By Daniela Chiriac and Rosaly Byrd
October 18, 2021
Since its launch in 2014, the Global Innovation Lab for Climate Finance (the Lab) has developed 55 financial instruments, 18 of which are designed to tackle the barriers that exist to financing sustainable agriculture, forestry, and other land use (AFOLU). Several of these are examples of how financial instruments can leverage existing tools used by governments to support the AFOLU sector, particularly national regulations and public finance levers.
The experiences of these Lab instruments shed light on how leveraging policy tools can lead to overcoming barriers to success. This brief seeks to inform the development of new sustainable AFOLU financial instruments, as well as replication of existing ones in new geographies. This is particularly important given the finance gap in this sector and the limited public finance available, which therefore has to play a catalytic role in attracting private capital.
By presenting the lessons of these Lab-endorsed instruments, as well as those found in relevant literature, the brief shares potential risks and design insights that can help to maximize chances of success.
The three instrument designs highlighted in this brief utilized policy tools in different ways:
Leveraging national regulations can overcome barriers related to identifying pipeline and demonstrating impact. The Lab’s Responsible Commodities Facility, a credit facility that aligns lending conditions with national land use frameworks, uses such a model. Key design considerations to mitigate potential risks include:
- In contexts of weak regulations, setting realistic but ambitious lending conditions to strengthen climate and sustainability efforts;
- Implementing strong monitoring systems to avoid unintended impacts and aid in enforcement of regulations;
- Seek coherence with local, national, and internationally agreed climate objectives to mitigate the risk of political change; and
- Marketing the benefits of sustainable practices to stimulate demand.
Drawing on government subsidies for insurance premiums can stimulate demand for the product, generate socio-economic impact, and help in fundraising. The Blockchain Climate Risk Crop Insurance highlights when and how such subsidies should enter into the instrument. In designing such an instrument, considerations to keep in mind include:
- The temporary use of subsidies to avoid market distortions and politicization;
- Specific timing of subsidy uses to minimize market distortion and help commercial viability;
- Choosing an index-based design to mitigate the risk of reduced due diligence;
- Bundling insurance with inputs and services to reduce politicization risks.
Expanding the amount of sustainable projects covered by subsidized rural credit can lead to increased loan demand and repayments, and stimulate capital investments. The Conexsus Impact Fund, with a goal of greening Brazil’s Pronaf credit line, is an example of such an instrument design. Key recommended design considerations include:
- Aligning with relevant subsidized credit lines to ensure complementarity;
- Partnerships with local financial institutions to encourage other market actors’ participation;
- Provision of financial literacy assistance to help increase borrowers’ credit worthiness and their future access to commercial finance.
Each case reveals ways that instruments can overcome barriers to investments that are frequently identified with the sector. The three designs have in common the ability to:
- Stimulate demand of climate-relevant financial products
- Identify project pipeline
- Generate and demonstrate measurable social and environmental impacts
- Attract public, philanthropic and private investments
The analysis also shows that leveraging existing policy tools is not only a promising approach to addressing common sustainable AFOLU barriers, but can also complement national climate policies, thus contributing to climate objectives. This potential is considerable given the high level of support that governments generally provide to the AFOLU sector.
