Scaling up sustainable finance

Ulrich Volz is a Professor in Economics at SOAS University of London and Founding Director of the SOAS Centre for Sustainable Finance, and Dirk Schoenmaker is Professor of Banking and Finance at the Rotterdam School of Management, Erasmus University Rotterdam

Emerging market and developing economies (EMDEs) have enormous investment needs in climate mitigation and adaptation as well as other areas to attain better and more inclusive economic, social and ecological conditions and to achieve the Sustainable Development Goals (SDGs). Most countries in the Global South also face significant impacts and risks from climate change and nature loss that need to be accounted for by the financial sector.

Before COVID-19, the UN estimated that developing countries were facing an annual financing shortfall of $2.5 trillion for advancing the SDGs and the Paris climate goals. The pandemic has widened this financing gap substantially. There clearly is a need to scale up financing for development, and to make sure that all financial flows are aligned with climate and other sustainability goals.

The trajectory to date suggests that international private capital flows are unlikely to fill the gap, despite new ambitious initiatives like the Glasgow Financial Alliance for Net Zero (GFANZ) that aim to mobilise private climate finance to emerging and developing economies.

Likewise, official development assistance (ODA) from the member countries of the Organisation for Economic Co-operation and Development’s Development Assistance Committee (DAC) – which accounted for $179 billion in 2021 (OECD 2022) – and from other donors can provide important impetus to further economic development and help to leverage private international finance, but it will not be nearly enough to meet climate investment needs and the SDGs.

To address the climate investment and SDG financing gap, mobilising domestic financial resources through the local banking system and capital markets and channelling them into domestic investments will be crucial. The successful implementation of low-emission development strategies and National Adaptation Plans can only be achieved if domestic resource mobilisation is strengthened. Multilateral funds and development finance institutions need to complement domestic investments with grants and concessionary finance (Kraemer et al 2022).

A new CEPR eBook (Schoenmaker and Volz 2022) brings together a group of eminent scholars and practitioners who examine the challenges and opportunities of scaling up sustainable finance and investment in the Global South, and who review existing practice.

The first part of the eBook comprises thematic chapters discussing the role of different stakeholders and instruments. The second part comprises regional and country case studies.

EMDEs savings go to developed markets

Currently, a large portion of EMDEs savings is invested – often at low or negative returns – in financial centres in advanced countries. These capital exports are often channelled back to EMDEs in the form of high-yielding, short-term debt or portfolio investments, which increase financial vulnerabilities.

Over the past decades, many EMDEs, particularly in Asia and the oil-producing Middle East, have been running current account surpluses and building up foreign currency reserves as well as overseas assets. Between 2000 and 2021, EMDEs excluding China accumulated current account surpluses of $892 billion ($4.8 trillion including China)1.

These are only net capital exports; gross capital exports are much larger. In other words, while capital should be flowing from advanced countries, where it is abundant, to developing economies, where investment needs are much larger, aggregate capital flows are going in the other direction – they are flowing ‘uphill’.

Even in countries that are net capital importers (including most countries in sub-Sahara Africa), significant amounts of domestic savings are invested abroad in safe, hard-currency assets, instead of the local economy.

There are various reasons why developing countries may export capital, including a desire to build up foreign exchange reserves to build buffers and cushion against shocks; the repayment of old debt; a diversification of investments; domestic financial and macroeconomic instability; political instability; illicit flows; and a lack of long-term investment opportunities at home due to underdeveloped capital markets.

Tackling climate change is a global and urgent issue, and so is the Agenda 2030. We need to join forces, and learn from each other, to scale up sustainable finance and investment in the North and the South

Strengthening domestic financial resource mobilisation is key

Going forward, efforts need to be reinforced to strengthen domestic financial resource mobilisation for scaling up local climate-friendly, sustainable investments and reducing capital exports from developed to advanced economies.

A key element here is the development and strengthening of local currency bond markets. Digital technologies – including artificial intelligence, distributed ledger technologies, and the internet of things – provide an opportunity for emerging markets to develop new, innovative fundraising approaches and reinvent how capital market infrastructure and instruments are built to serve the specific financing needs of companies in emerging markets, as well as the needs of the local investor base (Chen and Volz 2021, Dikau et al 2022).

