National Climate Finance Institutions

NATIONAL CLIMATE FINANCE INSTITUTIONS Their challenges and how the “Fit for the Funds” Programme can respond to them

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Introduction

The International Energy Agency (IEA) estimates that in order to avoid dangerous climate change, a total investment of USD1trillion annually is needed. Investment of more than USD197billion in low carbon and cleaner energy is required in 2020 in developing and emerging countries alone (IEA, 2009). Adaptation costs estimates for developing countries vary between USD10-41billion per annum forecasted by the World Bank in 2006 and more than USD86billion annually estimated by UNDP in 2007 (IIED, 2009).

International finance for dealing with climate change is made available to developing countries through a number of channels from a number of sources (UNDP, 2011a). One more recent option for the provision of international climate finance is the Green Climate Fund (GCF), which was conceived in 2009 at the UN climate conference in Copenhagen and officially launched at last year’s conference in Cancun.

The fund is to supply USD100billion per year from 2020 to developing countries to finance climate protection and adaptation (UNFCCC, 2011).

While the design of the GCF is still in progress, and a number of issues are still to be resolved, it is nevertheless certain that the Fund will pose a number of challenges for recipient governments in terms of accessing, managing, and disbursing the funds. It is also certain that publicly sourced funds will not be sufficient to cover the costs of mitigation and adaptation in developing countries. Countries will need to use these funds and additional initiatives to attract capital from the private sector to invest in their projects.

The UNEP National Climate Finance Institutions Support Programme (or “Fit for the Funds�) has been established to provide developing countries with National Climate Finance Institutions (NCFIs) or Funds and those in the process of or considering setting up NCFIs, a platform to let them share their experiences and build capacities and skills to access and best utilise climate finance to be able to make the transition to low-carbon and climate-resilient economies.

Challenges of National Climate Finance Institutions

The Programme is funded by the German Federal Ministry for the Environment, Nature Conservation and Nuclear Safety in the scope of its International Climate Initiative.

This paper summarizes the outcome of regional workshops where NCFIs shared their experience and addressed specific challenges they currently face when accessing and utilising climate finance. Subsequently, a set of information is provided how the Programme should respond to identified needs of NCFIs.

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The challenges of national climate finance institutions

NCFIs in developing countries are tasked with the huge responsibility of managing national and international (public) funds to drive transformational change in their countries towards low-carbon and climate-resilient growth. Challenges they face in carrying out this responsibility include having to raise funds (e.g. based on emission reductions achieved) and being able to allocate resources effectively (AccountAbility, 2009).

Beginning of 2011, OECD conducted country analyses in a selection of developing countries to understand and compare climate change financing and aid effectiveness (OECD and AfDB, 2011). The assessments focused on policies and national strategies, but considered also operational issues, and concluded that there is a need for institutional strengthening to realize the potential and making the most of climate finance. ...there is a need for institutional strengthening to realize the potential and making the most of climate finance...

Despite a large range of existing publications on climate finance, there is little detailed available information on the capacity of NCFIs are limited.

In order to identify and better understand the specific needs of government institutions in dealing with climate finance, the UNEP National Climate Finance Institutions Support Programme held regional workshops in Asia and Latin America, as well as informal meetings in Africa,

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where government officials and representatives of government funds shared their experiences and together explored areas where capacity building would support their operational functions.

The workshops held were the “Fit for the Funds” - Asian-Pacific Workshop on 14 September 2011 in Bangkok, Thailand (with officials from national funds and ministries1) and the “Fit for the Funds”- Latin AmericanCaribbean Workshop on 4 October 2011 in Panama (with officials from national ministries2). Informal meetings were held also with officials from national ministries at the African Climate Change Finance and Development Effectiveness Dialogue in Nairobi, Kenya (21-23 September 2011); which was organized by OECD, UNDP and AfDB. In addition, individual interviews were conducted in Asia and Latin America with the help of a structured interview guide. The interview partners were representatives of national funds, government officials involved in climate projects from various ministries, and civil society organizations.

This section provides an overview of the outcome of the workshops and interviews and lists the specific challenges and questions developing countries currently face regarding climate finance.

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National climate finance institutions

Climate change affects various sectors, which requires integrated policies. However, when referring to national climate finance arrangements, there are often confusions within nations about who manages climate change financing (CDDEF, 2010).

There are different institutional arrangements.

Some countries establish new institutions whose primary function is the management of climate finance, while others integrate this role or add it to an existing government agency/ministry.

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Bangladesh, Cambodia, Indonesia, Philippines, Nepal, Thailand, Viet Nam 2 Chile, Colombia, Dominican Republic, El Salvador, Mexico, Peru

Challenges of National Climate Finance Institutions

In 2009, an assessment of different models for securing international climate funding concluded that by simply retrofitting existing national institutions, an economy may be not able to overcome the set of barriers to transform to a low-carbon nation (AccountAbility, 2009).

Compared to conventional public agencies, NCFIs should be dynamic and innovative; implementing costeffective value chains is crucial, but also applying multi-stakeholder governance. A NCFI which does not rely on top-down bureaucratic public administration more likely delivers ambitious objectives.

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Challenges of national climate finance institutions

NCFIs face several challenges. In Africa, Asia and Latin America NCFIs named similar challenges.

Two of the most frequently heard were: 1)

The difficulty associated with achieving direct access to international climate funds (e.g. fiduciary requirements) based on the experience with the Adaptation Fund, and

2)

The leveraging of private-sector investment through appropriate finance mechanisms.

Other issues raised included: •

What qualifies as climate finance? In some countries climate projects are being implemented, but are named differently (e.g. clean energy, etc.) so that they are not counted as mitigation. Guidance is requested on terminologies; such as mitigation, adaptation, sustainable forestry management.

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How can investment coming into the country be tracked? Countries need systems to be able to identify what kind of funding and how much is coming from where for what purpose and through which ministry and institutions.

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What should be financed? Evaluation criteria are needed to determine where to deliver the funds (which sector or project).

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How can environmental safeguards3 be ensured?

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Which specific public finance mechanisms are effective? There is a common understanding that different sectors/technologies have different financing demands and therefore require a number of different finance instruments. However, it is unclear which ones should be used in a given case, especially to leverage private investment.

Currently, the private sector has no incentives to invest in adaptation projects due to the perception that no revenues can be generated. Guidance is needed on how to make the risk/return ratio for adaptation projects attractive enough for the private sector.

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and

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How can risks be handled? Considering that some climate finance will be channeled as loans, non-performing loans are one of the major risks for NCFIs. Appropriate procedures and systems are needed to manage and mitigate risks.

Which monitoring, reporting and verification (MRV) method is the right one? When it comes to monitoring of emissions reduction, it is not clear which MRV method should be used.

How can awareness be built among stakeholders – private sector and civil society?

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Various procurement processes are used across countries. It is unclear how to align procurement processes with donor requirements more effectively.

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How can funds be effectively channeled to the local level? Funding needs to reach the local level (municipalities, and also remote and rural areas), where the actions are implemented. Distribution systems are needed that ensure that fiduciary requirements can be translated to the local level without creating additional burden for them.

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Safeguards which require the assessment of a project’s potential impact on environment and surrounding communities to prevent and mitigate any unintended negative impacts to the environment and people

Challenges of National Climate Finance Institutions

Most frequently heard challenges:… direct access to international climate funds … and …leveraging of private-sector investment …

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Challenges confirmed during interviews

The interviewees4 were asked a series of questions related to climate finance and the GCF in particular, their national funds, and the barriers they face. The following are a few highlights: When asked about the GCF, almost all indicated that the direct access to finance is very important5. Consequently, fulfilling Fiduciary Standards will be essential for them to get accredited.

With regard to operational challenges, almost all stressed that technical skills (e.g. renewable energy technologies and energy efficiency applications) are needed, but also financial expertise; in particular risk management skills (e.g. risk identification and mitigation) and better information on how to meet Fiduciary Standards.

Interviewees also stressed that training may be not always sufficient; on-the-job - technical assistance maybe required.

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Current issues of direct access to climate funding

Two of the guiding principles of the Green Climate Fund (GCF) are 1.) strong country ownership in identification and implementation of programs and projects, and 2.) direct access to funding by developing countries (UNFCCC, 2011b).

