Financial appraisal of efficiency investments: why the good may be the worst enemy of the best

Abstract

This methodological paper has a didactic goal: improving our understanding of what “cost optimal energy performance of buildings” means and how financial appraisal of efficiency investments must be set up. Three items merit improvement. First, focus on the endowment character of energy performance of long-living assets like buildings. Second, defining cost optimal requires more than a comparative static trade-off scheme; cost optimal refers to dynamic efficiency, which results from technology dynamics induced by changes in society and policy. Third, financial appraisal is a more complex issue than simple net present value and life cycle cost calculations. It must reflect the time sequential dynamics of real-life processes including real-life decision making. Financial appraisal is embedded in a complex framework made up by three dimensions: future time, doubt and irrevocability. The latter dimension connects with issues like lock-in and path dependency that are generally overlooked in net present value calculations. This may lead to very erroneous recommendations regarding efficiency investments, in particular regarding the energy performance endowment of buildings. Mostly irrevocability is used as an argument to “wait and learn” what has, for example, blocked the pace of climate policy. But the opposite “choose or lose” is the logical outcome when the methodology is fed with evidenced expectations. The latter boosts energy efficiency to its boundaries, saving it from the middle-of-the-river quagmire where incomplete appraisals are dropping it too often (making the good the worst enemy of the best).