Refurbishing Europe: Igniting opportunities in the built environment

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Europe is facing an unprecedented energy crisis. Even though many governments have introduced support mechanisms in recent months, the average European household is still facing energy costs that are almost two times higher than the previous year—and prices are expected to remain considerably elevated than in past years for the foreseeable future.1

At the same time, the EU has embarked on a large-scale transformation of its economies. Decarbonization targets and climate policies (like Fit for 55 and RePowerEU) require that emissions reduce quickly in a short time. Both European institutions and national governments have in past years rapidly introduced legislation that include hard commitments to the decarbonization targets and specific policies to deliver on them. If these efforts are successful, the EU economy will look substantially different by 2030 and will have gone through a radical transformation by 2050.

The built environment is a critical puzzle piece for both decarbonization and the energy crisis. Responsible for 35 percent of energy-related emissions in the EU and 32 percent of natural gas consumption, the sector must transform to enable the region’s decarbonization targets to be met.2 This transition is unlikely to be simple. There are significant hurdles to overcome in improving the building stock across the EU, including structural challenges (driven by a large, old, and poorly-insulated building stock), and others such as difficulties scaling capabilities to deliver on these targets and encouraging uptake by citizens.

Yet even though the path to a low-carbon buildings sector in the EU is complex, its successful overhaul offers major opportunities for the continent that could reduce household energy costs, create jobs, and increase the resilience of the EU energy systems. Enhancing the energy efficiency of buildings, shifting to more efficient heating technologies, and increasing the amount of electricity produced through decentral and low-carbon means can, in aggregate, help to significantly reduce the net energy consumption—and thus the overall energy cost of buildings.

McKinsey analysis shows that, by 2030, this could save up to 30 to 40 percent on a household’s energy costs (including monthly costs of power and gas and annualized infrastructure costs).3 Moreover, industries that are still in the process of scaling (like heat-pump production) could grow into global leaders, while existing, mature industries could be more readily available (such as solar PV production). McKinsey estimates show that over two million new jobs could be created through this effort.4 Though workers might be displaced as the reliance on fossil-based power diminishes, this presents a great opportunity to upskill and retrain experienced incumbents.

This article focuses on the three initiatives that have the largest capacity to substantially improve energy efficiency of buildings in the EU: drastically enhancing the insulation of homes and commercial buildings; greatly ramping up electric heat-pump installation; and strongly scaling the roll-out of rooftop solar PV. We size the opportunities for the European market between now and 2030, offer a view on key prerequisites, and share a perspective on the implications these initiatives have for key stakeholders. The task at hand is immense—the proposed initiatives require a formidable turnaround of Europe’s built environment. Yet, if successful, the upside could be unprecedented.

Old and under-insulated

The building stock within the EU offers significant opportunities for change, but the transition is not without challenges.

Structural challenges

The building stock is large, old, and under-insulated—which poses fundamental challenges for a rapid transition. First, the stock is large, with 222 million residential dwellings (apartments and houses) and 12 million commercial buildings as of 2018.5 A successful transition will require that hundreds of millions of owners across the EU market make sizeable investments in their properties.

Second, this stock is disproportionately old—the region has a low new-build rate (0.8 buildings are built annually for every 100 existing ones versus 1.1 on average for the OECD), with more than 50 percent of buildings over 40 years old.6 This means the overall building stock improvements cannot rely on replacing old buildings with more efficient new builds.

Finally, building stock that is poorly insulated will need significant work to reach modern insulation baselines. Almost 53 percent of all European dwellings are rated as “low insulation”—they have an average U-value (thermal transmittance) above 1.1W/m2K.7 These dwellings use a disproportionate amount of heating energy, at 62 percent of the energy in building stock (Exhibit 1).

The EU building stock is large, old, and under-insulated.

The outsized influence of poorly insulated dwelling and regional heating needs is made even more evident when looking at the country-level data: low-insulation dwellings in Germany and France account for 30 percent of heating energy needs across the EU, even though they make up 19 percent of the building stock (Exhibit 2).

