Designing Climate Finance for the Developing World

Scaling up investment in developing nations to reduce the hardships of climate change poses many challenges. The Organisation for Economic Co-Operation and Development, an international forum for improving social and economic policies, produced a report exploring this urgent situation in May. The report is titled “Scaling up and Replicating Effective Climate Finance Interventions.”

Kat Friedrich, editor of Clean Energy Finance Forum, interviewed Takayoshi Kato, the first author of the report, via email in August. The conversation explored the structural obstacles that make it difficult to expand climate finance in the developing world. It also highlighted strategies for sharing best practices, building self-sustaining programs, and developing adaptable solutions.

CEFF: The research paper says private climate finance can be mobilized by scaling up and replicating small-scale interventions. What are some of the advantages of starting at the local level rather than starting at a higher level?

Kato: One advantage of starting at the local level can be that a local-level intervention can more likely benefit from the knowledge and experience of local stakeholders and financiers as well as interpersonal networks in the area, which in turn could lead to timely and smooth implementation of the intervention.

Also, there are lots of small-scale actions that are economically efficient or have many co-benefits (for example, residential energy efficiency, agriculture, etc.), so this is an opportunity that needs to be tapped.

But you should also note that our paper and some previous studies have found that we should go for programmatic approaches, rather than project approaches, to better align individual climate initiatives with national developing goals in developing countries.

CEFF: What are some of the types of financial instruments that can be effective in helping climate finance interventions expand in developing nations?

Kato: There is no one-size-fits-all financial instrument to help climate finance interventions expand in developing nations.

The instruments or tools which are best suited to specific climate activities vary among different countries, technologies and project types.

For instance, grants can be particularly useful for building capacity and mobilizing financial support for countries with limited institutional capacities or resources.

Concessional loans could improve risk-return profiles of projects with greater risks such as large upfront investment requirements. Other instruments and tools (such as green bonds and equity provision) are better suited for generating interest from the private sector in more financially mature markets.

Importantly, some cases show that projects and programs tend to be more successful if they involve multiple financial instruments (and also multiple actors and policy interventions).

CEFF: What are some enabling environments and supportive institutional structures that facilitate the growth of climate finance interventions?

Kato: We need a variety of actions to enhance enabling environments and institutional capacities in developing countries to better access, manage and use the finance.

We need to work together among different levels of governments, private-sector organizations, and civil society to improve and sequence various policy frameworks such as stable policy goals, regulatory and policy instruments, and monitoring and evaluation frameworks. We also need to align these elements with countries’ national development goals.

It would also be useful to have a feedback loop process to revisit and update policy goals and policy instruments from time to time.

CEFF: What are some of the policy obstacles that can make it difficult for climate finance interventions to expand in developing nations?

Kato: In fact, there are barriers for finance in general such as the need for a stable regulatory environment, the relative maturity of local financial markets, the rule of law in the nation, and limited currency risks.

And on top of that, there are further climate-specific risks. Climate finance interventions could be expanded more in developing countries if they have stable and coherent policies for pricing carbon (and rationalizing subsidies for fossil fuels), develop local financial markets and investment policies to level the playing field for greener investments, and improve accountability.

International cooperation for building such “readiness” is also essential.

CEFF: The report mentions the importance of sharing best practices and performance data across programs. Is this an area in which international collaboration is possible? If so, how might that work?

Kato: It is an encouraging sign that there are a number of forums where negotiators, practitioners and academics can exchange their experiences and views.

Possible international collaboration on sharing best practices could build on such environments. Under the Convention, for example, there are the Forums of the Standing Committee on Finance, the Technical Expert Meetings, and the Durban Forum on capacity building.

There are also many initiatives outside the Convention, such as the Climate Investment Fund partnership forums. Indeed, information provision and sharing is an explicit part of some international climate finance programs, such as the Global Environment Facility and the Climate Investment Funds.

Also, a measuring, reporting and verification system could be enhanced in the post-2020 period so that it could provide decision makers with a wider range of information on effectiveness of the climate finance interventions. Such information would need to be shared internationally.

CEFF: How can organizations determine when climate finance interventions have become self-sustaining?

Kato: It really depends on the types of finance interventions and criteria that those organizations have for determining self-sustainability.

In the simplest sense, self-sustainability might mean the profit level that can cover capital, operational and financial costs.

Also, developing sufficient capacity and accumulating knowledge are essential parts to make interventions self-sustaining once the international financiers or consultants who set them up have gone away.

But many adaptation projects do not have revenue streams, at least in the short term. Even so, some adaptation projects could be self-sustaining, since a government keeps providing funding for those projects as this is recognized as the role of the government in providing public goods.

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