Blended finance: Mobilising capital to avert Africa’s climate crisis

March 2023

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This month, the Intergovernmental Panel on Climate Change (IPCC), an advisory body to the UN, published its latest report on global warming. The conclusions were alarming: hitting the target of ensuring that the world’s temperature does not rise by more than 1.5°C is all but impossible, with this ceiling likely to be breached by as early as 2030.

In Africa, the effects of climate change are all too familiar. In February and March, Cyclone Freddy – the most powerful and longest-lasting tropical cyclone ever recorded – wreaked havoc in southern Africa. Almost 700 people are known to have been killed by the storm and 500,000 displaced. The economic consequences were similarly devastating, with infrastructure destroyed, and crops and livestock decimated. Unfortunately, Cyclone Feddy was by no means a freak happening. From drought in East Africa, to flooding in Nigeria, climate change induced weather events are increasingly plaguing Africa. Unfairly, the continent is the global region most vulnerable to climate change, despite being the lowest producer of greenhouse gas emissions.

Action is clearly needed. Already significant resources have been directed towards climate change-related projects in Africa. However, there still exists a vast financing gap between the investment that is required, and the funds that have been deployed. By the estimation of the think tank the Climate Policy Initiative, Africa needs USD 277 billion annually to meet its 2030 climate goals under the Paris Agreement. While traditionally climate finance has been the domain of multinational and public sector institutions, private investment in this space is growing at pace. A key driver of this trend has been the growing use of blended finance. This month, the Green Climate Fund (GCF), a USD 12 billion international climate finance facility, announced its largest ever African equity commitment. Deployed in a fund to attract private capital, the investment reflects a growing understanding that climate change in Africa can only be tackled by the convergence of public and private capital.

Blended finance: Catalysing private sector investment for impact

The term blended finance is becoming increasingly recognised, but what does it mean? While definitions vary, they have a common focus: the use of catalytic finance from public or philanthropic sources to increase private sector investment in sustainable development. At its core, blended finance is a structuring approach. Funders with different capital types are able to invest alongside one another in the same investment vehicle, to achieve a set of common environmental and social objectives.

Blended finance works by public or philanthropic funders, such as development finance institutions or foundations, deploying capital to mitigate risk or ensure a guaranteed financial return for private co-investors. This is achieved through the use of varied blended finance structures – often in combination – including concessional capital, first-loss capital, guarantees, and grants. The technicalities differ, but the outcomes are similar: public and philanthropic funders absorb capital losses before private investors, and/or accept lower earnings to ensure their private-counterparties receive their desired financial return.

Sub-Saharan Africa: The centre of blended finance investment in climate-focused projects

To date, Sub-Saharan Africa (SSA) has been the dominant global region for blended finance: it ranks first both in terms of the number of blended finance transactions completed and the amount of capital deployed. According to the most recent data published by Convergence, the global network for blended finance, between 2016 and 2021, 41 percent of blended finance transactions occurred in SSA. Likewise, by deal value, SSA also ranked top: of the USD 5.4 billion of blended finance invested globally in 2021, USD 1.56 billion – 29 percent – was directed towards SSA.

The significant flow of blended finance into SSA is largely a result of the region’s pressing development needs. However, it has also been influenced by the often adverse risk perceptions that private investors have of SSA. As noted above, risk mitigation is a key characteristic of blended finance, and investing alongside public and philanthropic funders provides private investors with security against capital loss.

Of the blended finance transactions that have occurred in Africa, many have related to climate change. At an industry level, climate change has consistently been a major thematic focus of blended finance – climate-oriented transactions accounted for over 50 percent of all deals launched since 2011. In SSA, this dynamic has been pronounced, with the region accounting for 47 percent of all blended finance climate deals from 2016 to 2018, and 41 percent between 2019 and 2021. Aside from the Infrastructure Climate Resilient Fund (ICRF – see below text box), other high profile climate-focused blended finance vehicles in Africa include the African Development Bank’s Sustainable Energy Fund for Africa, which since 2011 has provided catalytic finance to unlock private investment in renewable energy. At a country specific level, the Sahofika Hydro Power Project, funded by public and private capital and structured with a partial risk guarantee of USD 100 million, will increase clean energy generation in Madagascar.  

Infrastructure Climate Resilient Fund
Current investors: Green Climate Fund (anchor), Africa Finance Corp. Fund manager: AFC Capital Partners First fund raise target: USD 750 million Blended finance structure: First-loss capital Geographies: Cameroon, Chad, Côte d’Ivoire, Democratic Republic of the Congo, Gabon, The Gambia, Guinea, Mali, Namibia, Nigeria, Sierra Leone, and Togo Focus: Develop climate resilient infrastructure by investing in greenfield and brownfield infrastructure that integrate scientific climate-resilient measures in the planning, design, development, and operational stages, in accordance with the Paris Agreement on climate change.

Blended finance must target climate adaption in Africa

While the significant, and growing, volume of blended finance being deployed on climate-orientated investments in Africa is undoubtedly positive, the focus of these deals must broaden. Historically, at a global and African level, blended finance has focused on climate change mitigation, for example, renewable energy generation, rather than adaptation. Between 2019 and 2021, according to Convergence, 60 percent of climate blended finance transactions in SSA related to mitigation, eight percent to adaptation, and 33 percent to hybrid projects. Although the ICRF will buck this trend, investing in climate resilient infrastructure, it remains a relative outlier, with most funds continuing to focus on mitigation.

In the here and now, however, climate adaptation is a more pressing priority in Africa. Numerous countries on the continent are already dealing with the severe impacts of extreme weather events. Increasing clean energy generation – most of which will not come onstream for many years – ranks below bolstering climate resilience in urgency. Building costal defences, reinforcing infrastructure, planting forests, and diversifying crops are measures that need to be implemented yesterday, and will enable African countries to better ride out future weather shocks.

Blended finance has a particular ability to draw investment into African climate adaption projects. A key reason for the lack of investment in climate adaption compared to mitigation is that the former does not generate as strong financial returns. Whereas a solar PV project plant produces electricity that can be sold to offtakers or directly power industry, similar revenue streams are often not associated with adaption projects. Blended finance, however, can guarantee specified financial returns to private investors, while also mitigating broader risk concerns around investing in Africa, thereby attracting new sources of private capital.

Retaining focus: Growing blended finance investment in African climate-orientated projects

Africa has benefitted from being at the centre of the global blended finance industry, with the continent receiving particularly high levels of investment in climate-related projects. Public and private investors alike, however, can not rest on their laurels. The climate shocks faced by Africa will only continue to grow, and these challenges must spur a renewed commitment by public, philanthropic, and private funders. Only by catalysing new levels of private investment in Africa can the continent hope to weather the metaphorical, and literal, incoming storm that it faces.