Bridging the Gap in Climate Finance: The Untapped Potential of Investing in Short-Lived Climate Pollutant Mitigation in Developing Countries

Overcoming the existential threat of climate change will require a complete overhaul of the way energy is created, food is produced, and how people travel the world— and someone is going to have to pick up the tab. As development banks, the private sector, and governments recognize the magnitude of the challenge, many are increasing funding to drive forward the Paris Agreement goals to dramatically slow global temperature rise and prioritize climate-resilient development. The challenge of meeting low carbon goals is steep, as estimates of the investment required to achieve a low-carbon transition range from $1.6 trillion to $3.8 trillion annually between 2016 and 2050.

The required funds is what is now known as climate finance. While there isn’t universal consensus on its exact definition, climate finance is just like regular finance in that it includes investments from private banks, loans from development banks, or government grants. Like all finance, these transactions could provide a financial return but they should also produce environmental returns like emissions reductions— ideally, they’d produce both. Loans make up the bulk of climate finance at 96 percent, according to recent research. In fact, by some estimates just 2.3 percent of commitments are grants. This highlights that finance institutions expect a return on their investments—and will want proof of the possibility of a return before making a commitment.

One threat to attracting sufficient funding—and getting that funding where it’s needed most— is that there is a gap in the ambitions of financial institutions to invest in the most impactful projects and the ability of the countries most vulnerable to climate change to attract available funding. The Intergovernmental Panel on Climate Change anticipates that Africa will be one of the places hardest-hit by climate change and that low and middle-income countries are already disproportionately impacted by climate-related disasters. For a variety of reasons, projects in developing countries are more likely to be smaller scale and nascent. In-country experts often lack the capacity to develop a robust proof of concept that shows these projects will not only mitigate the effects of climate change but will also deliver a return on investment. It can also be hard to anticipate the cost of maintenance over time— how many new workers will need to be hired to run a composting plant, for example, or what kind of repairs will a new electric bus fleet require after a year— which can easily throw calculations off.

“In many low-income countries, the first problem is that there is no master plan, there is no feasibility study, there is no organization which can spend a small amount of money to come up with technical assessments,” said Patrick Dorvil, a Senior Sector Economist at the European Investment Bank (EIB), the lending arm of the European Union. “And that is where the Climate and Clean Air Coalition can make a huge difference.”

Indeed, the Climate and Clean Air Coalition (CCAC) is uniquely positioned to bridge this gap by helping developing countries to develop proof of concept, strong budgets, or climate action pilot projects. As a next step, the CCAC can help connect them with international financing institutions, bilateral organizations, and funding mechanisms when they are ready. This is a core goal of the CCAC: to catalyse investments that accelerate and scale up short-lived climate pollutant mitigation. These super-pollutants have a global warming potential much higher than carbon dioxide and contribute to air pollution with health implications that include direct responsibility for at least 2.4 million premature deaths every year. Reducing them will deliver multiple environmental and societal benefits.

Climate Finance Landscape

Last year, the EIB announced they would increase their climate action and environmental sustainability investment to 50 percent by 2025, up from around 30 percent now. The EIB Group will aim to support EUR 1 trillion of investments in climate action and environmental sustainability in the critical decade from 2021 to 2030. After 2021, they will no longer fund traditional fossil fuel energy projects, including natural gas, or any other projects inconsistent with the objectives of the Paris Agreement.

“Investing in climate action can help secure people's incomes, livelihoods and food security, limit damage to their health and reduce forced displacements,” writes the bank. They added that they will invest in projects with a high social impact, like small-scale and off-grid renewable energy and “measures to enhance climate resilience for people and farmers in regions particularly impacted by climate change.”

They are not alone. According to a 2019 report by the International Development Finance Club (IDFC), a group of 26 national and regional development banks around the world, their members reported green finance commitments of $134 billion in 2018, which made up 22 percent of their total commitments. Climate finance, defined as the subset of green finance dedicated specifically to climate change mitigation and adaptation, made up the vast majority of these green finance investments.

