Climate oriented finance is often a nebulous, not-quite-defined cloud of international funds, bilateral and multilateral agreements, public and private initiatives. It’s an ever changing landscape, and several trillions of United States Dollars are required as of date to truly combat the ever escalating events 1, 2, 3 so there is no one way to pinpoint its exact components, but here is a first primer on climate finance.
Money used to help adjust to the effects of climate change (adaptation finance), reduce the future burden attributable to climate change (mitigation finance), and/ or help change our current ways of working that contribute to the perpetuation of climate change towards a low (or lower) carbon intensive economy (transition finance) is classified roughly as climate finance. Additionally, money used for capacity building or educating people about climate change and how we can adjust to or tackle the situation in the shorter and longer terms is also part of the money bag.
There are various mechanisms used to activate financing for climate change related projects, such as:
i. Multilateral Funding – money provided by a group of countries for a project.
ii. Bilateral Investments – Funds invested by one country into projects in another country.
iii. Global or Regional Climate Funds – These funds may operate at any geographical level. Some global examples are the Global Environment Facility (GEF), and the Adaptation Fund.
iv. Blended Finance – using more than one source of funds in a way that different funding agencies take up different different risks depending on their own risk appetite, as well as different rates of returns. For example, a government agency may not require any rate of return on a project, but a private entity is likely to have a base requirement. These bodies will also have different capacity for risk. using a combination of such sources will allow for projects that may otherwise be difficult to fund. These sources of funds may be sovereign funds, private grants, loans, scholarships, crowd sourced, etc.
These funding sources use a variety of instruments to distribute money among various deserving projects. Financial instruments are a monetary contract that promise to transfer value from the giver to the receiver. A bank note is an example of a financial instrument. These instruments may be:
i. Debt, such as climate bonds or loans.
ii. Equity, such as investing in companies that work directly on climate solutions (for example, a company that researched how to produce electricity from non fossil fuel sources).
iii. Climate projects may also be financed through what I think of as ‘Indirect Financing’ or ‘Risk Financing’, such as providing guarantees for the funding of higher risk projects, in which case the guarantor is not providing the money to run the project directly, but instead assuring the financier that if they do not meet the required return, the guarantor will meet the deficit.
iv. Climate Derivatives are a type of instrument in which a party takes on the weather related risk associated with a particular event or project, and depending on the outcome, they may keep the premium paid to them to cover the risk, or they will have to pay for the weather damages.
As mentioned previously, climate related finance is a complex subject, and while this is a pithy overview of the basics, in the next articles in this series I’ll take up these topics in greater detail.
Chasing Tales 