Long-term financing for climate action, biodiversity and adaptation measures

Back in 2009, the world’s advanced economies signed the Copenhagen Accord, undertaking to collectively mobilise USD 100 billion per year by 2020 to support climate change mitigation and adaptation measures in developing and emerging countries. At the 2015 UN Climate Change Conference in Paris, this commitment was extended to 2025; a new, post-2025 climate finance target will be the subject of negotiations at COP26 in Glasgow.

These funds will not solely be provided  from public funds, but from a variety of sources that include bilateral and multilateral undertakings as well as private climate finance. Accordingly, public funds must also be deployed effectively to mobilise private financing for climate change mitigation. In the Paris Agreement (PA), the signatory countries also agreed to design global financial and investment flows to be consistent with a pathway towards low-carbon, climate-resilient development (PA, art. 2.1(c)). To achieve this, it is essential that climate and adaptation requirements are accounted for in all investment decisions (mainstreaming). The same applies for the development of general conditions aimed at diverting a large volume of investments. This process also furthers the goals of sustainable development (SDGs).

Multilateral funds have an important role to play in climate finance: these include, for example, the Green Climate Fund (GCF),  which in 2019 was topped up for the 2020–2023 period with the equivalent of approximately USD 10 billion. Other notable funds include the Global Environmental Facility (GEF), the Adaptation Fund (AF) and the Climate Investment Funds (CIF). Alongside multilateral funds, multilateral development banks (MDBs), bilateral development banks and bilateral cooperation projects also have a significant role to play.

In addition, the Paris Agreement also includes signposts towards the development of a market-based, global carbon market for low-carbon, climate-resilient economic development. In this market, rights in the form of certificates to emit greenhouse gases (GHGs) are traded and a price is set for the GHG emission itself. Article 6 of the Paris Agreement also establishes the legal basis for introducing cooperative mechanisms that enable a transfer of certificates between countries and which are intended to strengthen the ambition of nation states to take action on climate. This creates an incentive to reduce greenhouse gas emissions and especially where this can be done most cost-effectively. The underlying basis is a robust policy framework that is currently being negotiated.

To date, there has been a lack of climate action projects capable of being funded and therefore open to investment from public and private investors. IKI works with its partners in international development activities to promote pioneering pilot projects that are aimed at implementing art. 2.1(c) and art. 6 of the Paris Agreement, and the financing of projects targeting mitigation, adaptation and biodiversity. These projects include sustainable business models as well as innovative financing instruments for private investment in climate action and adaptation that have a transformational effect. As these projects successfully integrate climate-relevant aspects into public and private investment decisions-making, this boosts the sum total of funds invested in sustainable technologies.

Since 2015, approaches to PA-compatible financial market development have become increasingly important. Accordingly, IKI also orients its funding programmes towards providing consulting services to policymakers, the development of financial institutions and on investors, so as to provide them with support for harmonising investments, regulatory frameworks and legislation with the political mitigation and adaptation targets of the Paris Agreement. IKI is also helping its partner countries to prepare and implement market-based instruments and pilot projects. 

SEED – Promoting Entrepreneurship for Sustainable Development

When financing sustainable projects in emerging market and developing economies, major obstacles are typically found to be a lack of technical capacities and financial resources during the project development phase. In climate investment projects for example those investing in renewable energy sources, energy efficiency and urban infrastructure,  a project development credit facility can accelerate project planning during the development phase, improve quality and ensure that these projects also receive corresponding financing from banks. In addition, this approach gives potential investors access to a pipeline of technically robust and financially mature climate finance projects.

The spectrum of IKI funding programmes ranges from financial support for feasibility studies and business plans in the pre-investment phase through to the provision of technical support to projects in later stages of project development, as well as start-up capital investments intended to reduce the high initial costs and/or risks for clients and investors alike. This helps to remove the financial barriers that are typically problematic in the project development phase.

Alongside consulting services for investors, IKI also supports projects that focus on the preparation of climate change mitigation and adaptation investments for political partners and local governments in the critical early phase of project planning.

Selected projects:

Green Climate Fund (Desposit of IKI funds)

City Climate Finance Gap Fund I - World Bank

City Climate Finance Gap Fund II - EIB

Seed Capital Assistance Facility (SCAF)

Seed Capital Assistance Facility: Unlocking private finance for forest and landscape restoration (SCAF-FLR)

Financing energy for low-carbon investment - Cities Advisory Facility (FELICITY)

Adaptation Fund (Deposit of IKI funds)

Innovative financing instruments

Instruments that create or enhance incentives so as to mobilise as many public and private financial flows as possible, and steer these towards climate action and adaptation investments, play a very significant role in climate finance. The primary objective in the field of mitigation is to promote investment in renewables as well as energy efficiency. Examples of such instruments include the provisioning of lines of credit for the refinancing of specific credit programmes offered by local financial institutions or offering support for blended finance instruments that aim to reduce the risks for private-sector investments, such as by equity participations in first-loss tranches.

