Five early lessons from donors’ use of climate finance to mobilize the private sector

EDITOR’S NOTE: In the global fight against climate change, engaging the private sector will be crucial. What lessons can we learn from its engagement so far? Here are some suggestions from Shelagh Whitley, climate change research fellow at the Overseas Development Institute:

In 2009, developed countries committed to mobilize $100 billion in climate finance per year by 2020 to address the needs of developing countries in the face of climate change. Meeting this target will require transformational change in the scale and pace of financing. Public sector resources can play a pivotal role in catalyzing private sector investment. However, there is very little information on how public finance has, to date, mobilized private support for climate-compatible development.

Examples of what has worked in the past are needed to achieve significantly scaled up investment in the future. As a first step, ODI has compiled an online resource of 73 investments totalling $8.5 billion, which draws on our reviews of Japanese, U.S., U.K., and German private climate finance support from 2010 to 2012.

So, what does our early research reveal?

1) Most funding targets efficient fossil fuel generation and solar power in middle-income countries.

Over 99 percent of the investment identified goes to programs and projects to mitigate climate change, with efficient fossil fuel-fired power (22 percent) and solar power (17 percent) receiving the most support across the $8.5 billion provided. With the exception of a small number of interventions to support insurance instruments, there was virtually no direct investment involving the private sector that targeted adaptation to climate change. This may be because of challenges in defining what constitutes an adaptation intervention, and the fact that many countries are still at the relatively early stage of including adaptation in their national planning processes.

Few activities targeted poor countries. Where the recipient countries for investment could be identified (which can be a challenge, particularly in the case of funding through intermediaries), 84 percent of investment is directed toward middle-income countries. This focus on middle-income countries may well be a result of the greater opportunities that exist to invest in mitigation in these countries, the existence of a policy and regulatory environment that fosters private investment more easily, and a reasonable level of readiness to absorb finance.

In terms of the biases of specific donors towards particular technologies and sectors, the U.S. is channeling over 40 percent of its investment to the solar sector in India, and Germany is targeting 40 percent of its investment toward Turkey. It remains to be seen if these technology and/or regional foci are based on the investment climates in these countries, or domestic interests on the part of donors (or both). For instance, the U.S. focus on India may be the result of that country’s National Solar Mission and regional programs to promote the related technology.

2) Private sector intermediaries are being used to channel funds.

Across the $8.5 billion in support reviewed, 17 private intermediaries were identified as playing a role in channelling funds to end recipients, projects and programs. There have been several recent announcements on the deployment of climate finance through private equity funds. In 2012, for example, the U.K. launched two new privately-managed funds under its Climate Public Partnership (CP3) Platform, while the U.S. Overseas Private Investment Corp. announced $500 million in loans and guarantees for five privately-managed funds. These fund managers may offer some benefits in terms of investment track record, regional and sector expertise, and ability to crowd in co-financing by other public sector actors. However, the extent to which these investments are attracting additional private sector finance and participation is unclear – the result, in part, of a lack of information and transparency.

3) Loans are the most common tool used to mobilize the private sector.

While there is significant debate on the potential for innovative tools to mobilize private climate finance, much of the support identified (35 percent) is currently in the form of loans. Private intermediaries (including PE funds) are playing an increasingly important role in climate finance, but equity only represents 5 percent of support, with most support to local private financial institutions taking the form of loans and guarantees to support on-lending to renewable energy end energy efficiency projects. One innovation appears to be that donors are providing multiple instruments to support the same interventions, using loans combined with insurance and guarantees, or equity matched with grants for technical assistance.

4) A lot of public climate finance supports investment by industries from donor countries in developing countries.

In the case of Japan, all public sector flows support private entities in developing countries that either deploy Japanese technologies and expertise or that receive co-financing from Japanese private banks. The U.S. is also providing a significant portion (49 percent) of support directly or indirectly to U.S. companies, a result, in part, of the remits of the main actors deploying financial support to the private sector (OPIC and the U.S. Ex-Im Bank). In the case of Germany, only 19 percent of investment appears to be supporting domestic (German-owned) companies, while in the case of the U.K., no “tied” support could be identified.

5) It seems that very little private finance has been mobilized to date.

Of the total of $8.5 billion across the 73 investments reviewed, we found that only 20 percent came from the private sector. This may be an under-estimate: there may be more investment from the private sector, but details on transaction structures and participants are not readily available in the public domain.

The recent report of the UNFCCC Work Program on Long Term Climate Finance has emphasised that additional information needs to be disclosed on private flows at the project and investment level, in order for governments to apply specific lessons learned to the design of future interventions. Current barriers to disclosure include commercial confidentiality, regulatory requirements and the fact that many interventions are in their early phases of implementation.

One solution may be for investors to ensure that data is anonymous or aggregated when reporting within or across interventions. If supported by universally agreed definitions and methodologies for tracking private flows, collection of this information could be facilitated, in part, by the new common tabular format agreed at COP 18 in Doha. Examples of early best practice in transparency, and aggregation across investments include the Global Climate Partnership Facility and the Green for Growth Fund, which disclose detailed information on: their fund’s institutional structure; shareholder structure; investors and donors; investment portfolio of financial institutions; and the approach for, and data from, impact monitoring (greenhouse gas emissions, energy savings etc.).

To further facilitate disclosure and lesson learning, in addition to the ODI database, there is an emerging body of work by Climate Policy Initiative on in-depth case studies of private climate finance. In addition, at the request of several member countries, the OECD Secretariat has agreed to facilitate and coordinate the development of an international Research Collaborative project on tracking private climate finance, which will convene its first meeting this week.

Edited for style and republished with permission from the Overseas Development Institute. Read the original article.