Context: It is estimated that about $90 trillion of infrastructure investment is needed globally to achieve global growth expectations, particularly in developing countries, by 2030.1 Hence infrastructure investment needs to be scaled up and integrated with climate risks in order to prevent a reversal of development gains. This calls for a shift to low-carbon and climate-smart infrastructure. Despite the recognition of the attractiveness of investing in climate-smart infrastructure2 (competitive returns), financial institutions in Africa are unable to deploy capital to high potential projects outside of their conservative risk appetite. Overcoming this barrier means abandoning the current unattractive and inadequate risk-return investment profile. This calls for a facility outside the traditional concessional funding to de-risk an infrastructure project financing structure into a viable and bankable project.
Opportunity: By leveraging the technical assistance to deliver project preparation, as provided by bilateral and multilateral aid agencies and development finance institutions, creditworthy project sponsors are steadily building a pipeline of bankable projects but there is a significant gap between bankable opportunities and financial closures. The Green Finance Guarantee Facility (GF2) will help overcome obstacles faced by financial institutions and their credit committees on the mitigation of real or perceived risk. More so, the GF2 can be used as a means to crowd in investment capital to reap innovative and high impact climate smart infrastructure projects that may not yet have a commercial track record.
Challenge: While there exist bankable climate-smart infrastructure projects that have had financial closures, there numbers are few and are evaluated against traditional risk-return investment profiles. This profile evaluates climate-smart infrastructure projects from a financial viability perspective over an economic viability perspective (evaluating project costs (capital, operating and nonfinancial costs) against project benefits (revenues, nonfinancial benefits, avoided environmental costs of carbon emissions, improved productivity etc). More so, climate-smart infrastructure projects do not have a clear payback model and do not generate the returns to investors against the market financing rate of the projects. Hence, most climate-smart infrastructure investments fail to progress and obtain financial closures.
Example: A Renewable Energy Project in the Global South seeking Construction Finance
Intervention: The GFI will use CGEF to de-risk investments by financial sector stakeholders, particularly long-term institutional investors, into climate-smart infrastructure. The aim is to change the perception of risk associated with climate-smart infrastructure projects to make financing possible. The facility uses alternative blend funding to attract local currency financing into local climate-smart infrastructure projects. The facility aims to solve existing green finance market problems as illustrated in the table below:
|MARKET FAILURE||PROPOSED GF2 SOLUTION|
|Various risks act as investment barriers to crowd-in local and international private sector investors for infrastructure related projects in the emerging economies||Using impact-based public money to seed a facility to de-risk investment and crowd-in local and international private sector investors that provide long term competitively priced funding|
|Commercial and political risks translate to high financing costs leaving the economics for projects unviable||Uses currency convertibility/availability risk for USD/EUR funded projects in commodity-based economies and potential nationalisation risk which discourages local currency investment accessing local debt capital markets (DCM)|
|Projects with adverse climate impacts continue to be built due to perceived cheaper long-run costs, locking in further emissions for decades to come, with less economically developed countries set to suffer disproportionate financial and social losses due to climate change||Supporting the funding of projects that mitigate or adapt to climate change in middle and low-income southern hemisphere countries.|
|There is a lack of specific focus on climate-friendly projects with existing facilities, which risks locking in further long-term emissions. A climate and social justice lens are essential for all future investments||The facility will have a specific mandate to invest into clean infrastructure projects, alleviating long-term impacts of climate change on less economically developed countries|
The GF2 funding structure comprises three guarantee facilities of differing natures, with appropriate funders identified for each1. The guarantee covers political and commercial (P&C) risks2 by enabling “FundCo” to provide competitively priced long-term funding to climate-smart infrastructure projects, based on GF2 altering the credit risk profile for investors into FundCo. The funding goes towards identified and approved climate-friendly projects in local currency. The Guarantee fees paid by FundCo represent the credit risk spread/delta between invested return from subordinated and senior guarantee facilities and required return. The GF2 constituent facilities are invested into appropriate instruments, with returns on the grant facility capitalised to increase facility size, whilst other two do not capitalise returns.
Similar to other guarantee mechanisms, the GF2 helps to reduce the risk profile of projects by raising the credit rating of a sponsor and associated financial request to meet the minimum mandated expectations of institutional investors. The innovation behind the GF2 is two-fold: (1) the exclusive focus on climate-smart infrastructure and (2) the blend of public and private funds to achieve financial sustainability and scale.