Stock and heating energy are split by region and insulation level.

Uptake challenges

The rate of improvements of the building stock has been low historically. The European Commission estimates that about 12 percent of buildings undergo some level of energy-performance renovations every year, but this mostly concerns light insulations, which are the most affordable and have the shortest payback time (for example, simple draft proofing).8 Deep renovations are carried out in only 0.2 percent of dwellings a year (these are interventions that reduce energy consumption at least by 60 percent). This is also the case with heat-pump adoption—about two-thirds of dwellings still use natural gas or other fossil-fuel-based heating systems.9

The slow uptake is not surprising when considering the costs and processes required to implement improvements. To start, upfront costs can be significant, with limited to no immediate financial benefits to households (for example, payback periods often exceed 15 years—even higher for insulation work). In addition, the actual improvement processes can be disruptive (moving furniture in and out, fixing surfaces, or needing to temporarily evacuate homes) and can devalue properties (for example, through loss of floor space due to insulation improvements). Finally, building codes can add another layer of difficulty or complexity, further reducing uptake.

Capacity challenges

The European ecosystem does not currently have the capacity to deliver the volume of installations required to meet the EU’s decarbonization targets. It is missing capabilities and capacity across the supply chain—from insufficient materials to enough manufacturing facilities and a large enough workforce with the necessary skills.

The gap in capacity becomes evident when looking at current production and installation rates versus what is necessary to reach Fit for 55 (FF55) and RePowerEU targets. All deployment rates will need to grow significantly, even when compared to record 2022 figures that were driven by the energy crisis.

Annual deployment of rooftop solar will need to reach one-and-half times the recent 2022 record rate of 22 GW (versus the four-year average of 10 GW a year) to reach the EU’s FF55 and RePowerEU targets.10

Heat pump deployment will also need to keep growing at 12.5 percent a year through to 2030 to reach RePowerEU’s target of 54 million heat pumps by 2030 (versus only 15 million heat pumps currently installed at end of year in 2021, and an expected additional 2.5 million to be installed in 2022).11 The most difficult hurdle is likely to be insulation improvements, where the Buildings Performance Institute Europe (BPIE; a not-for-profit organization) estimates that deep renovations need to grow to 3 percent of buildings per annum before 2030 for the building sector to contribute to the EU’s FF55 target—15 times the current average of 0.2 percent.12

While not impossible to overcome, each of these challenges makes the much-needed transition more difficult to accelerate and complete. Careful planning by stakeholders across the ecosystem could help ensure these barriers are broken down efficiently.

Warming up to huge opportunities

Despite these challenges, the EU’s built environment needs to make a broad range of changes to meet decarbonization targets. The list of potential interventions includes installing rooftop solar, replacing gas boilers with heat pumps, improving insulation across the building stock, expanding the use of smart thermostats and Building Energy Management Systems (BEMS), deploying district heating solutions, and many more.

For the purpose of our analysis, we focused on three levers—heat-pump adoption, rooftop solar installations, and insulation improvements. We selected these levers as they represent some of the top abatement opportunities for the building sector and have sufficient scale to be ready for acceleration across the EU market.13Call for action: Seizing the decarbonization opportunity in construction,” McKinsey, July 14, 2021.

Since historical uptake for these three levers has varied, and a range of challenges can prove a bottleneck for acceleration, the actual rate of implementation across these three is still very uncertain, even though policy support is increasing. To deal with this, we developed three scenarios to illustrate the range of possibilities, depending on how effectively deployment can be accelerated across the EU: the Business as Usual (BAU) pathway, the Fit for 55 (FF55) pathway, and the Bold Ambition (BA) pathway (Exhibit 3).

