Private Sector & Development has dedicated issue n° 24 to this subject. Below you will find an extract of the lessons learned from the Edition by Fanette Bardin, Editor in chief, Alice Lucas & Loïc Perret, Investment Officers at Proparco.
Recent technology advances have led to the development of effective, reliable and more competitive solutions for reducing our economies’ carbon footprint. Yet their widespread deployment in the countries of the global south is impeded by a lack of local expertise, inadequate regulatory frameworks and insufficient local and international financing – an absolutely critical challenge. Transitioning to low-carbon societies requires sustained investments – estimated at more than USD 1 trillion annually between now and 2035. Yet to date such sums are far from being achieved, despite a surge in private investments – accounting for more than two thirds of all financing provided – and the establishment of the Green Fund.
Given the challenges involved and the levels of funding required, the climate finance architecture should count on both traditional development aid players and those from the world of “traditional” finance. In particular it is important that the financial industry has a higher level of involvement – even if some obstacles still remain in place. After all, the commercial banks in the global south have little experience of financing “green” projects, and underperforming capital markets limit their capacity to support initiatives of this kind – initiatives which are highly capital intensive by their nature. Investors’ involvement is still relatively low in the upstream phase of project development and they demand a very high rate of return in developing countries.
Moreover, small and medium-sized businesses find it difficult to access the financial markets – even though they are well placed to make an active contribution to “decarbonising” the economy.
Nonetheless the financial sector is gradually opening up to the opportunities presented by the fight against climate change. This is apparent, for example, in the rapid growth of the green bonds market and the incorporation – still in its early stages – of carbon risk and climate risk within traditional financial models in the global north.
Finally, innovative financing mechanisms are emerging – yieldcos, for example, which enable businesses to transfer operational assets to the financial markets, driving down the cost of capital.
Public authorities can play a key role in reinforcing this dynamic, encouraging the redirection of private investment flows. Governments can develop strong public policy incentives – carbon tax, fiscal incentives, introducing energy efficiency and renewables portfolio standards, etc. – along with a stable regulatory framework that can provide security for investors, including incentives such as fixed tariff schemes. It is also their responsibility to reconfigure the allocation of public budgets, which still massively over-subsidise fossil energies.
The other major challenge that must not be overlooked is financing adaptation – a crucial aspect of the response to climate change to which developing countries will be especially vulnerable.
Scaling up climate finance also involve is building multistakeholder dialogue – a role currently undertaken by development finance institutions (DFIs) besides their financing activities. In countries where initiatives are still few and far between, DFIs provide the vital long-term financial resources. They also have a range of other strategies at their disposal: deploying instruments such as subordinated loans or guarantees as a means to reduce risk for other financers; incentivising banks to develop their own “green” finance initiatives by offering dedicated credit lines; and providing technical support to project developers, investment funds and governments.
Investing in a low-carbon economy is crucial to ensure the long-term security and wellbeing of the world’s populations, but the process of doing so also opens up new investment opportunities for the private sector. COP21 will need to send a clear signal to the world’s economic and financial actors, engaging them to seize this opportunity and invest massively and sustainably in the transition to low-carbon economies.
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