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DFIs Can Unlock Climate Mitigation

The latest IPCC report underlines that the Earth’s climate in every region has been undergoing changes. In response to the report, the UN Secretary General António Guterres announced a “code red” for humanity. The report gave us a stark ultimatum that the planet would reach 1.5 degrees of warming within the next two decades. This would have catastrophic effects on lives and livelihoods, with increased intensity of natural calamities and extreme weather events. However, to limit the temperature to 1.5 degrees by the end of the century, transformational action is required. This calls for a systemic change—one that is unprecedented and one where we redefine the ways in which we produce and consume.

One of the fundamental ways to drive this change is to steer financial institutions (FIs) to taking decisions that lead to the climate mitigation and adaptation interventions. Through these institutions, a significant pool of capital could be channeled towards low carbon, resource-efficient, and climate resilient activities. The FIs could not only assess climate risks, but also highlight the opportunities that arise out of climate action. Moreover, Development Finance Institutions (DFIs) can play a significant role in financing the climate mitigation.

According to OECD, DFIs are specialized development banks majorly owned by national governments. They source their capital from national or international development funds or gain benefits from government guarantees. The OCED notes that these benefits ensure the creditworthiness of the banks and enable them to raise large amount of capital. It is important to note that these institutions combine profit-making with meeting development objectives, and they are widely considered as one of the most viable policy instruments to mobilise long-term resources for socially inclined projects.

In addition to this, DFIs have been more receptive towards the incorporation of ESG and climate risks in their lending and operations, making them strong contributors in the run up to achieving the sustainable development goals. Kavaljit Singh in his report on “Scaling up finance for Sustainable Development”, puts forth that DFIs are a “potential game changer” with regard to financing sustainable development, since they are backed by government funds providing greater creditworthiness.

In the case of FIs aligning themselves in a way to reach sustainable development goals, DFIs become extremely crucial instruments. Not only do they have the ability to finance projects that otherwise would not have received financing due to high credit risks, but also provide technical expertise to undertake long-term projects.

An important example of the catalytic role that DFIs play in advancing SDGs could be understood through the example of the Norwegian DFI, Norfund, which is investing US $160 million in developing countries, along with the Norwegian life insurance company, KLP. As mentioned in UNEPFI’s report on “Financial Institutions Taking Action on Climate Change”, KLP and Norfund would be co-investing the US $160 million in developing countries to promote sustainable development. The amount would be invested over a period of five years, and it would be based on commercial risk-return assessment. An important factor to be noted here, is that there would be strict requirements for environment and social sustainability.

A research study conducted by the Overseas Development Institute on the “Role of Development Finance Institutions in tackling global challenges” analysed data for global DFIs viz., European Investment Bank, (EIB), European Bank for Reconstruction and Development (EBRD), International Finance Corporation (IFC), CDC from 1985. The research found that DFIs had indeed improved investment and energy efficiency in recipient countries. The study concluded that as DFIs increase the extent of their investments, they would be more likely promote growth in poorer nations. The report highlights that it is indeed important to increase the exposure of DFIs in less developed and developing countries.

Additionally, during India’s announcement of its Union Budget in 2021, Finance Minister, Sitharaman announced the setting up of US  $2.7 billion. The intent of the institution is to mobilise capital required for the ambitious national infrastructure pipeline. While this is a welcome move, it would be pertinent to have a climate finance group within the DFI to develop projects and an investment criterion that would deploy finance in a sustainable, just, and carbon-neutral way.

In addition to this, India also needs to set up a new DFI which would specifically promote and facilitate the transition of carbon-intensive sectors like transport, waste, and water management to low carbon or carbon-neutral solutions. As noted by Shakti Foundation’s report on “Enhancing India’s readiness to access and deliver international climate finance”, designing capacity building programs for DFIs to develop bankable projects is key.

auctusESG in partnership with Association of Development Financial Institutions in Malaysia (ADFIM), and Association of DFIs in Asia Pacific (ADFIAP) are undertaking a webinar on “Financing Climate Resilience: Focus on DFIs in Emerging Markets” on September 22nd. The webinar would be aimed at discussing the challenges and opportunities associated with financing climate resilience. Do join! Link to register: