Want to scale sustainable finance? De-risk sustainable infrastructure
In recent months, I have seen the multilateral system move with unprecedented energy to drive more private investment toward infrastructure in poorer countries. There has been a mindset shift. A few evidences of this are the willingness to undertake reform of MDBs’ capital adequacy frameworks and embrace new approaches like JETPs.
Many of the changes underway support the scaling up or the development of new risk mitigation instruments. But while these exercises have merit, it is important that – first – there is more clarity around the existence, availability, potential and usefulness of these instruments.
A holistic approach to de-risking would be most powerful
De-risking instruments have not been deployed at scale in emerging markets. This is a known problem. In 2022, when the G20 and GI Hub developed the G20/GI Hub Framework on How to Best Leverage Private Sector Participation to Scale Up Sustainable Infrastructure, we consulted widely, and stakeholders were agreed the most important action was to Develop guidance for EMDEs on how the use of de-risking and blended finance instruments and effective partnership models between the private sector and MDBs can align with climate targets and SDGs.
So what is blocking the use of these instruments? Broadly, it is a lack of information, capability, and evidence.
The provision of de-risking instruments involves a wide variety of stakeholders and is complex. Governments, MDBs, export credit insurers, and development agencies all play significant roles. And the number of de-risking instruments is extensive, covering de-risking of development, political, commercial, and financial risks. Yet, there is no centralised information, even at a country level, that informs the private sector and developers about which instruments are available for which projects, and by whom they can be used. In large part as a result of this lack of information, there is a lack of capability; the utilisation of these instruments is often bespoke and based on individual knowledge, which is not conducive to systematic and scalable use. Last but not least, there is a lack of evidence. DFIs, MDBs, and project proponents don’t have access to much data on which instruments are most likely to efficiently attract private sector investors. Furthermore, data related to the terms, use, and performance of these instruments is commercially sensitive, preventing detailed quantitative assessments.
With the pool of sustainable finance increasing and the critical role of infrastructure in the sustainable finance landscape, there is a timely opportunity to unlock financing for projects, in particular in EMDEs, by using the right toolkit of existing and new risk mitigation instruments. The IMF has found that sustainable debt issuance remains largely limited in EMDEs, Meanwhile, 75% of private investment in infrastructure in emerging markets occurs in projects that involve both MDBs/DFIs and private sector players, with 60% of the current project finance in emerging market involving one MDB. So, their role will be critical in increasing this uptake.
By including all the stakeholders who participate in the complex market and regulatory environment of infrastructure to create a coordinated, comprehensive, and targeted toolkit for de-risking, we can substantially remove many of these barriers. This holistic approach is necessary because of the complex and multi-stakeholder nature of de-risking.
Holistic de-risking also includes de-risking beyond the project level
Traditionally, most de-risking of infrastructure has happened at the project level, where risk sharing and mitigation are necessary to make a project bankable and attract investors. But the scale of investment needed in most countries requires a more powerful approach.
The GI Hub estimates that we now have a USD3 trillion annual shortfall in investment in infrastructure, and the IEA has found that about 70% of the need is in emerging markets, where risk levels are typically higher.
De-risking countries themselves is far more powerful than de-risking projects, and the impacts are more long-term. I recently co-authored an article for the Wilson Center on how countries can de-risk to increase private investment, so I will not repeat those ideas here.
Another opportunity we see at the GI Hub is for countries to act in partnership and approach de-risking at the macro level. MDBs and DFIs would be central to these partnership-driven approaches. International organisations would be valuable advisors on evidence-based, replicable, and scalable solutions and would help build in-country capacity. With this approach, it will be important to consult consortiums of investors and financiers to help validate that any approaches and instruments considered are robust and fit-for-purpose. However, there could be great opportunity here, as managing these partnerships as multi-year programs would provide the opportunity to test and scale, and embed change. It is worth noting that this approach is similar to the idea of country platforms, an idea co-led by MDBs that we are yet to see materialising, and to the current methodology for JETPs – but the idea is that they are specifically focused on risk. We have seen some JETPs wrestle with risk, and some tackle it head-on, but it’s fair to say that risk has actually remained a problem for a few JETPs. Specific de-risking methodologies and instruments could be exploited inside or outside JETPs with the type of holistic partnership approach I’ve just described.
Are you interested in taking action?
There is little point in continuing to do more of the same things we have done, and momentum at the multilateral level has created real opportunities to form partnerships and programs that will de-risk sustainable infrastructure. The GI Hub is starting to map risk mitigation instruments across the ecosystem in specific countries, to help boost awareness, identify gaps, and forward solutions. It will also be important to enable knowledge of best practice to flow between countries and regions. If you are a country leader, an MDB, or another party with a stake in de-risking and you are interested in discussing partnership opportunities with the GI Hub, I encourage you to get in touch.