Climate finance in 2023: What’s next?
6 January 2023, Category: All insights, News, Tags: 100 billion goal, 2023, adaptation, bridgetown initiative, climate change, climate finance, energy, IMF, loss and damage, project design, special drawing rights, sustainable development, windfall tax
With 2022 behind us, what will 2023 look like for climate finance? Here are our predictions.
Happy new year from us at E Co. It’s been an innovative and rewarding year working in the climate finance sector, and as an organisation, we’ve been fortunate to play a part in the progress of many climate finance projects around the world.
The world of climate finance is arguably still in relative infancy. While the concept and call for climate finance have existed for many years, it has only truly taken a place as an incredibly important and contentious issue within the last decade. 2022 was a year replete with large decisions being made regarding climate finance, such as those made in November’s COP27.
So, what will climate finance in 2023 look like? Here are the predictions for several major changes that may occur this year.
- Developed countries and the 100 billion climate finance goal
- The development of a Loss and Damage Fund
- Windfall taxes in the UK and beyond
- Structural changes to climate finance
- Special Drawing Rights from the IMF and the Bridgetown Initiative
- Increased finance for adaptation projects
Developed countries and the 100 billion climate finance goal
In an article by the OECD Secretary-General on future levels of climate finance, it is argued that the USD 100 billion goal promised by developed countries will likely be met, according to OECD analysis. In this statement, it quotes Matthias Gorman, who states:
“Based on the information we have received, our analysis shows that developed countries intend to significantly increase climate finance provided and mobilised in coming years, which is of course welcome. Our OECD analysis of donor information indicates that 2023 is the year when the goal is likely to be met. This level of finance must then be sustained throughout 2024 and 2025.”
The original goal was meant to be reached in 2020, yet unfortunately, contributions by developed nations were too small for the goal to be attained. In 2019, the amount of finance mobilised was USD 79.6 billion. Since the release of these numbers, further financial commitments have been made, with the goal being to raise bilateral public climate finance by USD 10 billion a year from 2022 to 2025. This comes alongside other commitments, such as those made by multilateral development banks (MDBs).
One key issue that must be addressed is that of capacity. Achieving the 100 billion goal is only possible with adequate capacity for adaptation and mitigation projects in place so that those projects are not only implemented within sufficient timeframes but also deliver on promises for the most vulnerable communities.
This prediction by the OECD is based on the analysis of current climate finance commitments promised by developed countries, as well as the commitments given by MDBs. It comes alongside developments in the way developed nations approach climate finance, with co-designed climate finance packages being crafted over the last two years between both developed and emerging economies.
The development of a Loss and Damage Fund
Last year’s COP27 saw the announcement of a Loss and Damage Fund, achieved after decades of advocating by voices predominantly based in developing nations, beginning in 1991 with Vanuatu and the Association of Small Island States (AOSIS) who first called for an international insurance pool to protect against sea level rise. After that, momentum rose through subsequent UNFCCC dialogues and each Conference of Parties, culminating in last year’s decision.
This Fund, a welcome development for many communities, will be created to help those most vulnerable who are already experiencing the damaging impacts of climate change, such as droughts or floods.
The question is now, how will this fund be made operational?
The L&D Fund should be able to disburse fund allocations in a far more rapid manner than what is found in traditional climate finance project work, a process which can be cumbersome and even unattractive to many nations. This should naturally mean that the process is simpler and offers those nations who may not have the capacity or knowledge related to funding application the right aid.
COP27 also saw calls to radically alter the infrastructure of the global economic system, and a Loss and Damage Fund could be designed to reflect those calls, so that best practices can be applied right from the early design phase. These would be included so that the main benefactors—small island developing states (SIDS) and climate-vulnerable countries—would be able to access funding, which could be allocated using vulnerability as a metric, potentially through the use of the Commonwealth Universal Vulnerability Index and/or the UN High Level Panel on Multidimensional Vulnerability Index.
It should be noted that a Loss and Damage Fund is different in purpose and, most likely, structure from pre-existing humanitarian relief or disaster management funds. There’s also the question of what types of scenarios would receive funding. High or blanket coverage could disincentivise investments for adaptation projects, while low coverage will mean the Fund is not fit for purpose.
With extreme weather events becoming more and more likely and intensifying in strength and impact, speed is of the essence when it comes to developing an L&D Fund. The actual structure of the Fund is yet to be determined, however, a transnational committee will be meeting to agree upon this before April 2023. The hope is that, with recommendations at COP28 this year, the Loss and Damage Fund will be operational by the end of the year.
