Before the Paris Agreement, climate finance was already a critical element of international climate policy. As early as 1992, when the United Nations Framework Convention on Climate Change (UNFCCC) was signed, Parties to the Convention understood the importance of channelling resources to developing countries to support climate action. Now, as the challenge before us is clearer and more urgent than ever before, an ambitious and effective climate finance system may be the difference between rising to the occasion or failing to protect our planet and future.
The Paris Agreement was negotiated in this spirit and made two landmark advances for climate finance.
The first was to reaffirm the prior commitment of developed countries to provide US$100 billion per year to developing countries by 2020 and extend that commitment for another five years, through 2025. There is no question that these funds are crucial for developing countries, supporting both investments in low-emission energy and the building of resilient societies. Yet it is also widely recognized that it is no small feat to achieve deep decarbonization and support successful adaptation among the most vulnerable. Nothing short of transforming the global economy will be sufficient, shifting our collective investments away from fossil fuels and toward sustainability.
The second advance is a critical feature of the Paris Agreement: Article 2.1c, alongside limiting the global temperature increase to well below 2°C, sets the aim of “making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development.”
With this major advancement for climate finance, the Paris Agreement recognized the need for the full machinery of the financial system – from banks and insurers to impact investors and pension funds – to invest in climate action.
Five years after the Paris Agreement was signed, how far has the international community come on the climate finance agenda? And what does an ambitious climate finance system look like moving forward?
Progress towards the 100 billion dollar target
As 2020 draws to a close, one clear metric for the success of the climate finance system is the progress made on the commitment to mobilize the US$100 billion per year reaffirmed in Paris.
According to any standard, Parties have made substantial progress in raising their climate finance ambitions in recent years. According to the most recent OECD progress report, for example, climate finance provided and mobilized by developed countries for climate action in developing countries reached US$78.9 billion in 2018, up from US$71.2 billion in 2017. Similarly, the 2018 biennial assessment conducted by the UNFCCC’s Standing Committee on Finance indicated that governments are in the neighbourhood of achieving the target by the end of 2020.
That said, assessing progress toward the US$100 billion target is a decidedly contentious effort. That is because the assessment depends substantially on precisely how climate finance is defined. Such an agreed definition, however, is lacking.
In its absence, not all Parties use the same approaches or methodologies for declaring their contributions or receipts. This lack of clarity has created an accounting muddle, where data on climate finance can be inconsistent, if it is available at all.
There are three central considerations for defining climate finance. First, there is the distinction between public and private funds. Should foreign direct investments in renewable energy systems count as climate finance, for example? While they may represent an investment in climate action in a developing country, should they be included as part of a contributor country’s efforts?
Second, there is the question of financial instruments, namely grants versus loans. While grant-based financing is straightforward to include, how should loans be included if they must be later repaid? This is further complicated when we consider concessional loans – which must only be repaid under certain circumstances – or more complex financial instruments like insurance products, equities, or guarantees.
Third and finally, Parties also agreed that climate finance should be “new and additional” to existing development assistance. Yet, particularly in the case of adaptation action, which can and should be closely aligned with sustainable development activities, drawing this distinction can often be difficult, if not impossible, in practice.
Looking ahead to 2025 and beyond
At COP26, talks will begin about setting the next climate finance target under the UNFCCC. In this context, it is important to note that the IPCC estimated that US$3.5 trillion in investment would be needed to reduce greenhouse gas emissions and keep warming below 1.5°C at. A UNEP report puts a figure of US$70–500 billion for adaptation in developing countries alone.
Given the challenges in defining climate finance, and the enormity of the financial challenge, it seems that the most promising way forward is to continue robust direct support to developing countries – while also advancing the Paris Agreement’s broader goal of making financial flows consistent with a low-emission, climate-resilient future. This would mean that public funds are used strategically, including to leverage much larger private investments.
Public actors should embrace their role as de-riskers of investments – by providing concessional loans or guarantees, by working closely with developing-country governments and companies to build capacity for handling larger volumes of private finance, and by developing pipelines of bankable activities.
Governments would also be central to restructuring global financial incentives, by creating rules and frameworks through economic policy and multilateral processes which systematically favour sustainable investments across international financial markets.
Advancing the broader goal of making financial flows consistent with a low-emission, climate-resilient future opens up new possibilities for multilateral cooperation, impactful public-private partnerships, and achieving the goals of the Paris Agreement by actively constructing a global economy with sustainability at its core.