Fintech and blockchain-based solutions can facilitate domestic resource mobilisation for sustainable investments and at the same time improve the implementation of infrastructure projects throughout the entire life cycle by facilitating processes and enhancing transparency (Chen and Volz 2021).

The tokenisation of bonds and shares can enable citizens in emerging markets to become investors with smaller amounts of savings, while digital aggregation of these micro-investments helps to raise additional sustainable investment capital.

For instance, the Government of Kenya has raised money for infrastructure projects by issuing retail bonds that could be bought by small-scale individual investors on their mobile phone. Such approaches have the added benefit of not only unlocking more local currency capital, they also help to diversify the investor base with local investors (Dikau et al 2022).

This also helps to shift accountability and interest payments from often being a relationship between the government (for government securities) and foreign creditors to also becoming a relationship between the government and the national population.

Activating institutional investors and multilateral development banks

While tokenisation helps to attract a new investor base, there is also a need for aggregation to entice institutional investors, both domestic and foreign, who usually have minimum investment requirements (Schoenmaker and Schramade 2019).

Aggregation is needed as many renewable energy and energy efficiency projects are small in scale. Through standardisation and aggregation, smaller loans and assets can be bundled to reach the size institutional investors are demanding. Efforts should thus be undertaken to grow aggregation facilities to enable smaller borrowers (including corporations and municipalities) to tap capital markets.

For example, municipal finance agencies, modelled on those in Europe and North America, could be set up to borrow on wholesale markets – supported in an establishment phase by guarantees from the government or multilateral development banks (MDBs) – and channel funds to small and medium-sized cities.

MDBs as well as national development banks (NDBs) need to assume a much greater role in financing infrastructure development and in advancing a just transition to a low-carbon, climate-resilient economy than they have done so far.

To achieve the Paris climate target of limiting global warming to well below 2°C and pursuing efforts to limit it to 1.5°C, high upfront investment is needed. This constitutes a big problem for EMDEs given that they face much higher cost of capital (Figure 1), a problem that is further aggravated by their climate vulnerability (Buhr et al 2018, Kling et al 2018).

Concessional finance by MDBs is even more important at a time when interest rates across the major advanced economies are rising, a large number of EMDEs are facing severe debt problems, and private capital flows to EMDEs are drying up.

Figure 1. Cost of capital for a solar PV project, 2021

Source: IEA (2021).

Because MDBs can refinance themselves cheaply, they can provide much-needed concessional financing to EMDE governments. Importantly, both MDBs and NDBs – whose missions should be updated with the goal of supporting a just, net-zero transition – can use a tried-and-tested method of leveraging private sector finance for development: they can issue (sustainable) bonds and borrow from markets.

MDBs in particular can absorb large amounts of private domestic and international capital at cheap rates and on-lend it to developing country governments at low rates, or directly finance projects through equity or loans.

Empowering national development banks

MDBs and development finance institutions, along with global funds such as the Green Climate Fund, the Global Environment Facility and the Climate Investment Funds, can also capitalise existing or new NDBs and make sure they have high governance standards. They can thus improve the standing and credit ratings of NDBs in capital markets and help them raise further capital in private markets more cheaply.

As mission-oriented institutions, national and international public development/climate banks can finance activities with uncertain returns and positive externalities that private finance is unwilling to fund (Griffith-Jones and Ocampo, 2018).

Importantly, key areas of development such as physical infrastructure, education, and healthcare will (and should) never generate the returns that private investors are looking for, creating a gap that NDBs and MDBs need to fill.

While domestic resource mobilisation needs to be a priority for most emerging economies, efforts should also be undertaken to attract more patient international capital. Country platforms, which are now being explored by GFANZ, could act as aggregation facilities that attract international private capital.

However, expectations need to be set straight. Whereas targeted public subsidies can be catalytic for financing development, limited amounts of ODA must be employed carefully and should not be used to de-risk private investment and guarantee double-digit returns for international banks and asset managers. If public guarantees are involved, the public should also reap the benefits and not merely take potential losses to safeguard private returns.

