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Climate Finance

“ We are the first generation to be able to end poverty and the last generation that can take steps to avoid the worst impacts of Climate Change. Future Generations will judge us harshly if we fail to uphold our moral and historical responsibilities.”
– Ban Ki Moon (former United Nations Secretary General)
Climate Change is real. The world today is replete with evidence in the form of extreme weather events proving the same. Be it the wild-fires in the Amazon, the droughts in California, the Siberian Forest-fires or the excessive deluge that had brought Northern India and Nepal to a stand-still, these are just a few instances of such extreme weather events. 
In fact, it is no exaggeration to say that today Climate Change poses the greatest-ever challenge before the entire global community, since it is in fact, an ‘existential threat’ not just for humankind but for everything that constitutes Life on Earth. 
In general, there is a tendency to view ‘threats’ from the conventional ‘strategic’ paradigm, whereby Weapons of Mass Destruction (WMD), Nuclear bombs, Indoctrination and Terrorissm as very dangerous. However, Climate Change is perhaps one of the most ‘global’ threats of all that we have faced till date. While there may be countries that can fortunately claim to be ‘risk-free’ when it comes to the former conventional threats, there is no place on Earth that is immune to the devastating impacts of Climate Change. Take for instance the Polynesian islands, most of which constitute the Small Island Developing States, who have had almost no contribution to the cumulative CO2 emissions, yet they are the most likely to ‘go under’ in the foreseeable future. 
Since the impacts of Climate Change are all-pervasive, it has severe ramifications on the entire system on which our economies stand today. With changing cropping patterns, food security and livelihood are at stake. Entire ecosystems are slated to collapse which would inevitably have a domino effect on industries that have made these ecosystems their focal point. With rising sea temperatures, the threat to Life in the oceans is no less either. Major human settlements are at the brink of collapse even as  Global Supply-Chains are expected to be severely disrupted. 
As the saying goes, ‘Desperate times call for desperate measures’,  ‘Climate-proofing’ is an absolute imperative. However any such exercise necessitates global collective action and more importantly the mobilization of financial resources to the tune of 1 trillion USD each year. This article deals with the aspects popularly described as Climate Finance, it’s need, rationale, challenges and tries to put forth recommendations for better execution. 

What is Climate Finance? Rationale and Need.

Climate finance refers to the financing efforts that seek to support mitigation and adaptation activities in order to build a more Climate-resilient world. The term was first used in the United Nations Framework on Climate Change which was formally proposed in the 1992 Rio Earth Summit. Here for the first time, the ‘historic responsibilities’ of the developed world were acknowledged and an explicit statement of their obligation to aid the developing countries with an accelerated flow of financial capital, was made. At the heart of Climate Finance is the principle  of ‘common but differentiated responsibility and respective capacities’ This was also an acknowledgement of the unfair development-environment trade-off that is imposed on developing countries which is explained below. 
As we have already established that the Climate Crisis affects all without exception, and in fact, has proven to disproportionately affect the poor and less developed, since their capacity to respond to the crisis is also compromised. And, ‘Climate Proofing’ which involves the ‘Green Transition’, can only be achieved by deploying advanced technologies, popularly known as ‘green technologies’ which come at enormous capital costs, making it beyond the reach for the majority of the developing world.  However, since Climate Change is a Global threat, it is only fair that the burden to combat it, must be shared by all states and not just the immediate casualties. 
Here is where the concept of Climate Finance is crucial. While assigning ‘responsibility’, it is not entirely just to fix contributions and limit emissions of countries based on their current emission rates alone.CO2 emissions which are the chief contributor to Climate Change have an average ‘residence’ period of 150-200 years in the atmosphere, the problem we face today is not just a product of today’s actions but also the actions of the past. Therefore, an equitable and just assignment of responsibility must take into account the historic emissions.
It is well documented that the ‘Developed West’, many of whom were erstwhile Colonial powers, underwent massive Industrialisation in the 17-20th centuries. Technological advancements and abundant resources which were in many cases derived from their colonies, were exploited at an unimaginable scale. As a result, they achieved considerable economic growth well in advance of the rest of the world, earning for themselves the tag of ‘developed’ countries, and securing for their citizens a very high standard of living that is the envy of the rest of the world. 
But, this is just the case for a few Capitalist nations in the Global North. Majority of the rest of the World, Asia, the entire continent of Africa, South America, etc, were practically left untouched by any form of technological modernisation.  As a result they are far behind in their development journey and it is not surprising that most of the developing countries and less developed countries are concentrated in these regions. 
Most of these post-colonial states are therefore now experiencing Industrialisation that too with many structural impediments in the form of poverty, low literacy, infant mortality, inconducive work environments, etc. Any such exercise to ‘create’ Prosperity requires the burning of fossil fuels at a massive scale and other practices which are not environmentally-efficient. This is the much talked about Development-Environment Conundrum. 
It is both morally and substantively unjust to penalize these countries, by imposing limits on emissions since it would stall their development process all together and also because the rich Industrialized nations are undoubtedly the major cause of the problem that is disproportionately affecting the rest of the World.
Empirical research has revealed that wealthy countries including the United States, Canada, Japan and countries of Western Europe, which account for only 12% of the global population today , are responsible for 50% of all the greenhouse gas emissions spanning over the last 170 years.

