International Investment Pushes Past and Present: Introducing the Blog Series
Political winds may have shifted in some major powers, but reality has not: a global investment push is needed. Only 18 percent of the Sustainable Development Goals (SDGs) are on track, setting the world on a course for low growth, instability and the mass waste of human potential. Last year was the hottest on record and the world is on the verge of blowing past the Paris Agreement’s 1.5 degrees Celsius warming target, with additional warming projected to cause trillions of dollars of economic damages and push billions of people’s home regions outside historic conditions of habitability.
Development and climate action on the requisite scale will require trillions of dollars of investment: to build schools and hospitals, to install transmission lines and fiberoptic cables and to climate-proof roads and construct sea walls. The key obstacle to this investment concerns where much of it must take place: in capital-scarce developing countries. While advanced economies could plausibly finance much of their investment needs through domestic resources, a significant share of the finance in developing countries will have to come from external sources. This necessary level of external finance far outstrips existing flows from sources like overseas development assistance, multilateral development banks (MDBs) and private finance and foreign direct investment.
Two primary sets of doubts surround the feasibility of this scale of international investment in developing countries. First, there are doubts surrounding potential financier countries: generating trillions of dollars per year in finance to developing countries can be seen as politically unrealistic, especially when many donor countries are cutting aid and other international finance. Second, there are doubts about destination countries: skeptics argue that developing countries would be unable to effectively absorb and utilize such large-scale inflows. While these are real challenges, to accept either set of concerns as insurmountable would amount to an implicit admission that climate change will reach critical levels and development will not advance at the globally agreed pace.
Fortunately, there is historical precedent for the type of investment push needed in the present, both in terms of countries providing external finance on a similar scale and in terms of countries successfully utilizing equal or greater international financial inflows. This blog series will explore four such case studies: the Marshall Plan, US support to South Korea in the aftermath of the Korean War, the Highly-Indebted Poor Countries Initiative (HIPC) and the European Union’s support to poorer members. Not only do these examples show that large-scale international finance can be successfully executed, they also provide vital lessons for the political, economic and institutional strategies that can turn the investment push needed in developing countries today into a reality.
Global investment needs in the present
While estimating global development and climate investment needs is an extremely complex task, various estimates coalesce around figures that would require trillions of dollars in additional investment in developing countries.
Perhaps the most widely cited figures are those of the International High-Level Expert Group (IHLEG) on Climate Finance. Just to meet the Paris Agreement, they estimate that emerging market and developing economies other than China will need to invest $2.3-2.5 trillion per year by 2030, a quadrupling of current levels. Of that sum, $1 trillion will need to come from external sources—an $850 billion increase from current levels—with a roughly even split between public and private sources.
Another prominent set of estimates comes from the Climate Policy Initiative (CPI), which has calculated both top-down estimates based on sectoral analysis and bottom-up estimates. The bottom-up estimates are based on countries’ self-declared climate finance needs in documents like their Nationally Determined Contributions (NDCs) and National Adaptation Plans. CPI’s top-down estimates find that climate finance needs—for developed and developing countries—amount to $7.5 trillion per year until 2030, with $212 billion per year specifically needed for adaptation in developing countries.
While CPI’s bottom-up estimates are limited by the fact that many countries have not submitted explicit estimates of climate finance needs, their research finds reported needs of at least $400 billion, with over one-third of this sum coming from Sub-Saharan Africa. According to CPI, countries report that at least 47 percent of this sum will have to come from international sources. These estimates are fairly similar to those of the United Nations Framework Convention on Climate Change’s (UNFCCC) Needs Determination Report, which finds that at least $455-584 billion per year is needed by 2030 to meet countries’ NDCs. This figure is based on the 98 countries that provided costed needs estimates, a number that excludes many developing countries.
In terms of development investment needs beyond climate action, the G20 Independent Expert Group on Strengthening MDBs built on the IHLEG’s figures to estimate that an additional $1.2 trillion per year beyond current levels—including both external finance and domestic resources—would be needed in these countries to achieve other SDGs. The United Nations estimates that an additional $4 trillion per year is needed to enable developing countries to achieve the SDGs. For the five-year period of 2025-2029, the International Monetary Fund has estimated that $3.5 trillion is needed to significantly progress just five of the 17 SDGs: education, health, road infrastructure, electricity access and water and sanitation (including climate needs in these sectors).
Other demands for large-scale investment supported by external finance are likely to emerge. The prevalence of destructive violent conflicts will generate needs for costly post-conflict reconstruction programs. Further, population growth in certain regions—particularly Sub-Saharan Africa—means that countries would need to expand infrastructure just to keep up existing levels of access to essentials like education, energy and health care.
Implications of a scale-up in external finance
While the exact contours of climate and development investment needs estimates vary, they coalesce around annual needs in the low single-digit trillions of dollars, with external finance needs likely in the range of $1-2 trillion per year. Although country-specific estimates are limited, this suggests that many developing countries will need to receive several percentage points of their gross domestic product (GDP) in external finance, and potentially significantly more in certain countries (according to the World Bank, low- and middle-income countries’ GDP amounts to $39 billion).
For high-income countries whose GDP amounts to $71 billion, 1-2 percent of GDP will likely need to flow to developing countries. This is simultaneously a relatively modest sum compared to the scale of the broader economy and will require multiplying current financial flows to developing countries several-fold.
This need for a significant scaleup in external finance to developing countries creates several important dynamics. For financier countries, it will require an institutional architecture and policy framework that can deliver large-scale financing flows. Building the narrative, interest alignment and political constituency to back this project is no simple task at a time when many developed countries’ are cutting back international public finance and the private sector is reluctant to invest in developing countries.
