The role of finance and investment in meeting the 1.5°C goal

In October, the IPCC released its assessment of what climate impacts we face if the world warms to 1.5°C and beyond and the scale of transformation needed to prevent this from happening. What is often overlooked is that the report also provides insight into the decisive role finance and investments play in reaching the goals of the Paris Agreement. This week, climate finance – funds for developing countries to enable low-emission and climate-resilient development – takes center stage as political leaders discuss how to ramp up climate ambition at COP24 in Katowice, Poland.

Here are the five key messages on the role of investments and finance for mitigation and adaptation, in particular for the most vulnerable countries.

Mobilising finance as an enabler for 1.5°C

While the costs for adaptation are expected to be lower for 1.5°C than for 2°C global warming, investments in emission reductions require significant upscaling to enable the rapid and far-reaching shifts in energy, land, urban, infrastructure and industrial systems (as outlined in the Summary for Policymakers of the IPCC Special Report on the impacts of global warming of 1.5°C). The report finds that in 1.5°C pathways “annual average investment needs in the energy system of around 2.4 trillion USD2010 between 2016 and 2035, representing about 2.5% of the world GDP”. By 2050, “annual investment in low-carbon energy technologies and energy efficiency need to be upscaled by roughly a factor of five” compared to today in 1.5°C pathways. The report suggests that the required resources can be mobilised by redirecting finance towards investment in infrastructure for mitigation and adaptation using public funds, and the involvement of institutional investors, asset managers and development or investment banks.

Making all financial flows compatible with 1.5°C

Realising the transformations towards a 1.5°C world requires a major shift in investment patterns and the financial system, according to the report.Not only do investments in climate action need to be urgently scaled up, investments in fossil fuels have to be phased out at the same time. Under1.5°C scenarios, global annual investments in low-carbon energy technologies are projected to overtake fossil investments already by around 2025.This is crucial for reducing the risk of locking in carbon-emitting infrastructure and stranded assets. For example, total use of coal in the power sector needs to be reduced from today’s 35% to only 3-10% by 2030, and down to zero in 2050. Through this the IPCC sheds light on how to achieve the long-term goal of “making finance flows compatible with a pathway towards low-emission and climate-resilient development” in Article 2.1c of the Paris Agreement. According to UNFCCC’s 2018 Biennial Assessment and Overview of Climate Finance Flows, this does not mean that all finance flows have to achieve explicitly beneficial climate outcomes, but that they must reduce the likelihood of negative climate outcomes.

Policy packages will play a fundamental role in facilitating this redirection of capital and assets. To mobilise public funds, policies should aim to phase out existing systems that may lock in emissions. This could include reducing or eliminating fossil fuel subsidies, which don’t contribute to reaching goals such as eradicating poverty, and transiting to flexible price and non-price mechanisms with lower social and environmental costs – like carbon pricing, phasing out coal and environmental regulations. Policies such as carbon pricing and mainstreaming of climate risk within financial and banking system regulations can also help reduce the demand for carbon intensive services and shift preferences away from fossil fuel-based technologies.

In order to reach these schemes, it is necessary to acknowledge the challenges related to implementation, including energy costs, depreciation of assets and impacts on international competition, and utilising the opportunities to maximise co-benefits. Developing countries already face higher financial risk due to their vulnerability to climate impacts, making it more difficult to access finance. Special support for vulnerable countries will be necessary in managing this transition.

Finance for adaptation and reducing the risk of loss and damage

According to the report, “increasing investment in physical and social infrastructure is a key enabling condition to enhance the resilience and the adaptive capacities of societies.” While the report finds that it is difficult to quantify adaptation finance consistent with 1.5°C, it does acknowledge that costs of adaptation are estimated to be lower at global warming of 1.5°C than for 2°C. Limiting warming to 1.5°C also means that there are more adaptation options available that would be effective in reducing risks- for example ecosystem-based adaptation becomes less feasible as temperatures rise.

Vulnerable regions, including small islands and Least Developed Countries, face a disproportionally high risk even at global warming of 1.5°C. Moreover, even under 1.5°C global warming there are limits to adaptation and adaptive capacity, with associated losses. These become more pronounced at higher levels of warming and vary by sector, with specific implications for vulnerable regions and certain ecosystems. The report identifies major barriers to adaptation including the scale of adaptation financing, limited capacity and access to adaptation finance, and knowledge gaps such as insufficient data on climate resilience-enhancing investments from currently underinvested basic infrastructure.

Scaled up support for the most vulnerable and enhancing access to finance

International cooperation is a critical enabler for developing countries and vulnerable regions to strengthen their action for the implementation of 1.5°C-consistent climate responses, including through easing access to finance and technology and improving domestic capacities, taking into account national and local circumstances and needs. This strong message from the UNFCCC based on the latest science is noteworthy. According to the UNFCCC, current levels of climate finance are “still considerably below what one would expect given the investment opportunities and needs that have been identified.” Climate finance to developing countries urgently has to be scaled up to respond to investment needs. The UNFCCC finds that more can be done to understand public finance flows and ensure that they are all consistent with countries’ climate change and sustainable development objectives.

Green Climate Fund

The above messages show the key role that the Green Climate Fund (GCF) can play in the financial transition towards 1.5°C. The GCF’s mandate is to “promote the paradigm shift towards low-emission and climate-resilient development pathways,” while taking into account the needs of the most vulnerable developing countries. This makes the GCF a key actor to contribute to what the IPCC calls the need for upscaling and accelerating both incremental and transformational climate mitigation and adaptation to reduce future climate-related risks. This must be an important consideration for the scale and strategy of the Fund’s first replenishment, launched in October 2018 and set conclude by October 2019. The 1.5°C Special Report can inform the replenishment process by helping to understand 1.5°C compatible pathways and the investment opportunities for the GCF.