The graph below demonstrates a similar finding. It displays the major Carbon diOxide emitting countries in the period 1750-2020. Emissions are confined mainly to fossil fuel sources and are measured on the vertical axis in megatones.

Brief History of Global collective Action- insert in the form of a flowchart/diagram if possible

Today, Climate Change is truly transforming the way we think of ‘security’, arguably being the ‘number one threat’ for mankind. It was only in the manner of things that such an alarming ‘global’ threat  be taken up by the United  Nations,  which is still by far the most ‘international’ body and which was founded on the principle of ‘collective security’. Therefore, The United Nations Framework Convention on Climate Change (UNFCCC) was adopted in 1992 with 196 countries ratifying it. And ever since the treaty came into force, the Conference of the Parties (COP), which is the supreme decision-making body of the UNFCCC, has met each year to review policies and assess their implementation.  Each COP elaborates and builds on the decisions and resolutions of previous COPs. 

Listed below is a timeline of COP’s with significant outcomes.

Availability of financing options is crucial in determining the outcomes of any exercise that constitutes  ‘Climate Action’. Therefore, to understand our present predicament, we now take a closer look at the main subject matter of the article, which is Climate Finance. The next section, deals at length with the composition and sources of Climate Finance and the challenges related to its proper augmentation that policy makers have to contend with.

COMPOSITION OF CLIMATE FINANCE

Climate Finance has a two-fold objective. First, to mobilise funds for mitigation exercises. For example, Disaster-relief projects which are highly perceptible in the immediate fall under this category. Second, to ensure adaptation in the long run. Climate-resilient infrastructure,creating ‘Green jobs’, etc are examples of adaptation exercises.   

Broadly ,the existing sources of Climate Finance can be classified as 

  • Multilateral Development Bank.
  • United Nations agencies
  • Multilateral Public (Government) Sector Funding
  • Private Sector financing (which includes private individuals, corporaties , philanthropic organisations and other private entities)

While this classification is made in the interest of clarity, these categories are not entirely exclusive. For instance multilateral banks draw their funds from donors, contributions of board member countries and even private entities. Therefore it becomes dicey to assign the real ‘source’ .  
As it stands today, debt-based products such as Green Bonds, Climate-policy performance bonds, debts for climate swaps, etc majorly constitute  ‘Climate Cash’. Apart from grants and loans, fund deployment can finally be debt-based, equity based and insurance based, as is the case mostly. 

Risk based capital instruments can be further subdivided into the following kinds:

  • Senior Debt- concessional loans provided at lower interest rates which are aimed at reducing costs
  • Subordinated Debt- often emerges as a combination of debt-based and equity-based instruments with the option of an interest-to-equity conversion available to the lender
  • Equity Financing- purchasing stake in Climate mitigation/ adaptation projects 

Further insurance based risk management instruments which come with a (partial)credit guarantee among a variety of other guarantees with many having public guarantees layered in it.

EXISTING CHALLENGES IN THE CLIMATE FINANCE FRAMEWORK

  • Funding Biases
    More than 80% of Climate Finance has been dedicated to Climate change mitigation activities. This reveals a high skewness of funding in favour of mitigation activities, revealing negligence towards spending on adaptation exercises. A probable explanation to this could be that mitigation investments yield concrete perceptible results in the immediate short run itself. On the other hand, return on investments made in the adaptation space typically have long gestation periods and their impact is difficult to estimate.
    Another major reason why there may be considerable reluctance among investors to pump in funds in the sphere of adaptation is the ‘newness’ of the technology. The fact that there is very little past ‘reliability’ increases the perception of risk since most of these technologies are untested.
    Another point worth mentioning is the ‘public goods’ nature of these adaptation technologies. This could also be another factor owing to the hesitance of funding agencies since ‘public goods’ are perceived to be commercially less viable and their benefits are mostly ‘local’.    
  • Nature of Funds
    While the Developed world has failed to meet its Paris commitments, what is worse is that most of the finances mobilised till date are in the form of several debt instruments. This only exacerbates the problem of inequity. Most of the countries severely in need of aid are far from being financially stable. With the vast majority of their populations below the poverty line, their human capital is massively compromised. Add to these existing handicaps the specter of the Covid-19 Pandemic which has undoubtedly affected the supply chains and overall economies. Therefore, their ability to repay the debt has further received a massive blow. This is pushing these already indebted nations further into debt and further hindering their ability to cope with a crisis which they had very little to cause. According to Oxfam’s Climate Finance Shadow Report 2020,  approximately  $47 billion of the total climate financing of $59.5 billion pledged in 2017-2018 was forwarded as loans.
  • Failure of the West to live up to commitments
    In 2009, Developed countries had committed to mobilize $100 billion every year by 2020 to help developing countries in their battle against Climate Change. However it was only in the 2015 Paris Agreement that the Green Climate Fund, the main financial vehicle for Climate Cash took a concrete shape. Even then the Developed countries have failed to do their bit. Reasons for this range from outright denial to domestic political considerations, which is a result of the close nexus between ruling establishments and Corporate giants.