For developing countries receiving several percentage points more of GDP in external finance, questions of absorptive capacity come to the fore. The scaleup of external finance depends on the development of a robust project pipeline, as well as the administrative and technical capacity to execute these projects. If finance is not delivered on concessional and grant-based terms, the necessary level of borrowing would raise debt sustainability concerns, particularly if global interest rates remain high. The scale of external financial flows will also need to be managed carefully to preserve macroeconomic consistency.
Past international investment pushes
As challenging as this task may seem, the past precedent of international investment pushes bolsters the case for its viability. This blog series will examine four examples of large-scale international investment pushes. They exhibit diversity in time period, the countries involved, their bilateral or multilateral nature, and the form and organization of external finance, bolstering their ability to provide lessons for the investment push needed in the present.
The four case studies were all relatively successful in meeting their goals. The Marshall Plan sparked impressive growth and enduring economic relationships between the US and Europe, a sharp turnaround for a transatlantic economy devastated by decades of war and economic depression. US aid to South Korea similarly contributed to both US geopolitical aims and South Korea’s extraordinary economic development, which remains one of the most rapid increases in GDP and quality of life indicators in history. While HIPC has been less effective at creating durable debt sustainability, it did generate meaningful increases in development spending, especially on health and education. In the case of European Union support to poorer members, it can be difficult to isolate the effects of structural funds, but there is evidence of their positive effects and many poorer EU members have demonstrated extremely impressive growth.
The following table provides an overview of the four case studies to be examined. It provides illustrative figures on the scale of investment relative to GDP, but it should be noted that constructing such estimates relies on various assumptions and imperfect historical data:
[2] Based on countries’ 1950 GDP, compared to scale of Marshall Plan aid to the country. Of major recipient countries, the Marshall Plan amounted to 1.8 percent of GDP in France, 1 percent in Germany, 1.3 percent in Italy, 3.4 percent in the Netherlands, and 1.7 percent in the UK. However, it reached even greater shares of GDP in smaller countries, such as 4.6 percent in Greece and 3.8 percent in Norway. Note: pre-1950 GDP is difficult to find, so this calculation is based on the 1950 GDP of the respective countries listed in the OECD’s Maddison report. That report provides 1950 GDP figures in 1990 international dollars, so the GDP figures were divided by 5.42, a conversion derived from the increase in the average annual CPI between 1950 and 1990. That adjusted 1950 GDP figure was multiplied by three to reflect the three-year span over which cumulative Marshall Plan investment took place, and compared to Gardner’s cumulative ECA aid allotment figures.
[3] Based on the peak amount of $357 million in economic aid from the US to South Korea in 1957, using 1957 nominal GDP in USD for the US and South Korea.
[4] See previous note.
[5] Funding for HIPC and MDRI came from a range of sources, including from international financial institutions’ resources that are difficult to attribute to any one country. However, total debt relief under HIPC and MDRI amounted to around $100 billion, equivalent to 0.3 percent of high-income countries’ GDP in 2000. Because debt relief was spread over multiple years, it was almost certainly less than 0.1% of their GDP in any given year.
[6] Debt relief was often spread over a number of years, so it can be difficult to measure in comparison to GDP. However, figures on reductions in nominal debt service relief due to HIPC and MDRI in a given year provide a helpful comparison. For example, Liberia paid $274.2 million less debt service in 2012-13, equal to 9.8 percent of its nominal GDP for 2012. Burundi paid $60.6 million less debt service in 2011, equivalent to 3 percent of its nominal GDP.
[7] EU structural funds come from the general EU budget, to which contributions vary by country. Wealthier countries are net contributors of funds while poorer countries are net recipients. Germany is the largest contributor to the EU budget, accounting for about 20 percent of the total. EU structural funds averaged funding of €49 billion per year from 2007-2013, meaning that Germany’s approximate annual contribution would have been €9.8 billion. This amounts to 0.4 percent of Germany’s 2007 GDP. This likely represents a ceiling for contributions, with remaining net contributors at varying levels above zero.
[8] For major net recipients of EU structural funds in the 2007-2013 cycle, available funds averaged 2-4 percent of GDP. For example, these funds amounted to 3.6 percent of Hungary’s 2007 GDP, 2.9 percent for Latvia and 2.5 percent for Poland. Smaller net recipients would have received a smaller share of their GDP in structural funds, but still a positive sum.
As the table shows, the case studies exhibit significant diversity but demonstrate precedent for the scale of investment needed for today’s global investment push. At its peak South Korea was receiving 21 percent of its GDP in American economic aid, much larger than total projected needs for developing countries today. While examples of countries providing 1-2 percent of GDP in international finance are rarer, the US provided 1 percent of its GDP for the Marshall Plan, a figure that does not count the US’ international finance to parts of the world outside Europe.
Although these investment pushes demonstrate diversity in terms of the number of destination countries, from one in the case of Korea to 39 in the case of HIPC/MDRI, none match the quantity of destination countries required for today’s investment push. For this investment push to achieve broad-based development and address a global challenge like climate change, a surge of external finance across more than 100 capital-scarce Global South countries is needed.
What to look out for
Over coming months, I will publish blogs on each of the four case studies. Each blog will explore several key questions: How did the initiative come into being? What was its design and impact? And what lessons does it offer the investment push needed today? A concluding blog will synthesize those lessons.
Especially in a moment when investment needs so far outstrip the available financing, there is even less room for error in the design and strategy of international finance. Learning from past examples where countries did successfully commit to and execute large-scale international finance offers essential insight into the challenges of today. And as the first case study will show, international investment pushes do not only come when times are good. As far away as a global investment push for development and climate may feel now, those watching the horrors of World War II unfold in the 1940s would likely have doubted that an international economic development program as ambitious as the Marshall Plan would materialize just a few years later.