Direct access is the term already known in the context of the Adaptation Fund and means “access to funding without involvement of intermediary (international) implementing entities” (University of Oxford, 2011). So-called national implementing entities (NIEs) are required to meet specific fiduciary standards 4

Asia: Bangladesh, Bhutan, Cambodia, Indonesia, Samoa, LA: Columbia, Mexico 5 Interviewees could choose their answer at a scale from -2 (not important) to +2 (very important)

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designed by the Fund’s board in order to become accredited for direct access. NIEs then bear the full responsibility for the management of projects and programs and carry out financial, monitoring and reporting responsibilities.

Fiduciary Standards comprise financial integrity and management, sound institutional capacity as well as transparency and self-investigative powers:

which there seem to be a number of reasons, e.g. direct access modalities are not fully understood and fulfilling fiduciary standards seems difficult (Adaptation Fund, 2011).

Experience with international climate funds (e.g. the Adaptation Fund) suggests that capacity building measures are needed to assist NIEs (or NCFIs) in attaining the necessary knowledge and skills to gain direct access to climate funds.

Financial integrity and management •

Accurate and regular recording of transactions and balances, audited periodically by an independent firm

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Managing and disbursing funds efficiently and with safeguards to recipients on a timely basis

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Produce forward-looking plans and budgets

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Legal status to contract with parties

Institutional capacity •

Procurement procedures which provide for transparent practices, including those on competition

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Capacity to undertake evaluation

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Ability to identify, develop and appraise projects

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Competence to manage or oversee the execution of the project/program including the ability to manage sub-recipients and support delivery and implementation

monitoring

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Transparency •

Competence to deal with financial mismanagement and others forms of malpractice (self-investigative powers)

As of September 2011, only six NIEs had been accredited by the Adaptation Fund. In many cases, fiduciary standards could not be met6 for

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In some cases Fiduciary Standards are met jointly by more than one institution in a country, but not by one single institution. The Adaptation Fund concluded that there is a lack of clarity of the standards and the accreditation process.

For some countries it is difficult to identify the best suited institution to function as NIE in the country. There is also a

Challenges of National Climate Finance Institutions

…direct access modalities are not fully understood and fulfilling Fiduciary Standards seems difficult… …there is the danger that only a limited number of NIEs will be able to gain direct access to the GCF….

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Leveraging private climate investment

Public resources are limited, therefore additional private sector investment needs to be mobilised for climate action. Many public finance mechanisms have demonstrated their effectiveness at mobilizing (private) investment in clean energy and other areas of climate mitigation; an indicator sometimes used as a measure of success. However private sector engagement is often blocked by perceived risks associated with investing in these sectors.

Adequate risk-return profiles are necessary to make investments attractive to commercial investors.

NCFIs cannot address all framework conditions and market risks; however Instruments to leverage private finance include: •

Finance mechanism to improve the riskreturn profile; i.e. guarantees, technical assistance7, senior debt credit lines, soft loans/interest rate subsidies to support loans, mezzanine funds or strategic public

“conceptual novelty of the NIE function and previous absence of such a role within the government” 7 Enabling project developers to generate bankable projects, assist commercial financing institutions to establish project evaluation and appraisal procedures and to develop new products to provide financing for sustainable energy projects, demonstration/pilot-projects to build references.

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private partnerships (so-called multistakeholder climate finance approach (UNDP, 2011), equity capital, venture capital funds, project grants, research grants and incubators •

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Insurance mechanism; i.e. insurance linked securities like catastrophe bonds, parametric insurance) and Other mechanisms (advanced market commitments, tax discounts) (EU Workshop, 2011).

Public (climate) finance mechanisms which can address existing barriers to private climate finance include debt-based mechanism (i.e. loan guarantees, policy insurance and foreign exchange liquidity facilities), and equity-based fund mechanism; i.e. subordinated equity funds (Centre for American Progress, 2010).

Implementing these mechanisms takes sustained attention and capacity building. Scale-up does not imply blind replication, but rather adaptation and application of good transaction structuring and programme design principles.

Methodologies for doing so exist and can be learned and applied. In many ways, scale-up is a challenge for institutional development and human resources (UNEP, 2008).

Capacity building measures for NCFIs should enhance and strengthen the ability of NCFIs to develop and implement instruments to improve risk-return profiles, and as a consequence, leverage private finance effectively for mitigation and adaptation measures.