  • BAU pathway: Installations across three levers remain at current pace, as the rate of deployment across the EU market is unable to accelerate further due to an inability to scale supply chains or incentivize homeowners to invest in upgrades.
  • FF55 pathway: The rate of deployment speeds up enough to meet the EU’s FF55 and RePowerEU targets.
  • BA pathway: More cost-effective and achievable levers are focused on. This translates to heat-pump installations growing at 25 percent per year (in comparison to 12.5 percent for FF55 pathway) and rooftop solar being deployed at twice the rate in the FF55 scenario. In addition, the more expensive, difficult-to-achieve deep insulation improvements are only ramped up to 1 percent of households a year in the EU (versus 3 percent in FF55 scenario).
Three pathways illustrate the range of energy possibilities, depending on how effectively the EU can accelerate deployment.

System-level outcomes by pathway offer a helpful indicator of where capital could be effectively targeted by decision makers. For example, the BA pathway could potentially offer higher energy savings and emissions reductions than the FF55 pathway at the same cost—driven by increasing emphasis on rooftop solar and heat pumps (Exhibit 4). However, insulation improvements cannot be completely eschewed; they are critical not just for their own energy savings, but also to enable heat-pump installations and other energy efficiency measures like BEMS.

The three pathways could potentially lead to different energy-demand reduction, emissions reduction, and annual investment cost by 2030.

Three major business opportunities

Achieving the FF55 or BA pathways will require activity to be scaled up significantly—up to 103 million unique installations will be needed across the EU between 2023 to 2030.14 This growth could open up an exciting space with opportunities to create new industries and establish EU supply chains. Although the transition to meeting the EU’s net-zero targets could lead to worker displacement, these changes could also allow for an opportunity to reskill and retrain incumbent workers, and create employment for thousands of people (Exhibit 5).

Three business opportunities could create thousands of jobs by 2030.

Three business opportunities are available: component production and assembly, distribution and installation services, and financing and energy efficiency solution providers. Each opportunity can not only offer material value to those who enter, but they can also help accelerate the transition.

Component production and assembly

The adequate production and final assembly of components will be needed to meet the anticipated demand for solar panels and heat pumps in the EU. Here is the opportunity to create new, zero-carbon, EU-based businesses that can help secure supply chains and ensure transition happens swiftly—with an estimated 429,000 new jobs to be created.15 The challenge is how to maximize the chances of success, how these businesses can aim to be cost competitive, how to be able to compete globally, and how to find novel ways of encouraging consumers and other businesses to adopt their products.

Solar presents an opportunity for the EU market to develop domestic production. Currently, the majority of solar panel components sold in the EU are sourced from China (98 percent of ingot, wafer, and cell components; 83 percent of module component; and 50 percent of polysilicon), with inverters being fully produced within the EU.16 Today, some forecasts suggest that, by 2025, China will produce 95 percent of all polysilicon, ingot, and wafer globally.17

Fifty GW of new production capacity could be added to the EU market at an investment cost of €5 billion to €25 billion (equivalent to a maximum of 36 million panels per year) to meet the forecasted new demand for rooftop solar.18 However, an important consideration for this industry is whether it can be cost competitive with other global suppliers. McKinsey analysis suggests that EU solar manufacturing could be relatively cost competitive with global leaders (that is, within €0.3 per MWh levelized cost of energy [LCOE] of lowest produced costs) if certain conditions could be met: reaching economies of scale—that is, at least 5 to 7 GW per year of integrated sites solar-production capacity—and ensuring wider ecosystem changes (for example, consistent access to low-cost green energy and improved productivity through automation of processes).19Building a competitive solar-PV supply chain in Europe,” McKinsey, December 13, 2022. Achieving this by 2030 could have further benefits in uptake—the cheaper solar is for households, the likelier the uptake.

Heat pumps offer another opportunity to build manufacturing capacity (focused on heat pump assembly) in the EU market. Filling all demand across the region would mean assembling an average 7.9 million heat pumps (air and ground sourced) per year from 2023 through 2030, growing to 15 million heat pumps to be installed in 2030 (with over 50 percent being hydronic heat pumps).20 This would require 132 new assembly factories, each producing 100,000 heat pumps annually.21 Looking further down the supply chain, dependency of external sources of components could be reduced by bringing component manufacturing in-house, representing an industry of €57 billion in revenue by 2030, given current heat pump component costs.22 As with solar, the industry could look to improve productivity and efficiency to drive down end costs to households.

