not appear. DOE can thus be judged on its ability to meet these public policy goals—namely, to

fill the supply-and-demand gap in the clean energy loan market, particularly for startups.

To measure the DOE results, I looked at the flow of DOE credits to evaluate who receives them and whether the

DOE is meeting its stated policy objectives of promoting new startups and encouraging the creation of green jobs.

A close examination demonstrates that neither stated DOE policies nor its actual lending patterns provide evi-

dence that its loan guarantees serve any of its defined public policy purpose.

FOLLOWING THE 1705 LOAN GUARANTEE PROGRAM MONEY

Since 2009, DOE has guaranteed $34.7 billion, 46 percent of it through the 1705 loan program, 30 percent through

the 1703 program, and 14 percent through the ATVM.

many 1703-eligible projects were also eligible under the 1705.

The data shows that:

8. Mike King and W. David Montgomery, “Let’s Reset Our Energy Policy Starting with Loan Guarantees,” in Pure Risk: Federal Clean Energy

Loan Guarantees, ed. Henry Sokolski (Nonproliferation Policy Education Center, 2012)

9. Sustainablebusiness.com, “Clean Energy: Crossing the Valley of Death,” June 2010, http://www.sustainablebusiness.com/index.cfm/go/

news.display/id/20544.

10. U.S. Department of Energy, Loan Programs Office: https://lpo.energy.gov/?page_id=45

If we organize the data by companies receiving 1705 loans, we find:

First, it should be noted that very few permanent green jobs were created under the 1705 loan program (or any of

the other loan programs). The Obama administration had initially pushed these projects as job generators, claim-

ing that it could create 5 million jobs in America through investment in green technology.

Also, to the extent that “green jobs” were created, the $6.7 million cost per job is quite spectacular. This trend and

number probably dismisses this particular loan program as a job program.

rather than startups. These include established utility firms, large multinational manufacturers, and a global real

of Goldman Sachs. Currently, Goldman Sachs ranks number 80 on the list of America’s Fortune 500 companies.

This probably means that if there were an actual gap between the supply and demand for loans for energy com-

panies, startups, or others, this program wouldn’t be filling it. In fact, most of these loans look like government

for the purpose of “rent for warehouse space” under the Recovery Act.

fiscal year 2011. Likewise, Reliant Energy and Reliant Energy Tax Retail LLC, two other NRG Energy companies,

reported receiving at least 37 grants under the ARRA. These grants augmented the $3.8 billion in loan guarantees

NRG will also be eligible to receive $430 million from the Department of the Treasury.

In addition, many com-

http://www.nytimes.com/2011/11/12/business/energy-environment/a-cornucopia-of-help-for-renewable-energy.html?pagewanted=all.

15. Export-Import Bank of the United States, 2011 Annual Report, http://www.exim.gov/about/reports/ar/2011/index.html, p. 30.

16. http://www.exim.gov/open/

17. Tim Carney, Firm Sells Solar Panel to Itself – Taxpayers Pay, The Washington Examiner, March 18th 2010,

http://campaign2012.washingtonexaminer.com/article/firm-sells-solar-panels-itself-taxpayers-pay/434251.

19. Veronique de Rugy, “Banking on the SBA” (Mercatus on Policy, 2007, Mercatus Center at George Mason University) accessed on June 13,

2012, http://mercatus.org/publication/mercatus-policy-banking-sba.

20. Pamir Wang, “Federal Clean Energy Loan Guarantees: Their Moral Hazards,” in Pure Risk: Federal Clean Energy Loan Guarantees ed. Henry

Sokolski (Nonproliferation Policy Education Center, 2012)

21. Congressional Budget Office [CBO], “The Cost-Effectiveness of Nuclear Power for Navy Surface Ships,” (May 12, 2011), http://www.cbo.

gov/publication/41454.

22. Russ Roberts, “Gambling with Other people’s money” Mercatus Center at George Mason University, April 28, 2010, accessed June 13, 2012,

http://mercatus.org/publication/gambling-other-peoples-money.

Federally backed loans create a classic moral hazard. Because the loan amount is guaranteed, banks have less

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did not have consolidated data readily available and had to assemble these data over several months from various

treated applicants consistently.

These findings do not prove the ability of the DOE to fully assess and mitigate project risks. Moreover, while in

the absence of government intervention the private sector builds the infrastructure to assess risk, the federal gov-

ernment has neither the expertise nor the incentive to build such a safety net. This increases the likelihood that

loan guarantees will be awarded based on factors other than the ability of the borrower to repay the loan, such as

Loan guarantee programs can also have an impact on the economy beyond their cost to taxpayers.

banks lend money to the projects with the highest probability of being repaid. These projects are often the ones

likely to produce larger profits and, in turn, more economic growth. However, considering that there isn’t an infi-

nite amount of capital available at a given interest rate, loan guarantee programs could displace resources from

reduces a lender’s exposure to fund a project it wouldn’t have funded otherwise, it reduces the amount of money

available for projects that would have been viable without subsidies.

federal government] assists financially more attractive to private capital than conservation projects not backed by

federal guarantees. Thus both its loans and its guarantees will siphon private capital away.”

This reallocation of resources by private investors away from viable projects may even take place within the same

industry—that is, one green energy project might trade off with another, more viable green energy project.

More importantly, once the government subsidizes a portion of the market, the object of the subsidy becomes a

safe asset. Safety in the market, however, often means low return on investments, which is likely to turn venture

capitalists away. As a result, capital investments will likely dry out and innovation rates will go down.

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tors were more than happy to take risks and invest their money even in projects that required high initial capital

requirements. The Alaska pipeline project, for instance, was privately financed at the cost of $35 billion, making

it one of the most expensive energy projects undertaken by private enterprise.

The project was ultimately aban-

Finally, when the government picks winners and losers in the form of a technology or a company, it often fails.

agents. In addition, decision-makers are insulated from market signals and won’t learn important and necessary

lessons about the technology or what customers want. Second, the resources that the government offers are so

addictive that companies may reorient themselves away from producing what customers want, toward pleasing

the government officials.

To some (for example, those lucky enough to receive the loan guarantee), government money may seem to be free.

But it isn’t, of course. The government has to borrow the money on the open market too. This additional borrow-

ing comes from Americans’ savings, as does the money that Americans invest in the private sector’s growth. There

In addition, the competition between public and private borrowing raises interest rates for all borrowers, includ-

ing the government, making it more expensive for domestic investors to start or complete projects.

Over time, this could mean that American companies will build fewer factories, cut back on research and develop-

576329541913338186.html.

29. The Center for the Next Generation website, “Advanced Energy and Sustainability,” accessed June 13, 2012, http://www.tcng.org/pro-

grams/advanced-energy-and-sustainability.

30. Matthew Mitchell and Jakina Debnam, “In the End, We’re all Crowded Out,” (working paper, Mercatus Center at George Mason University,

2010), http://mercatus.org/publication/long-run-we-re-all-crowded-out#cit7.