It was in this context that IKI participated in the formation of the structured Global Climate Partnership Fund (GCPF) back in 2008. The GCPF provides investors with shareholdings in various risk tranches, whereby public donors bear the highest risk of default (known as ‘first loss’) and therefore make investments more appealing to private investors. At the same time, IKI also promotes innovative financial instruments such as the Currency Exchange Fund (TCX). By hedging exchange rate volatility, the TCX attempts to solve one of the biggest challenges for recipients of climate finance.

In the field of adaptation, instruments for mobilising private and public investment include climate risk insurance policies, which insure for example agricultural production losses due to extreme weather, as well as integrated climate risk management approaches for increasing climate resilience.

Selected projects:

Foreign exchange hedging facility for renewable energies and energy efficiency in Africa

Global Climate Partnership Fund

Climate risk adaptation and insurance in the Caribbean (CRAIC)

Adapting public investment to climate change

Climate change adaptation in the Caribbean: the EbA-Facility

 

Capacity building in the banking sector

A lack of suitable financing options remains a major obstacle to investment in climate action projects and adaptation measures. One important reason for this unavailability is a lack of awareness on the part of banks and investors about the opportunities offered by sustainable investment,  for example in renewables or energy efficiency,—which in turn fosters excessive risk aversion. Accordingly, IKI promotes measures that are aimed primarily at capacity development in private national financial institutions. This works to increase the readiness of the financial sector to commit to the financing of climate action projects and adaptation measures, and to develop and roll out new, climate-resilient financial products. Supported measures include activities to improve the general organisational conditions in the financial institutions as well as employee training for the development of climate finance products, the evaluation of sustainable investments and the review of loan applications made in the green financing segment.

Selected projects:

LAC Green Finance Facility

Green banking - capacity building for green energy and climate finance

Transformational project pipelines for NDC implementation

Financial inclusion and climate change policy peer learning initiative (FICC)

Financial market development (art. 2.1(c) of the Paris Agreement)

Achieving climate finance goals as well as a low-carbon, climate-resilient development pathway requires the mainstreaming of climate criteria as part of all investment decision-making. At the same time, political and regulatory frameworks must also be established that create incentives for diverting these large investment volumes.

IKI is promoting approaches that provide support to policymakers as well as private and multilateral financial institutions for successfully diverting such investments. This involves modelling the risks associated with switching to a low-carbon economy (transition risks) to make these risks measurable as well as highlighting the potential offered by investment on the part of private and public players in the financial market.

Selected projects:

Measuring Paris Agreement alignment and financial risk in financial markets

Accelerating climate finance impact to support the momentum of Paris

Mobilising private finance

The mobilisation rate of private climate finance is fundamental to achieving overall climate finance goals. To date, the mobilisation rate for private investment has failed to meet expectations. Public funds can be used to reduce barriers to private investment in climate action measures while also creating long-term incentives for such private investment. Alongside efforts to mobilise finance directly, structural changes – primarily due to regulatory frameworks – also have a significant role to play in promoting the transition towards a sustainable financial market in partner countries.

In the field of international climate and development finance, the concept of blended finance is adopted as a strategic measure for mobilising flows of private capital in emerging market and developing economies. IKI deploys blended finance to orient private finance towards developing countries and significantly increase its volume. In terms of mitigation efforts, well-functioning business models are already available particularly in the energy efficiency and renewable segments. However, mobilising private investment in adaptation to climate change impacts is a more challenging proposition. Some innovative approaches are now available, however, only those that help institutions to provide microcredit as well as advice for ecosystem-based adaptation measures.

Carbon market development (art. 6 of the Paris Agreement)

The global carbon market is based on an approach whereby certificate trading is used to allocate prices to greenhouse gas emissions. The idea is that this creates an incentive to reduce emissions especially in the most cost-effectively areas. The 1997 Kyoto Protocol introduced a number of instruments in this context, including emission rights trading as part of emissions trading systems (ETSs), and project-based mechanisms such as the Clean Development Mechanism (CDM) and Joint Implementation (JI), both of which are based on certificate trading.

Article 6 of the Paris Agreement also lays the groundwork for the development of a global carbon market, creating the legal basis for introducing cooperative mechanisms that enable a transfer of certificates and are intended to strengthen the ambition of nation states to take action. This, in turn, is based on a robust set of policies, which also include a transparent accounting system, the full details of which are still being negotiated by the signatory parties.

IKI provides support to globally oriented projects that promote the development of a global carbon market with the aid of various platforms as well as robust rules and standards for the use of such markets, and which organise knowledge transfer between participating countries. Partner countries are also assisted in preparing and implementing market-based instruments such as emissions trading systems. 

Selected projects:

Linking market mechanisms and climate finance in Africa

West African Alliance on carbon markets and climate finance

Preparation of an Emissions Trading System (ETS) in Mexico

Partnership for Market Readiness (PMR)

Biodiversity financing

IKI uses a broad and varied spectrum of approaches to help its partner countries as they valuate and mobilise resources for the conservation of biodiversity: these approaches include the marketing of products that are biodiversity-friendly, the integration of biodiversity into the private and financial sectors as well as the promotion of ecotourism.

For further information about IKI’s work in the field of biodiversity finance, please see the ‘Biodiversity’ topic area.

Further information

Mobilising Climate Finance

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