Beyond these manufacturing businesses, additional growth is likely required in insulation material manufacturing and façade manufacturing but have not been included in this analysis.

Distribution and installation services

Distribution and installation service capacity within the EU market is not yet sufficient to take advantage of the new business opportunities. There is a shortage of qualified personnel to install insulation, heat pumps, or solar panels at the forecasted pace, with 1.6 million new jobs needed.23 At-scale businesses for providing these services present a significant value-capture opportunity, with a total addressable market of more than €300 billion by 2030.

The workforce delivering insulation improvements would need to be grown significantly in the EU—7.3 million buildings a year will require moderate insulation improvements (for example, to their walls or roofs, or both) and 2.4 million buildings will need significant insulation work.24 This will mean more trained workers, when considering a team of three full-time workers needs four to six weeks to complete a deep renovation (windows, walls, roof, and basement) of a 100 m2 low-insulated home.25 A combination of new workers and productivity improvements is likely necessary to deliver on these targets, as seen in Exhibit 5.

Many more heat-pump technicians would be required to install 63 million new heat pumps between now and 2030.26 As this is a more complex process, the 219,000 new technicians needed are likely to require training, which could cost on average €68 million in training fees per year (total training costs of up to €613 million through 2030).27

Finally, rooftop solar installations on up to 3.2 million buildings a year will require the onboarding of around 280,000 workers (based on the existing workforce of 76,000 workers).28

Financing and energy efficiency solution providers

The voluntary buy-in of end users—both consumers and businesses—presents a potential hurdle to each lever. New advisory and financing services could be a key unlock to hasten the adoption of these levers and to create new value for the businesses offering these services.

Green financing presents an opportunity. Retail banks and other lenders could capture new value pools, while supporting the transition of the built environment. This could be done through mortgages, special loans, or even leasing and subscription models (for example, a bank and solar-panel installer could partner to offer installation plus use of the panels at a set monthly subscription rate). Banks can leverage their existing apps—with high-customer engagement of several times a week or more—to effectively interface with customers. This would allow banks to support their large customer bases. McKinsey analysis suggests the green financing market could be over €300 billion a year in 2030.

In addition to financing, companies have an opportunity to offer further value-add services to help customers plan the most efficient ways to deploy these technologies in their homes. Additional services could educate consumers on the benefits of taking action, as well as support the uptake of green financing products. Typically, these companies will have a combination of engineering and thermodynamic capabilities to help consumers calculate the most energy-efficient solutions to adopt, as well as financial expertise.

Significant societal benefits

Accelerating this transition can offer significant benefits beyond new businesses and jobs.

A critical benefit could be reduced household energy costs—analysis suggests each lever, on its own, could reduce a household’s energy cost by up to 30 to 40 percent.29 Attractiveness of each investment (as measured by the payback period) is likely to increase as EU industries scale and reduce production and installation costs. Heat pump payback periods could decrease from 12 to 17 years in 2022 to nine to ten in 2030, with solar decreasing from eight to 12 years in 2022 to five to nine in 2030 (Exhibit 6).30 These payback periods (and therefore household energy costs) could lower further due to decreasing electricity costs as the power system decarbonizes and decentralizes (reducing costs at peak times).

Payback periods for heat pump and rooftop solar could decrease up to 40 percent as productivity improvements reduce investment required.

The transition may also confer broader societal advantages—increased energy autonomy, for one, due to lower energy consumption (in particular, natural gas from the switch to heat pumps and improved insulation) and a higher share of renewable solar PV in the energy mix. McKinsey analysis suggests that the Bold Ambition pathway could reduce overall energy demand from households by up to 24 percent.31 This could in turn reduce local pollution due to the increase in net-zero electrification and the reduction of fossil-fuel use for home heating. Finally, McKinsey analysis suggests that deploying these levers could decrease an individual household emissions by up to 75 percent.

Five key catalysts for kick-starting change

Shifting Europe’s built environment to a greener future could be started with the help of five key drivers.

