How can developing countries get to net zero in a financeable and affordable way?
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WRITTEN BYSebnem Erol Madan, Practice Manager for the Infrastructure Finance & Guarantees (IPG) Global Practice, World Bank
The original version of this article appeared on the World Bank’s blog here.
I was fascinated to read in The Washington Post that peatlands in the Democratic Republic of Congo (DRC), equivalent to the size of Iowa, hold at least as much carbon as the world currently emits in three years of burning fossil fuels. If DRC were to drain its peatlands to convert to farmland, as many developed countries have in past centuries, hundreds of millions or even billions of tons of carbon dioxide would be emitted. 73% of Congolese live below the poverty line. 70% of cobalt, essential for rechargeable batteries, comes from the country. According to a recent Dutch study, DRC ranks as the 12th most vulnerable country to climate change and the 5th least prepared.
This illustrates the complexity of the low-carbon transition. Low-income countries must maintain the necessary focus on basic goals such as improving energy access, providing safe and quality transport services, water, food security, and education - while forgoing opportunity, dealing with additional risks, and prioritising climate-smart investments.
As many countries have committed in their nationally determined contributions (NDC) and net zero targets, economic growth must be centred around climate-smart approaches, such as producing and consuming clean energy, moving to fuel-efficient transport systems, sustainable mining, climate-smart agriculture and water systems, and more. For many middle-income countries, it is also about phasing down coal and replacing it with green generation that integrates with their grids and is just for all. In all cases, it involves significant change in how governments and private sectors plan, prioritise, and invest. This may mean addressing vested interests and shaking up entire economies.
The World Bank estimates that developing countries need to invest around 4.5% of GDP to achieve infrastructure-related Sustainable Development Goals (SDGs) and to stay on track to limit climate change by no more than 2 degrees Celsius. Studies from the Global Infrastructure Hub, the United Nations, and McKinsey & Company confirm that the infrastructure financing gap is huge, standing in multiples of trillions per year.
Yet, the current level of all climate-related development financing (from bilateral sources and multilateral development banks, and development finance institution sources) is less than 1.5% of projected needs. The recent record $93 billion replenishment of the World Bank’s fund for the world’s poorest countries will provide much needed support. Middle-income countries, which have limited access to concessional funds or sufficient donor funds, also need to urgently roll out key interventions—especially in energy and transport decarbonisation and involving new technologies.
In light of this, it is essential to develop climate-smart and bankable project pipelines and mobilise private capital, affordably. Scare public funds can be channeled into most-needed areas, while private capital - together with the efficiencies it can bring - assumes its rightful role, spurring economies and growth.
Despite the clear case for private capital, according to the Global Infrastructure Hub’s recently published Infrastructure Monitor 2021, about three-quarters of global private investment in infrastructure occurs in high-income countries. Developing countries attract only a quarter of global investment. Furthermore, two thirds of investment in developing countries is concentrated in just five countries.
The pathway to financing the low-carbon transition in developing economies is complicated by lower creditworthiness, the nascent state of many sectors, low implementation capacity, lack of bankable projects, and issues around affordability and debt sustainability.
Reaching net zero will require improvements to the enabling environment as well as robust project preparation and tapping different sources of finance in a coordinated manner, taking into account each country’s context.
Governments will need to think through the actions needed to meet their NDC commitments holistically and programmatically for each of the key transitions - starting with decarbonisation pathways, policy and sector measures, and culminating in an affordable implementation and financing roadmap. This kind of roadmap will benefit from involving the private sector, incorporating innovative financing approaches as well as a plan for optimal use of very limited public, concessional, and donor resources. Such innovative financing may range from guarantees to mobilising private sector investment, blended finance facilities for critical state-owned enterprise investments, regional platforms to finance new climate initiatives, and risk sharing to develop local currency finance ecosystems.
One good piece of news to come out of COP26 was the agreement reached on Article 6, regarding a policy framework and rules of international carbon markets. There may now be an opportunity to tap this market as another source of funds. This holds promise for nature-based solutions (such as in the case of the DRC peatlands) as well as coal phase-down and other transitions. When combined thoughtfully, these financing approaches can enable governments to confidently embark on a road to net zero that is financeable and fiscally affordable.
The World Bank is already working on demonstration projects in each of these areas and will build on these as we encounter similar challenges in other countries - sharing our experiences and advocating for more cooperation, thought, and tools along the way.