Explore our deep dive into climate finance at COP27
Did you miss the innovative developments regarding climate finance that were announced at last year’s COP27 in Sharm el-Sheikh? Don’t worry, as we’ve written a detailed deep dive into the climate finance decisions made at 2022’s historic climate summit.
Windfall taxes in the UK and beyond
With the war in Ukraine affecting energy prices across Europe, the focus has fallen on the large profits being pocketed by energy companies. In the UK, a new windfall tax of 45% is predicted to bring in an extra £14 billion to the country’s economy. With an additional levy of another 35% on current tax rates, the overall tax on companies such as Shell and BP in the UK will be 75% from January 2023.
The immediate issue with this is the design of the UK’s tax system. In an article by the World Economic Forum, it states:
It’s not the size of the UK’s windfall tax that should be adjusted; a stronger design is necessary to bring in more money, more efficiently to boost government spending. This is particularly important given the recent news of Shell paying no windfall tax on bumper UK profits this year. This is a direct result of the design of the UK levy. An increased rate does not address this problem at all.
What an improvement in design looks like is yet to be seen, but there are ideas brewing already. For example, what could be seen is a decrease in the super-deduction—a financial mechanism given by the UK government which allows companies to ‘cut their tax bill by up to 25p for every £1 they invest’. This would mean energy companies can help shoulder the cost of living burden experienced.
Similar moves could be seen around the rest of Europe.
Structural changes to climate finance
In both 2022 and now 2023, developed countries are under pressure to implement radical changes to international financial institutions. Going forward these institutions, such as the World Bank, should be able to carry out three key processes in a far faster, and more successful fashion:
- Attract private capital, which is of pivotal importance for ensuring more finance for mitigation and adaptation;
- Invest more in mitigation and adaptation projects;
- Aid climate-vulnerable countries, especially when it comes to breaking cycles of debt and poverty.
Naturally, this goes further than a purely environmental focus. This year, several important finance summits will be held. French President Emmanuel Macron has scheduled a climate finance summit to be held in Paris in June, aimed at acting as a finance mechanism for climate-vulnerable countries. In autumn, the annual meetings of the World Bank and the International Monetary Fund will take place in Morocco.
An important subset of these structural changes is the move to scale up private finance in emerging economies. To date, sourcing private finance has been difficult. Private sector stakeholders cite various issues they face before they would be able to contribute, such as difficulties with application processes. Similarly, the private sector wants to see a return on their investment, and it is often the case that partner organisations struggle with communicating those returns. We explored this in last year’s GCF insight report, which you can read here. The IMF expands upon these concerns, writing:
A lack of effective carbon pricing reduces the incentive and ability of investors to channel more funds into climate-beneficial projects, as does a patchy climate information architecture with incomplete climate data, disclosure standards, taxonomies and other alignment approaches.
According to the London School of Economic’s Grantham Research Institute, private climate finance must double by 2030, so it is likely we will see more impetus placed on changing the current makeup of climate finance processes so that private sector investment is easier to achieve.
Special Drawing Rights from the IMF and the Bridgetown Initiative
With developments in 2022, we may see more use of reserve assets known as ‘Special Drawing Rights’ (SDRs). These are available from the IMF and are redeemable for hard currency. 2023 may see SDRs being distributed from developed to developing nations in order to provide emergency liquidity in the face of extreme climate events. In combination with the Loss and Damage Fund, this is a seemingly useful financial mechanism to aid climate-vulnerable countries to mitigate and adapt to climate change.
SDRs come as the first main step of the newly-announced ‘Bridgetown Initiative’. Conceived by the Prime Minister of Barbados, Mia Mottley, alongside academics and policymakers, the Initiative aims at aiding climate-vulnerable communities and countries deal with high debt burdens and financial impacts caused by climate change. The first step of the Initiative is to use USD 100 billion worth of SDRs for those in need.
Increased finance for adaptation projects
Locked in for 2023 is an emphasis on providing more finance for adaptation projects. The UN’s latest Adaptation Gap Report estimates that current adaptation finance flows for developing countries at 5 to 10 times lower than they should be. The report goes on to detail how much is needed going forward—between USD 160-340 billion by 2030 and USD 315-565 billion by 2050.
Addressing the issues caused by climate change requires a larger focus on resilience. If not, those most vulnerable, such as smallholder farmers whose livelihoods are completely dependent on favourable, predictable weather patterns, will face the brunt of the worse effects.
In the coming months, stakeholders and policymakers will turn their attention to the global goal on adaptation in time for COP28. As time is of the essence, it is the hope of many that this means accountability will be increased, resulting in a more concerted effort to achieve that goal. We may see more pressure on developed economies to deliver the additional USD 40 billion a year for adaptation finance that was promised at COP26.
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