June 2020 Transformative Climate Finance Contents Executive Summary ........................................................................................................................... 1 1 Introduction ....................................................................................................................................... 5 2 Current status of climate finance .................................................................................................... 12 3 Building blocks of transformative climate finance ........................................................................... 21 A. Project-based financing ............................................................................................................. 27 B. Green financial sector reform .................................................................................................... 41 C. Fiscal policies ............................................................................................................................. 55 D. Sector policies ........................................................................................................................... 68 E. Trade policy and green trade ..................................................................................................... 77 F. Innovation .................................................................................................................................. 91 G. Carbon markets ....................................................................................................................... 106 H. Climate intelligence and data .................................................................................................. 118 4 Enabling the transitioning to transformative climate finance ....................................................... 131 Annex A: Climate Finance Flows Methodology.............................................................................. 140 Annex B: Transitioning from a low- to a high-level climate finance equilibrium ........................... 148 References ..................................................................................................................................... 151 i Transformative Climate Finance List of tables Table ES1 Eight transformative climate actions can help countries transition to LCCR development pathways ........................................................................................................................................... 2 Table ES2 Summary of transformative climate action approaches and relevant climate finance instruments ....................................................................................................................................... 4 Table 1 Climate mitigation and adaptation priorities to support LCCR development across key areas ......... 7 Table 2 Estimated gross annual green investment needs to achieve LCCR mitigation priorities ................... 8 Table 3 Eight climate levers all support an accelerated and scaled-up response to climate change ........... 11 Table 4 Top 20 recipients of climate mitigation finance and their relative shares of developing country emissions ......................................................................................................................................... 17 Table 5 Top 20 recipients of climate adaptation finance and their relative shares of projected adaptation investment needs .......................................................................................................... 18 Table 4 This framework classifies climate finance into nine categories of instruments to support climate action ............................................................................................................................................... 22 Table 5 Summary of transformative climate levers and relevant climate finance instruments ................... 24 Table 6 Relevant climate finance instruments for project-based financing ................................................. 32 Table 7 Relevant climate finance instruments for financial sector reform .................................................. 50 Table 8 Relevant climate finance instruments for fiscal policy action.......................................................... 64 Table 9 Relevant climate finance instruments for sector-specific policy action .......................................... 73 Table 10 Relevant climate finance instruments for trade policy .................................................................... 86 Table 11 Relevant climate finance instruments for innovation .................................................................... 100 Table 12 Relevant climate finance instruments for carbon markets ............................................................ 113 Table 13 Relevant climate finance instruments for climate intelligence and data ....................................... 125 List of figures Figure ES1 International public climate finance falls far short of needs ............................................................ 1 Figure 1 The evolution of climate finance and carbon market flows since 2000 .......................................... 12 Figure 2 Overall flows of climate finance ...................................................................................................... 14 Figure 3 Shares of climate finance flows by channel ..................................................................................... 14 Figure 4 Shares of climate finance flows by instrument ................................................................................ 15 Figure 5 Shares of climate finance flows by theme ....................................................................................... 15 Figure 6 Shares of climate finance flows by region ....................................................................................... 16 Figure 7 Private sector co-financing .............................................................................................................. 19 Figure 8 Steps for the assessment of investment criteria of public funds ..................................................... 34 Figure 9 Global exports in LCCR goods represent around trillion of annual trade, two-thirds of which comes from OECD countries ............................................................................................................ 78 Figure 10 The value of export credit allocated to renewable sectors is eclipsed by export finance in non- renewable energy production ......................................................................................................... 89 Figure 11 Low carbon innovation (as measured by share of patents) peaked between 2005 and 2010, but has since seen a sharp decline......................................................................................................... 92 Figure 12 The role of climate intelligence and data stretches across two dimensions ................................. 120 Figure 13 Implementing a transition from a brown to a green development pathway can create short term costs even alongside long-term net gains ............................................................................. 132 Figure 14 A stylized presentation of low and high climate finance equilibria ............................................... 148 ii Transformative Climate Finance List of boxes Box 1. Key examples of development policy-based financing for sector policies ............................................ 75 Box 2. The negative impacts of trade on climate ............................................................................................. 78 Box 3. The state of EU BCAs in 2019 ................................................................................................................ 82 Box 4. Linking climate to trade agreements ..................................................................................................... 83 Box 5. Climate clubs and the Paris Agreement ................................................................................................ 84 Box 6. Climate-related innovation has delivered real innovation, but the pace of activity may be slackening ........................................................................................................................................ 91 Box 7. Carbon market design ......................................................................................................................... 108 Acknowledgments This report was authored by Vivid Economics, with support from the Climate Policy Initiative (CPI) and Jacquelin Ligot, Climate & Energy Solutions. The preparation of this report was supported by the World Bank. iii Transformative Climate Finance Executive Summary Despite the sizable growth in climate finance over the past decade, finance volumes fall far short of investment needs for developing countries and emerging economies to achieve low-carbon climate-resilient (LCCR) development in line with the Paris Agreement. While definitions can differ, annual flows of available international public climate finance are usually measured in the tens of billions of dollars, while annual LCCR investment needs are measured in the trillions of dollars. In general, available international climate finance meets less than 1.5% of annual climate investment needs for less-developed countries of around $4 trillion dollars until 2030,