For Effective Climate Finance, Developing Countries and MDBs Lead by Example

Bankers promise trillions at COP26, but effective climate finance will not come from markets alone.

After the platitude-laden plenaries of COP26’s first two days, on Wednesday, November 3, negotiations kicked off with the conference’s most sensitive issue: climate finance.

That morning, UN Climate Envoy and former UK central banker Mark Carney announced a massive new private sector initiative. The Glasgow Financial Alliance for Net Zero, or GFANZ, is a coalition of the world’s biggest investors, banks and insurers that collectively control $130 trillion in assets; their “commitment” is to use that capital to hit net zero emissions targets in their investments by 2050.

Not so fast. Like every other financial “commitment” made by wealthy countries and banks, there is no enforcement mechanism or transparency—we must take them at their word. More than anything, the announcement is a market signal; the details matter far less than the message. “The markets are moving forward,” Al Gore insisted in his rousing plenary on Friday. GFANZ was proof. “This is not greenwashing.” That may be true. But follow-through and number-fudging are not the only issues at hand.

First, capital will do what it does best: seek the highest return for the lowest risk. This means that investment in renewables will go mostly, or first, to developed countries, who have the infrastructure, industry, and public finance to make those transitions not just viable, but profitable.

Second, the highest returns are found in technologies that mitigate climate change. The dramatic scaling of wind, solar, and other renewables—and comparative unprofitability of oil, gas, and other fossil fuels—should give us hope for the future. Yet for many poor countries—from small island developing states (SIDS) to giants like Pakistan and Nigeria—the problem is already present.

What these countries need most—and now—is money for adaptation and resilience, neither of which are especially profitable. Despite repeated calls for parity with mitigation, only one-fifth of OECD climate financing from 2019-20 went toward adaptation. For the powerful G-7 nations, that number is a measly 8%. This means that developing country governments must reach into their own pockets for adaptation, decreasing money for social services and increasing the need to borrow from abroad at ever-rising interest rates.

Developing countries cannot afford to wait for this money to reach them. That’s why many are acting now, in creative and effective ways. Jamaica is one example. In July, Jamaica introduced a novel financial instrument—catastrophe bonds—which pay out when tropical cyclones pass an easily observable threshold. It is, in effect, an automatic stabilizer for building climate resilience that could easily be scaled up regionally. “This program is for the countries who are already exposed, 1.5 or not,” Jamaican Finance Minister Nigel Clarke told the Plenary. “Our vision is to institutionalize this kind of a priori financing, rather than waiting for donors to give after the fact.”

The multilateral development banks offer another example of how to stretch a dollar. Despite lack of adequate financing from donor countries, the Green Climate Fund has tripled its adaptation capacity in the last year alone, mostly in the form of grants. “If you have grants, you can convert them to anything—guarantees, equities, bonds,” GCF Executive Director Yannick Glemarec explained. “When limited to one instrument, your capacity is diminished.”

There is also the matter of priority. Donor governments are nowhere near parity on adaptation and mitigation funding—a major goal of COP26. The African Development Bank, on the other hand, devoted 63% of its 2020 budget to adaptation finance. Both the ADB and GCF have asked the International Monetary Fund for access to Special Drawing Rights (both are prescribed holders), but so far the IMF has turned them down. Instead, those SDRs are most likely to be used to pay down poor countries’ escalating pandemic-induced debts.

Effective climate finance will not come from markets alone. Investors and rich country governments should instead learn from developing countries—and the multilateral development banks they have neglected—for innovative and high-impact solutions.

This insight is co-published with Perry World House.

Michael Franczak

Postdoctoral Fellow, Perry World House
Michael Franczak is a postdoctoral fellow at Perry World House and a historian of American foreign policy and the global economy.