Why Climate Finance Discussions at COP28 Will Be Incomplete Without a Reformed International Financial Architecture
With the 28th United Nations Climate Change Conference (COP28) in Dubai underway, countries are yet to resolve major questions on closing the gap on both climate finance and ambition. Most notably, last year’s key decision to establish a loss and damage fund, has long been mired in debate. Although the fund has now been agreed, countries’ pledges have so far provided it with miniscule funding relative to the scale of need.
Other incomplete climate finance promises continue to haunt these negotiations. The pressure of these shortcomings will be underscored at COP28 by the first UN Global Stocktake, which will show the extent to which countries are meeting necessary climate action to limit warming to 1.5C.
Unlocking the magnitude of resources and ambition required for a resilient and livable future demands wider-ranging reforms than those currently on the UN’s climate finance negotiations table. There are systemic flaws in the international financial architecture that, if unaddressed, threaten to leave climate action inaccessible to Global South countries—rendering global climate goals out of reach.
There are three key sets of reforms that are necessary to unlock the full potential of global climate action: creating a more responsive debt restructuring framework, ensuring governments can direct domestic revenue to climate and development goals, and mobilizing more and better external finance.
First, the global financial system needs to ensure debt distress does not drain Global South countries’ resources. A polycrisis of external shocks has caused debt levels in emerging market and developing economies to double since 2008, with sovereign debt now reaching $3.6 trillion. Governments that are paying a majority of their revenue to service debt cannot quickly build out solar farms and develop early warning systems for disasters. And climate-vulnerable countries suffer most: not only do they have to use their limited budgets to address climate damages, their borrowing costs go up as investors deem climate-vulnerable countries riskier destinations for investment.
Debt-distressed countries will need their debt restructured, with debt relief not just clearing the low bar of avoiding default but also providing sufficient fiscal space for countries to launch green investment. The Group of 20 (G20) Common Framework is still too slow and providing insufficient relief. A more comprehensive approach would accelerate meaningful debt relief from bilateral and multilateral creditors as well as private creditors, who hold a majority of developing countries’ debt. Private creditors have thus far obstructed debt relief efforts, but they could be compelled to participate by proposed bills in New York state, whose law governs half of all global sovereign debt.
Second, governments need to be able to direct their fiscal resources and regulatory capacity towards climate action. Hundreds of billions of dollars that could be spent on climate never make it into the public coffers due to tax abuse from corporations and wealthy individuals, with lower-income countries losing the largest proportion of tax revenue to profit shifting. The Organisation for Economic Co-operation and Development (OECD)’s agreement on a 15 percent global minimum corporate tax constitutes some progress, as it would limit corporations’ ability to avoid taxes and also reverse a race to the bottom where countries reduce taxes to attract investment. However, implementation challenges, limited ambition and the outsized voice granted to rich countries has led many Global South countries to push for a UN Tax Convention. In fact just recently, a resolution for this convention was voted on and adopted at the UN General Assembly. Separately, an International Financial Transactions Tax could help generate significant revenue to advance shared development and climate goals.
Third, current governance systems result in an inequitable spread of resources. Special Drawing Rights (SDRs), the International Monetary Fund (IMF)’s reserve asset, provide a low-cost liquidity lifeline for countries that struggle to access foreign currency and do not cost rich countries anything to create. The creation of $650 billion in SDRs in 2021 offered an essential boost to Global South countries responding to the COVID-19 pandemic, but they did not fully meet the scale of needs and—because of the IMF’s unbalanced governance system—most SDRs went to rich countries that did not need or use them. A new allocation of SDRs and better rechanneling of existing SDRs would enable greater climate spending. Grant money would be even more beneficial for Global South countries—and while grants are not as costless for rich countries like SDRs, they could still meet their climate finance and foreign aid commitments while hardly making a dent in their budgets.
Multilateral development banks (MDBs) will also need to play a key role in providing external financing for climate action, contributing their unique ability to leverage donor contributions into a far greater amount of financing. A G20 Independent Expert Group estimates that MDBs will need to triple in size by 2030. The World Bank and Asian Development Bank have unlocked tens of billions of dollars in additional annual lending by stretching their balance sheets, but these reforms only provide a fraction of the additional finance they will need to provide. The rich countries that dominate the governance of MDBs will need to put up new money to enable greater financing. Significant increases in concessional finance will be particularly important to make climate spending a more attractive investment and reduce debt risks for borrowing countries, especially in an environment where high interest rates have made climate investments much more costly.
Building an international financial architecture that allows Global South countries to take necessary climate action is possible. The scale of additional finance that must be mobilized is large relative to existing climate spending, but several trillion dollars amounts to just a few percentage points of global GDP—a more than reasonable price to pay for averting climate catastrophe. And, rather than providing climate finance at the cost of development, international financial architecture reform would enable a global response to climate change that also delivers long-overdue structural economic transformation.
Negotiators at COP28 should keep up the fight on issues like loss and damage and the $100 billion, but they should see them as part of a broader fight to build green, climate-resilient and thriving economies in the Global South. Climate goals cannot be met without climate action in the Global South, and there can be no climate action in the Global South without reform of the international financial architecture.
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