In the race against climate change, nations worldwide face a monumental challenge: balancing the urgent need for sustainable development with the financial resources required to implement transformative solutions. This is where blended finance emerges as one of the tools in the fight against climate change with the strategic use of development finance and philanthropic funds to mobilise private capital flows to emerging markets. Its significance is particularly pronounced in regions like India, where the merging of rapid economic growth, environmental vulnerability and ambitious climate goals present both challenges and opportunities for sustainable development. Nevertheless, just like two sides of a coin, blended finance presents its own set of limitations. There exist noteworthy drawbacks and scepticism that demand thorough scrutiny and thoughtful deliberation.
Blended Finance 101.
Climate change has a disproportionately severe impact on developing nations. The 55 most climate-vulnerable economies worldwide have already lost 20% of their GDP. Currently, only 1.6% of all adaptation funding comes from private investment indicating a dearth in funding. It is further estimated that a global transition to a low-carbon economy would necessitate approximately 4 to 6 trillion USD annually until 2050. While private capital flows for low-carbon and climate-resilient investments are climbing, they are still woefully inadequate. In conditions like these where conventional financing avenues fail to address the mammoth funding required for achieving climate targets, blended finance acts as a glimmer of hope. Blended finance is the strategic use of development finance from public and philanthropic sources to mobilise additional capital from the private sector towards sustainable development. By leveraging catalytic capital, it claims to de-risk investments perceived as too risky by the private sector, opening up opportunities for climate solutions like clean energy transition. This collaboration addresses challenges like high upfront costs and lack of infrastructure, making these projects financially viable and attractive to private investors. Blended finance utilises innovative financial instruments like concessional loans and guarantees to mitigate risk and incentivise investor participation in areas like green infrastructure, industry decarbonisation and the transition to renewables. This approach ensures energy security and affordability while supporting communities impacted by the transition from fossil fuels.
How does blended finance work?
Blended finance revolves around three core principles: generating financial returns, targeting Sustainable Development Goals (SDGs), and catalysing private investment with public or philanthropic funds. To address concerns about complexity and scalability, the OECD has outlined guiding principles:
- Anchor blended finance deals with a clear development rationale.
- Design blended finance structures to maximise the mobilisation of commercial finance.
- Tailor blended finance interventions to fit local contexts.
- Prioritise effective partnerships for blended finance initiatives.
- Implement robust monitoring mechanisms to ensure transparency and results.
Blended finance has firmly established itself within the scope of sustainable development, with over 1123 transactions totalling 213 billion USD in 2023. Key regions include Sub-Saharan Africa, Latin America, and South Asia, with sectors like energy, financial services, and agriculture drawing significant attention. Diverse actors, from aid agencies to impact investors, spearhead transformative endeavours, leveraging their expertise and resources. While blended finance operates across different scales and structures, aggregation could emerge as a pivotal strategy to facilitate the generation of investments. Aggregation can help to direct substantial investments toward developmental challenges in blended finance. It involves pooling resources to achieve common goals, such as pooling smaller investments into larger funds or vehicles, thus reducing transaction costs, attracting private sector investors, and enabling financing of larger or complex projects.
Limitations:
However, it is essential to acknowledge that despite the aforementioned achievements, there are certain drawbacks inherent in blended finance that necessitate attention and resolution.
- First and foremost, to enhance the efficacy of blended finance initiatives, urgent reforms are imperative to tackle challenges such as the unequal distribution of concessional finance, the limited impact of mitigation aid on emissions, and the overreliance on subsidised donor capital for projects.
- While blended finance mobilises funds and strategically utilises public capital to attract private investment, concerns persist regarding the limited mobilisation of private finance and the imperative need for transparency and accountability in project implementation. There is a conscious need to empower communities, rather than create dependencies on richer countries.
- Case studies on blended finance for climate action highlight challenges including lack of transparency, adverse community impacts and replicated risks across countries without reform efforts. They caution against overreliance on blended finance, advocating for more substantial public finance like grants and highly concessional funding to address the climate crisis effectively.
- Despite mobilising significant funds, blended finance has encountered barriers hindering its success in bridging the sustainable development funding gap for developing countries in Asia. Specifically, it has struggled to meet expectations, particularly in climate-focused initiatives.
- There are concerns that blended finance can perpetuate climate colonialism by favouring financial actors outside recipient countries, leading to issues like the extraction of renewable resources from the global south to benefit projects in the global north.
Blended finance in the Indian landscape.
India's updated Nationally Determined Contribution (NDC) sets ambitious targets, including a 45% reduction in emissions intensity of its Gross Domestic Product (GDP) by 2030 and a 50% increase in non-fossil fuel-based electric power capacity. However, achieving these goals is a formidable challenge given India's dual focus on economic growth and environmental preservation. To decarbonise its energy sector, India must significantly increase climate investments from 18 billion USD to 170 billion USD annually until 2030, with an estimated 10.1 trillion USD required for net-zero emissions by 2070. As renewable energy, energy efficiency, and sustainable infrastructure projects demand substantial investment, a reliance solely on public and philanthropic funds will fall short. Blended finance schemes are touted as a solution to bridge this funding gap, but their deployment in India faces hurdles. Regulatory barriers, capacity constraints and a lack of awareness among stakeholders pose significant challenges. Despite their potential, doubts linger regarding their effectiveness in mobilising private-sector investment. For instance, the Green Growth Equity Fund in India is claimed as the country's first climate-focused fund. While it targets climate resilience and low-carbon solutions, questions arise about its scalability and impact in addressing India's vast climate challenges.
As the world forges ahead on its journey towards a sustainable future, the role of blended finance cannot be disregarded. By leveraging the strengths of both public and private capital, blended finance claims to offer a pathway to accelerate climate action. However, it must be approached with caution. An important concern arises when companies engage in unsustainable practices while taking advantage of blended finance initiatives. To address this, robust due diligence and stringent criteria are required for selecting participating companies. Transparency and ongoing monitoring are vital to holding them accountable. The challenges and limitations inherent in blended finance necessitate a reevaluation of its role and effectiveness in achieving climate and development goals. As policymakers, investors and stakeholders navigate the complexities of climate finance, a balanced and informed approach is imperative. With the right policies and partnerships in place, India can emerge as a global leader in climate action, paving the way for a greener and more resilient future for the people and the planet.