…capacity building measures for NCFIs should enhance and strengthen the ability of NCFIs to develop and implement instruments to improve risk-return profiles…

Challenges of National Climate Finance Institutions

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How the Program can respond

Following the needs assessment and examination of public climate funds the Programme can now focus on applied research activities and develop capacity building measures; together with its members.

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Research questions

Extensive research activities are currently underway. Good practice will be identified and innovative ideas will be developed. Some questions that will be addressed include: •

What are the most appropriate Public Finance Mechanism to leverage private investment?

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How can mitigation projects serve as adaptation projects?

The results will be shared with the Programme members and published on the Programme website for all other interested stakeholders. In addition, the results will feed the development of capacity building measures.

3.2

Capacity building

The capacity building measures (i.e. technical assistance and training) will be developed in 2012 and will assist the establishment of NCFIs in countries where they do not yet exist, and improve their effectiveness and efficiency where they do exist.

Measures will address in general the institutional set up and operational processes (e.g. risk mitigation and management) and, in particular, the fiduciary standards (e.g. develop structures and operation to allow the governance in a transparent manner). In order to ensure transparency, attention will be given to capacity building regarding financial monitoring; i.e. tracking finance coming in and effective allocation to projects.

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In addition, capacity building measures will address the design of financial products to meet the needs of local investors. The collaboration of public and private sector players will be crucial to ensure the effective deployment of public funds and to build confidence among private investors (OECD and IEA, 2010).

Capacity building will be delivered in form of training sessions (at the regional level) and technical assistance (at the local/institutional level).

The target group for capacity building are national institutions, however, there is also a demand for capacity building are local (subnational) level, as Climate Finance may be channeled through to municipalities and microfinance institutions. The “Training-ofTrainers” approach may be used to enable the local outreach, whilst ensuring sustainability of the capacity building.

When designing the training modules, the results of the needs assessment and applied research will be considered. In addition, the Programme members will have the chance to influence the design and content of capacity building measures.

Reference list AccountAbility, 2009, Radical Simplicity in Designing National Climate Institutions - Lessons from the Amazon Fund Adaptation Fund, TC Workshop on lessons learned from relevant funds and institutions for the design of the GCF: 12 July 2011 CDDEF, 2010, Realising Development Effectiveness – A synthesis report from five country studies in Bangladesh, Cambodia, Indonesia, Philippines and Viet Nam Center for American Progress, 2010, Leveraging Private Finance for Clean Energy – A summary of proposed tools for leveraging private sector investment in developing countries EU Workshop on Leveraging private finance for climate actions in DC, 12 April 2011 IEA, 2009, World Energy Outlook 2009 IIED, 2009, Assessing the costs of adaptation to climate change OECD and AfDB, 2011, Climate Change Financing and Aid Effectiveness, Country Analysis for Cameroon; Ghana, Kenya, Morocco, South Africa and for Tanzania OECD and IEA, 2010 Money matters – mitigating risk to spark private investments in EE UNDP (a), 2011, Climate Finance Options

Capacity building will be delivered in form of training sessions (on regional level) and technical assistance (on local/institutional level)…

UNDP (b), 2011, Human Development in a Changing Climate UNEP, 2008, Public Finance Mechanism to Mobilize Investment in Climate Change Mitigation UNFCCC (a), 2011, The Cancun Agreements

Capacity building measures will be developed and implemented in 2012. Hereby the programme intends to cooperate with other programmes in the field of climate change and finance to prevent parallel efforts and to create synergies.

Challenges of National Climate Finance Institutions

UNFCCC (b), 2011, Transitional Committee – First Technical Workshop, 2011, Work-stream I: Scope, guiding principles, and cross-cutting issues (Scoping Paper), 26 May 2011 University of Oxford, Oxford Institute for Energy Studies, 2011, Enhanced Direct Access, (Prepared

by Benito Müller)

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Frankfurt School - UNEP Collaborating Centre for Climate & Sustainable Energy Finance Frankfurt School of Finance & Management Sonnemannstrasse 9-11 60314 Frankfurt am Main http://fs-unep-centre.org www.frankfurt-school.de E-Mail: unep@fs.de Phone: +49 (0)69 154008-614