The escalation in commitments by multilateral development banks to address the climate crisis has given rise to the availability of financial instruments aimed at encouraging private investors to direct capital towards low-income economies that are most impacted by rising temperatures. This was a central topic of discussion during a panel at the Devex Climate + Finance event in London, where finance executives deliberated about the evolving financial mechanisms for emerging markets, including guarantees and blended finance models.
According to Nick O’Donohoe, former senior adviser to the Gates Foundation and an expert in blended finance models, climate finance has gained increased urgency over the past decade. For instance, when he assumed the role of chief executive at British International Investment in 2017, climate finance was given little consideration. However, it now constitutes a substantial 30% of the institution’s investments in development finance.
One of the instrumental financial instruments put in place to bridge the gap between development banks and risk-averse private investors in emerging markets is guarantees. Lasitha Perera, CEO of the Green Guarantee Company, explained that a guarantee serves as a promise to pay, designed to provide assurance to investors when a viable project in an emerging market receives a below-investment grade rating. The ultimate objective is for investors to develop the confidence to invest without the need for the guarantee, thus rendering the guarantor redundant.
In addition to guarantees, blended financing structures have also played a crucial role in incentivising private participation in the climate transition within emerging economies. However, it is important to note that blended finance is not a one-size-fits-all approach, as highlighted by Katherine Stodulka, a partner at Systemiq, a climate-focused investment firm based in London. Stodulka emphasised that blended finance is not an end goal in itself and that it must be utilised in a targeted manner depending on the market, as it will not transform an unsound project into a viable one.
O’Donohoe also echoed this sentiment, stating that different markets require different solutions, with the focus on crowding out risk in investment-grade markets, while catalytic capital is essential for sub-investment grade markets in order to drive progress.
In conclusion, it is evident that the use of financial instruments such as guarantees and blended finance models has been pivotal in encouraging investments for climate action. These mechanisms have helped to alleviate the risk associated with investing in emerging markets and have paved the way for increased private sector involvement in the critical global effort to combat climate change.