How blended finance could help combat climate change

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Wind Turbines in Jhimpir, Thatta. Blended finance can help put low-and middle-income countries on a path to sustainable energy production.
Blended finance can help put low-and middle-income countries on a path to sustainable energy production.Image: Khaula Jamil / IFC

03 Feb 2022

  1. Makhtar Diop Managing Director, International Finance Corporation

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  • The private sector is increasingly stepping up its efforts to combat climate change.
  • Blended finance helps to mitigate investment risks and attract more funding for climate-friendly projects.
  • It will be important to target investments in low- and middle-income countries, where the impact will be greatest.

The global conversation around climate change has traditionally revolved around public decisions by public actors, with civil society playing a crucial role in making climate action count. But at the COP26 summit in Glasgow, new voices emerged in the push for climate solutions.

A coalition of banks, pension funds, and asset managers committed $130 trillion toward achieving net zero by 2050. Major car companies and corporate vehicle purchasers pledged to accelerate their transition to low-carbon vehicles. Across all sectors, companies are ramping up efforts to reduce their carbon footprint, including in the fashion industry, with a coalition of brands committing to halving their greenhouse gas emissions by 2030.

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It’s clear that the private sector has the interest and the will to step up on climate issues. We must now harness this momentum to channel more private capital into climate-friendly investments as quickly as possible.

The role of the private sector

Private sector investments are urgently needed if we’re going to succeed in transitioning to net-zero carbon emissions. This is especially true in developing countries, which are expected to be both the fastest-growing source of emissions and the most vulnerable to climate change. These countries need green investments tailored to their development needs. At the International Finance Corporation (IFC), we estimate that the climate change commitments made by 21 emerging market countries will require as much as $23 trillion in investment by 2030. With governments stretched to the limit fighting the pandemic, bringing in private capital will be critical.

As the private sector arm of the World Bank Group, IFC has been stepping up to meet this need. In our last fiscal year, we committed and mobilized a record $7.6 billion in climate financing. By 2025, all our direct investments will be fully aligned with the Paris Agreement.

But there’s a limit to what IFC can do on its own. We need to tap into the institutional investment universe, which has 900 times more funding available than development finance institutions like ours. If we can optimize the use of money from development banks, philanthropies, institutional investors, and private companies, we can help decarbonize emerging economies at a much faster rate.

How ‘blended finance’ could help

Blended finance will be a key part of the solution. While the name may sound unfamiliar, the concept is simple. Private investors will often shy away from certain projects or markets because of specific risks that can’t be well managed. This is especially true in developing economies, or with the introduction of new technologies in more mature markets. Blended finance makes use of small amounts of concessional donor funds to mitigate specific investment risks. This rebalances the risk-reward equation for pioneering investments that wouldn’t be able to proceed on strictly commercial terms.

For example, Uzbekistan is one of the most energy-intensive countries in the world. Its power infrastructure is old and inefficient. However, it is blessed with solar, wind, and hydro resources that could position the country as a clean-energy leader in Central Asia.

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To put Uzbekistan on the path to sustainable energy production, IFC helped finance a 100-megawatt solar power plant, the nation’s first grid-scale renewable energy project. As part of the $110-million financing packaging, the Canada-IFC Blended Climate Finance Program provided a loan of $17.5 million on concessional terms, with IFC matching the same loan amount on the same terms. Blended finance helped mitigate the risks of this project in a sector with a new and untested regulatory framework, and made a climate-friendly project possible that otherwise wouldn’t have been commercially viable.

Scaling up

In our last fiscal year, IFC’s blended finance commitments grew to $717 million, up from $489 million the year before. Our climate-related blended finance is also growing, reaching $150 million last year. But we know we need to do more in partnership with public and private sector stakeholders.

Donor governments and development-finance institutions need to come up with a coordinated strategy for mobilizing private capital for climate solutions. We must continue to improve our transparency efforts, which will be key to reinforcing the credibility of the market. And we need to overcome the perceived shortage of projects in developing economies that meet investors’ definition of “bankable.” As it stands, many investors don’t believe the returns justify the risks.

It’s also important to channel finance to where climate-friendly projects are needed most. While financing projects in poor and fragile countries is crucial, we won’t win the climate fight if we only work in low-income countries. We must continue and scale up our support to help middle-income countries, which are responsible for emitting two-thirds of all global greenhouse gases. Their blended financing needs are larger, and yet funding is scarcer. This is where we believe risk mitigation tools have the potential to make the most meaningful impact.

To get to net zero and avoid the most catastrophic impacts of climate change, we need to harness innovation on a much larger scale. This will require a global, coordinated push by multilateral finance institutions, governments, and the private sector.Share

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