In May 2013, the world crossed a symbolic threshold when observed concentrations of the main atmosphere-warming greenhouse gas, CO2, exceeded 400 parts per million for the first time. Understanding where the world stands in relation to its low-carbon and climate-resilient investment goals is a more urgent task than ever.
The Global Landscape of Climate Finance 2013 finds that global climate finance flows have plateaued at USD 359 billion, or around USD 1 billion per day – far below even the most conservative estimates of investment needs. On one hand, there is some cause for optimism: Although private investment has declined in general terms, technology costs for large-scale renewable energy have fallen further, perhaps as economies of scale start to take hold. On the other hand, climate related investments have fallen well short of even the most conservative needs estimates for successive years, making the requirement of ‘catch up’ very real.
For policymakers already under pressure to demonstrate value for money, there is renewed urgency to deliver precious public resources in ways that level the carbon playing field and create incentives for private investors to significantly accelerate their investment in low-carbon and climate-resilient growth options.
The challenge is that private investors, who can and should provide the lion’s share of global climate finance for good reason — as asset owners (project developers) and end users (households, corporate manufacturers) of renewable technologies — only invest their money when the returns on offer outweigh the costs.
Landscape 2013 confirms that public policies, resources, and money are the ‘engine room’ of the climate finance system, and can alter the balance between risk and return in ways that drive the supply and demand for finance. Private capital flows into climate investments when public incentives and money make them commercially attractive by taking-off risk and reducing incremental costs. While many countries have policy frameworks that provide such incentives, significant capacity and incentive gaps remain.
We offer the following findings as action points for policymakers:
1. Develop well-articulated domestic enabling environments to encourage further private investment. Seventy six percent of global climate finance originated in the same country it was spent (this was true for 72% of investments in developing countries, and 81% in developed countries). The striking domestic preference of climate finance emphasizes the potential influence of appropriate domestic incentives and regulatory frameworks in unlocking further private investment. For example, Landscape 2013 highlights the significance of direct investments of public money in renewable energy, using a combination of financial instruments including grants and concessional loans, to promote the diffusion of new technologies. In terms of public actors, we highlight the positions adopted by some key government-backed players as potential game changers. For example, National Development Banks were responsible for distributing 57% of total public investments in renewable energy, bridging critical funding gaps at the domestic level in pursuit of their national development mandates.
2. Recognize that private actors prefer familiar policy environments where the perception of risk is lower. The importance of well-articulated policy environments is bolstered by the finding that the 24% of climate finance that flowed between countries in 2012 was dominated by mostly publicly funded North-South flows. Of private flows, the vast proportion was invested in developed countries where policies are often underpinned by similar legal and regulatory frameworks. This highlights a key opportunity for policymakers, to encourage more international investment by tackling the perception of risk for overseas investors, particularly in developing countries where the perception of risk is higher.
3. Continue to invest in, and ensure effective use of, international public resources, which play a critical role in facilitating low-carbon and climate-resilient investments, particularly in developing countries. About half of the climate finance flows that flowed internationally flow from North to South. However, based on the data we were able to identify in Landscape 2013, the vast majority of the USD 39-62 billion in North-South flows originated from public sources. Climate finance for adaptation provides an example of the importance of these public sources. Of the adaptation flows captured in this Landscape, 100% were publicly funded (20-24 billion) and mostly invested as international climate finance in developing countries (around 65% of the total). These resources are subject to some of the most political public policy debates, in both the domestic and international context. Ensuring that policymakers understand how these resources are being used to underpin sustainable transitions to self-reliant, low-carbon and climate-resilient economies in the long-term, will help to ensure they are delivered through appropriate instruments and targeted in line with national development priorities.
4. Encourage demand for and assess the effectiveness of financing instruments offered by domestic and international public intermediaries such as Multilateral, Bilateral, and National Finance Institutions. Development Finance Institutions (DFIs) channeled about one third of total climate finance flows. Their investments can be both public and private in nature, and their tool box of instruments blending loans and grants can cover risks and lower incremental costs. Work to prioritize the creation of stronger domestic enabling environments in developing countries and emerging markets could help unlock further demand for these resources. Additionally, while DFIs occupy a central role in the landscape, more harmonized reporting and tracking of climate finance would improve the ability to evaluate the true volume and impact of their resources.
5. Address risk, which lies at the heart of private investment decisions. The role of public money and institutions ultimately, is to cover the increment that makes low-carbon investment decisions uneconomic, and to alter the distribution of risks and returns in ways that reduce costs, improve returns, or cover risk. For example, direct investments can help reduce incremental costs or assume significant financial risk, thus improving the prospect of returns for private actors. Indirect approaches, such as shareholdings in private companies, can reduce the amount of capital investment required to make businesses economic. Redirecting resources through incentives such as feed-in-tariffs can eliminate cost distortions between high and low-carbon alternatives and make projects more viable for project developers. Risk coverage instruments and guarantees can help to unlock finance, including from new classes of investors, such as institutional investors. However, important risk gaps remain, particularly in respect to policy and financing risks, and key investors remain on the sidelines.
There is potential for government-backed sponsors to scale up the provision of new and improved risk mechanisms. Landscape 2013 highlights the potential of government-backed sponsors such as DFIs, a coalition of like-minded governments and potentially, the Green Climate Fund (GCF), in scaling up provision of new and improved risk instruments. Ongoing efforts to design the GCF’s Private Sector Facility represent an important opportunity for policymakers to trial new approaches and instruments to address liquidity and policy risks, which governments have difficulty addressing on their own. However policymakers must take care to ensure the GCF adds value to the existing architecture, leveraging and complementing what is already working well. At the same time, the fund design must be internally coherent – allowing appropriate specialization of and good linkages between the GCF’s mitigation and adaptation windows and the private sector facility, optimizing the potential of the GCF to add meaningfully to the global climate finance architecture.
6. Close important knowledge gaps that continue to impede our ability to track or evaluate climate finance flows. In particular there are large knowledge gaps about adaptation finance; private sector finance; the role of the private sector in financing, among the others, adaptation, energy efficiency and REDD+; flows between and within countries; public support of incremental investment costs and revenue support; and comparable data between current finance and the global need. On the private finance tracking side, for example, policymakers could develop methods to require the disclosure of project details, without impairing confidential or commercially sensitive information. In terms of adaptation, agreement on the sectoral boundaries for defining adaptation would improve the ability to mark, track, and monitor the effectiveness of these flows.
CPI remains committed to improving the understanding and transparency of today’s climate finance landscape in support of these efforts.