Understanding Climate Finance

Stabilising the global climate is one of the most urgent challenges in coming decades. Global warming affects all people and ecosystems. It impacts the poor disproportionately. Taking the world to a low carbon path with reduced greenhouse gas concentration is a costly affair. It requires large scale investments. The World Economic Forum projects that by 2020, about $5.7 trillion will need to be invested annually in green infrastructure, much of which will be in today’s developing world.Unfortunately, the developing nations do not possess enough resources to undertake these massive investments. This is where climate finance comes. A cursory look at the world map (see here) shows that there are more countries who need money than countries that provide money.

Definitionally, Climate finance refers to financing channelled by national, regional and international entities for climate change mitigation and adaptation projects and programs. They include climate specific support mechanisms and financial aid for mitigation and adaptation activities to spur and enable the transition towards low-carbon, climate-resilient growth and development through capacity building, R&D and economic development.

How is climate finance different?

Climate finance is somewhat different from standard financing that companies source. The differences arise due to:

risks — difficulty in evaluating climate projects-higher and different kinds of risks entailed
sources of funding — significant chunks of funding from governments and multilateral agencies
purpose: purpose is mainly to mitigate climate impact of climate change

Classification of Climate Finance

What is part of climate finance and what is not? This is problematic, particularly when it comes to dealing with the impacts of climate change (‘adaptation’ — initiatives and measures to reduce the vulnerability of natural and human systems against actual or expected climate change effects).

Better education and healthcare, access to safe drinking water, improved disaster relief and the availability of micro-finance will all make countries more resilient to climate change, but they are also basic development objectives. Therefore if the aim is climate-resilient development, there is no clear delineation between adaptation assistance and development aid.

The structure of Climate Finance

Finance is sourced from public, private and public-private sectors and can be channelled through various intermediaries, notably DFIs, MFIs, development cooperation agencies, the UNFCCC (various funds including those managed by the Global Environment Facility), non-governmental organisations and the private sector. The financials flows can flow from developed to developing countries (North-South), from developing to developing countries (South-South), from developed to developed countries (North-North) and domestic climate finance flows in developed and developing countries.

According to Climate Policy Initiative, the contribution of major players to climate finance in 2014 was


Instruments and Innovations in Climate Finance

Green bonds

A green bond is very similar to a regular bond. The only difference is that the issuer of a green bond publicly states that capital is being raised to fund ‘green’ projects, which typically include those relating to renewable energy, emission reductions and so on.

Indian firms like Indian Renewable Energy Development Agency Ltd and Greenko have in the past issued bonds that have been used for financing renewable energy, however, without the tag of green bonds.

Cat bonds

Catastrophe bonds (also known as cat bonds) are risk-linked securities that transfer a specified set of risks from a sponsor to investors. They were created and first used in the mid-1990s in the aftermath of Hurricane Andrew and the Northridge earthquake.

The use of catastrophe bonds to help ease the burden on poor and developing countries affected by increasingly devastating climate disasters. Known as cat-bonds, these are paid out toward recovery efforts if certain disaster scenarios are met. If disasters are averted, investors get their money back, plus interest.

Global Environment Facility (GEF)

The GEF is an operating entity of UNFCCC’s financial mechanism. As an independently operating financial organization, the GEF provides grants for projects related to biodiversity, climate change, international waters, land degradation, the ozone layer, and persistent organic pollutants.

Extreme Climate facility(XCF)

The Extreme Climate Facility is be a new financial mechanism that will secure direct access for African governments to climate finance to respond to the impacts of increased climate volatility.

UN Land Degradation Neutrality Fund

The UN’s Land Degradation Neutrality Fund draws on both private and public financing to rehabilitate and sustain 12m hectares (29.64m acres) of land every year that has been mismanaged and degraded by human activity, such as unsustainable farming practices.

Climate Finance and COP21

A significant step towards creating a fund to address climate change as a global effort was achieved at the 17th Conference of Parties (COP) of the UNFCCC held in 2011 at Cancun (Mexico), through the launch of the Green Climate Fund (GCF). One of the key objectives of the fund is to promote, and enable countries to make a paradigm shift towards low-emission, climate resilient and gender sensitive development pathways by providing adequate resources to meet the full and incremental costs of such pathways.

At the Paris COP21, the directors of GCF announced the approval of the organization’s first eight projects. These investments will provide US$ 168 million for greenhouse gas emission reduction and climate resiliency efforts in African, Latin American, and the Asian and Pacific island nations. The projects range from investments in industrial-sector energy efficiency, to ecosystem restoration, water and wastewater infrastructure improvements, and development of climate change early warning systems.

Climate Finance and India

Climate finance is at a nascent stage in India. as of now, there are very few financial institutions, research/academic groups, policy analysts and think tanks that are exclusively engaged in the climate finance space.Given the vast challenges that India faces in meeting the nationally declared commitment of cutting the rate of emissions relative to GDP by 33-35 per cent by 2030 from 2005 levels, the role funding projects on climate change mitigation and adaptation will be critical. We foresee a huge impetus to development of climate in India in short and medium term.

[1] http://climatepolicyinitiative.org/wp-content/uploads/2015/11/Global-Landscape-of-Climate-Finance-2015.pdf

[2] http://climatepolicyinitiative.org/wp-content/uploads/2015/11/Global-Landscape-of-Climate-Finance-2015.pdf

Written by : Namrata Rana and Utkarsh Majmudar