In 2013, the World Bank, a CCAC partner, looked at how it could integrate short-lived climate pollutants in its activities. It analyzed 52 of its methane reducing carbon finance projects and found that for an investment of approximately US$543 million on these projects, US$228 million of direct carbon finance benefits are derived from the nearly 375,000 tons of methane emission avoided each year. Since then the Bank has increased its share of climate financing annually. In the 2018 fiscal year, the World Bank delivered a record-breaking a record-setting $20.5 billion in climate-related finance and made a commitment to increase the climate-related share of its lending from 21% to 28% by 2020.

Dorvil points out that the CCAC, as a forum that includes decision makers, sector specialists and different stakeholders from developing countries, can play a crucial bridge role for international financing institutions.

"One thing which is important to the bank is the CCAC network, it has very strong forums where you can meet sector people and stakeholders from everywhere in the world, which is unique," says Dorvil.

“The first concept paper or the pre-feasibility/feasibility study is missing,” Dorvil said of many climate projects— be it developing a plan to increase waste collection rates, designing a bio-digester that turns organic matter into fuel, or building a sorting and recycling unit. “This is where I think both our institutions can make a huge difference: we have the money, we have dedicated initiatives but we expect to see from clients initial proof that a project is feasible, and the CCAC can help with that— it’s a win-win situation.”

CCAC Projects

The CCAC is already helping get projects off the ground and proving that climate finance partnerships can be fruitful.

The World Bank’s Pilot Auction Facility (PAF) was formed with the support of the CCAC during the design and development stage. It sprung from a report by the methane finance study group which found that reducing methane emissions could make a substantial difference in climate change but that a large number of abatement opportunities in developing countries weren't being implemented due to financial barriers. It also found that pay-for-performance mechanisms (like PAF) are "attractive instruments for governments facing expanding funding needs and scrutiny on achievements" and can "incentivize private investment through allocation methods that maximize public value for money."

The PAF hosted its fourth auction in March where The World Bank Group auctioned $8.25 million in climate funds which could lead to a reduction of the equivalent of 4.2 million tons of carbon dioxide emissions by the end of 2020. Twenty-one companies participated and eligible projects will reduce methane emissions with projects that include landfills, wastewater, and agricultural waste.

Three of the four PAF auctions have focused on methane emissions reductions which, like all short-lived climate pollutants, provides a multitude of payoffs.

“Methane provides an interesting opportunity in terms of paying for carbon credits because there are certain other benefits in methane mitigation that aren’t explicitly captured, including that reducing methane gas improves air quality for surrounding communities and in some cases that methane gas is also able to generate electricity that can be sold to the grid,” said Stephanie Rogers of the World Bank. “There are health and power co-benefits that can occur as a result of this abatement. This is an area of climate change mitigation that achieves more than just the greenhouse gas emissions reductions.”

Measuring these benefits will be important to bring both public and private investments to combat the climate crisis, says Yabei Zhang, Senior Energy Specialist at the World Bank. This is particularly true for clean cooking which is under delivered but has huge impacts on health, gender, and climate. The burning of residential solid fuels accounts for up to 58 percent of global black carbon emissions, an important short-lived climate pollutant. Yabei and her team are collaborating with CCAC to conduct a field study to measure and quantify black carbon emission reductions from clean cooking interventions in addition to the health and gender benefits they provide. The study will inform the design of the World Bank’s recently announced $500 million Clean Cooking Fund which they hope will leverage Multilateral Development Bank finance and attract private sector investments in the clean cooking sector in addition to increasing technology and business innovations and linking incentives to the private sector.

This way, project investors can evaluate a project based not just on the financial returns but also on the social ones. Because when it comes to climate finance a return on investment shouldn’t just be defined by money, it should also be defined by how much it improves people’s lives.