Upskilling the workforce

The EU’s energy transition is likely to create job displacements for workers in fossil-based industries—a difficult and destabilizing prospect for all workers impacted. EU member states could help support retraining and upskilling these workers to help them retain jobs or gain new ones. This could be a real win-win situation, as displaced workers could bring their valuable experience to a new industry and, in return, find secure, high-quality jobs that help accelerate the green energy transition. We estimate that 2 million new workers will likely be required to overcome the shortfall in skilled workers and fill the gaps across supply chains.32 McKinsey preliminary analysis suggests that new businesses training people (including those with little prior solar experience), and implementing efficient ways of working (for example, centralizing common functions and capability building for frontline managers) could increase productivity by 40 to 50 percent. Additional opportunities for efficiency exist if businesses could create multi-skill crews to complete all or most of the elements of an energy upgrade (for example, have crews that could fill the role of electrician, plumber, HVAC technician, carpenter, and insulation installer). This could increase the speed of deployment and reduce delays due to difficulties coordinating tradespeople.

Setting appropriate incentive mechanisms

EU member states could look at how to construct new incentive mechanisms to help support the scaling up of critical supply chains and help technologies reach a low enough cost to be competitive and appeal to consumers and businesses. Examples of potential financial support seen in other regions include direct subsidies, reduced rates on loans, and tax incentives.33Building a competitive solar-PV supply chain in Europe,” December 13, 2022. In addition, the decision makers may wish to consider how to set carbon emissions tariffs on components and include non-price criteria in public procurement tenders—for example, environmental, social, and governance (ESG).

Attracting financing and private capital

New financing mechanisms, such as green financing and increased activity from private capital could help to encourage customers to invest in energy-saving opportunities and to finance the growth needed to deliver these changes—a critical way to support the investment required between now and 2030 to deliver on the FF55 or the BA pathway.

Retail banks and other financing providers could develop novel offerings to support homeowners seeking to invest in refurbishing their homes. For example, in the United Kingdom (UK), Lloyds Banking Group and Octopus Energy have announced a partnership to provide energy-efficiency home improvements to Lloyd’s customers. The first scheme will help UK households switch to air-source heat pumps at a reduced cost via a £1,000 cashback to customers who use mortgage borrowing to fund the switch. The retail bank will then provide borrowers with a referral link to arrange installation with Octopus Energy.34

On top of rolling out new financing packages, banks could pair loans with energy-efficiency advisory systems to give customers extra support. At the same time, private capital could coordinate and educate itself to be able to efficiently support and finance new businesses built in this transition.

Investing in grid infrastructure

Preparing the energy grid for big shifts in power demand will ensure these levers can be deployed effectively and homeowners will be able to fully capture the benefits of these installations (for example, being able to maximize power sold back to the grid with new rooftop solar connections). Transmission and distribution (T&D) infrastructure will likely need significant investment from operators to manage increases in power demand and structural changes in the grid (for instance, the connection of solar installations and increased household electricity demand driven by heat-pump adoption), with the average annual investment across the EU estimated to increase by 50 to 70 percent from about €32 billion on average over the past five years.35

Creating net-zero and circular supply chains

Careful planning can help minimize the potential environmental and carbon costs of capturing these opportunities. The acceleration of manufacturing capacity could materially increase emissions and negate the gains made from the decarbonization of the building sector. In addition, gas boilers and other house materials removed during renovation processes will need to be recycled and disposed of appropriately to maximize the circularity of the process. To manage these potential issues, the entire ecosystem could coordinate to optimize use of disposed materials and track the carbon impact of newly produced materials. A critical area is insulation materials, which can have high production emissions—the insulation manufacturing industry could look to scale up net-zero production processes to avoid this issue.

The challenges may appear immense for the built environment as the EU transitions to net zero and combats the energy crisis. However, by deploying these three principal levers and five key catalysts, the critical energy transition could be secured and the worst impacts of the energy crisis mitigated. Igniting these business opportunities within the built environment could enable the EU to build world-leading industries in critical supply chains globally.

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