Getting the framework conditions right

The availability of capital at affordable cost is just one precondition to unleash the potential for long-term sustainable investment. A critical factor for any kind of private investment, be it national or international, is to get the broader framework conditions right. Besides political and macroeconomic stability, investors need predictable and transparent national laws and administrative procedures for investment operations.

It will be also important to address the looming debt crisis in the Global South that is impeding much-needed investment. Governments that are overindebted cannot invest, and countries facing a sovereign debt crisis will not attract private investment either.

Many EMDEs will need to have their debt restructured before public and private investment can resume. The G20 should therefore reform the Common Framework and turn it into a useful structure for delivering speedy and efficient debt relief for all EMDEs (and not just low-income countries) that need it.

Debt relief should not only provide temporary breathing space; it should empower governments to lay the foundations for sustainable development by investing in strategic areas of development, including health, education, digitisation, cheap and sustainable energy, and climate-resilient infrastructure (Volz et al 2020, 2021).

Debt relief should hence be linked to strategies that align the policies and budgets of debtor countries with the Agenda 2030 for Sustainable Development and the Paris Agreement.

Concluding remarks

Concerted efforts are needed to scale up sustainable finance and investment in the Global South. There are no silver bullets, but a host of measures that can help to generate much-needed investment in climate action and other areas needed for achieving the SDGs.

There is an urgent need to take stock of current approaches to mobilising and scaling domestic and international climate and development finance; assess the successes, limitations, and failures of these approaches; and put forward policy recommendations for development cooperation for helping partner countries in strengthening domestic financial resource mobilisation and attracting patient international capital.

Tackling climate change is a global and urgent issue, and so is the Agenda 2030. We need to join forces, and learn from each other, to scale up sustainable finance and investment in the North and the South.


Buhr, B, U Volz, C Donovan, G Kling, Y Lo, V Murinde and N Pullin (2018), Climate Change and the Cost of Capital in Developing Countries, Imperial College London, SOAS University of London, UN Environment.

Chen, Y and U Volz (2021), “Scaling up sustainable investment through blockchain-based project bonds”, Development Policy Review 40(3), e12582.

Dikau, S, M Haar and U Volz (2022), “Enhancing Digital Sustainable Finance: Digital Solutions to Mobilise Capital, Assess Environmental Risks and Enhance Financial Inclusion”, T20 Policy Brief (Task Force 9: Global Cooperation for SDG Financing), T20 Indonesia.

Griffith-Jones, S and JA Ocampo (eds) (2018), The Future of National Development Banks, Oxford University Press.

IEA – International Energy Organisation (2022), World Energy Outlook 2022, Paris.

Kling, G, YC Lo, V Murinde and U Volz (2018), “Climate Vulnerability and the Cost of Debt”, SOAS Centre for Global Finance Working Paper No.12/2018, SOAS University of London.

Kraemer, M, D Schoenmaker and U Volz (2022) “Build now, pay later: Frontloading poor countries’ climate mitigation investment”, VoxEU, 11 October.

OECD – Organisation for Economic Co-operation and Development (2022), “ODA Levels in 2021 – Preliminary data”, Detailed Summary Note, 12 April.

Schoenmaker, D and W Schramade (2019), “Financing environmental and energy transitions for regions and cities: Creating local solutions for global challenges”, OECD Background Paper.

Schoenmaker, D and U Volz (eds) (2022), Scaling Up Sustainable Finance and Investment in the Global South, CEPR Press.

Volz, U, S Akhtar, KP Gallagher, S Griffith-Jones, J Haas and M Kraemer (2020), Debt Relief for a Green and Inclusive Recovery, Heinrich-Böll-Stiftung, SOAS University of London and Boston University.

Volz, U, S Akhtar, KP Gallagher, S Griffith-Jones, J Haas and M Kraemer (2021), Debt Relief for a Green and Inclusive Recovery: Securing Private-sector Participation and Creating Policy Space for Sustainable Development, Heinrich-Böll-Stiftung, SOAS University of London and Boston University.

This article was originally published on VoxEU.

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