In fact the EU Carbon border tax which seeks to impose tariffs on polluting imports can potentially spark off International trade disputes. Critics argue that this is a primarily ‘unfair’ policy and it seeks to promote what they call ‘New-age apartheid’ since these levies will again disproportionately affect the under-developed world, imports of which are categorised as  ‘polluting’ due to the lack of ‘green infrastructure’ and the lack of funds required to augment the same.This would invariably disrupt the (in many cases, nascent)development trajectories of these countries.   

Having extensively covered the nature and challenges of Climate Finance in the previous sections, in conclusion, we offer a 7 point strategy that in our opinion is central to our resistance to the Climate Emergency. 
It is clear that the ‘Green Transition’ is an absolute imperative. Making this transition smooth and beneficial for all is also equally important.  As stated in the World Bank Report on Transformative Finance , the following are some of the recommendations that could potentially go a long way in ensuring a truly transformative journey:

  • Dynamism driven Long-term Planning
    To avoid short term results that are not aligned with the larger goal of all-round resilience building, all Climate finance strategies should primarily be planned over the long-term. Accordingly,the results’ assessment frameworks must be periodically revised for the impact indicators to remain relevant. 
  • Complement project-based financing with policy-based financing and strengthening of enabling environments.
  • Deploying a wider variety of Financial instruments.
    Currently, the instruments of policy-based finance, results-based finance, equity finance, and guarantees are grossly underutilized, indicating that the bulk of financing currently goes through the conventional route of grants and loans for project-level interventions. Proper augmentation of novel financing options and using existing options to full capacity will enhance the impact of climate-action. Examples of such novel options include weather derivatives, weather insurances, water futures, and other climate-linked financial products that monetarily compensate for losses caused by climate variability. However, these products are much more widely in use in developed markets than in the under-developed states where the need is much more.  
  • Judiciously leverage on a wider, systemic basis.
    Given the huge gap between the available climate finance and what is actually needed, there is a need for greater accountability in the way these funds are channelised. For this, Public Climate Finance should be allocated first, to those projects that have  pre-approved additional funds from other sources. The scope and impact of this leveraging should go beyond project boundaries to consider impacts across the economy. And in order for the ‘leverage’ to be adequately estimated, adequate attention must also be diverted to the development of new methodologies and indicators.   
  • Invest in climate intelligence products.
    Climate intelligence products come at low cost but can have a powerful leveraging effect by demonstrating the benefits of climate action and providing the knowledge to implement it. They include physical climate impact and vulnerability maps; early warning technologies; monitoring, reporting and verification (MRV) methodologies and technologies to measure emission reductions; models and tools for long-term scenario simulation and planning; and physical and transitional risk assessment tools. 
  • Understand and manage the political economy to ensure a just transition. Any transition from the ‘business-as-usual’ to a clean development trajectory will involve localized negative impacts on certain industries, workforces and regions. Welfare gains resulting  from cleaner development must be used to compensate for these losses. Use of climate finance to support this process, even when not directly achieving climate results, is essential for successful clean development. 
  • Differentiate support by income level and climate vulnerability. The poorest countries are both most vulnerable to and least responsible for global climate change. While this extends to many middle income countries, they have a different climate change profile. More can be done to refine the differentiation of climate finance to match countries’ specific needs and circumstances. This includes applying tiered conditionality for more advanced countries depending on their own efforts and orientation toward long-term strategies. Paired with enhanced donor coordination, such approaches can increase the impact of climate finance, in particular for mitigation.

Contributed by: Vinit Mittal, Pratik Bajaj, Zauria Israfil and  Nirupama Banerjee

(Vinit Mittal is a 1st year student pursuing Bachelor of Commerce(H) at St. Xavier’s College (Autonomous), Kolkata and a Research Analyst of the Xavier’s Finance Community.)
(Pratik Bajaj is a 1st year student pursuing Bachelor of Commerce(H) at St. Xavier’s College (Autonomous), Kolkata and a Research Analyst of the Xavier’s Finance Community.)
(Zauria Israfil is a 1st year student pursuing Bachelor of Commerce(H) at St. Xavier’s College (Autonomous), Kolkata and a Research Analyst of the Xavier’s Finance Community.)
(Nirupama Banerjee is a 2ndear student pursuing B.Sc Economics(H) at St. Xavier’s College (Autonomous), Kolkata and a Senior Associate of the Xavier’s Finance Community.)