Why Multilateral Development Banks Hold the Future of Climate Finance

Climate finance refers to financial resources that are used to address the challenges posed by climate change. Climate financing supports three main objectives: mitigation, adaptation, and resilience-building. Mitigation focuses on reducing greenhouse gas emissions through efforts like developing renewable energy projects and enhancing energy efficiency. Adaptation brings about initiatives such as constructing disaster-resilient infrastructure and implementing agricultural practices that help communities adjust to the effects of climate change. Resilience-building enhances the capacity of systems and societies to withstand and recover from climate-related shocks to ensure long-term sustainability in the face of climate risks. 

Generally speaking, climate finance is delivered through several key channels: multilateral and bilateral climate funds and aid, multilateral development banks (MDBs), and private sector investments. Multilateral and bilateral climate funds aim to provide philanthropic grants or concessional financing to support mitigation and adaptation efforts. MDBs leverage their mandate and financial instruments to bridge funding gaps, combining public and private resources to finance large-scale climate initiatives. Private sector investments play a critical role in driving innovation and scaling renewable energy, though their focus often skews towards projects with clear and quick market returns.

The global demand for climate finance is immense. Estimates suggesting up to $9 trillion will be needed annually by 2030. Yet, despite annual flows already surpassing $1 trillion as of 2022, most of the money moves within developed countries and no more than 18% of this funding benefits the vast developing and least developed countries. This disparity stems to a large extent from two factors: the inherent limitations of philanthropic financing, which, despite its moral appeal, lacks the scale and consistency to meet long-term climate adaptation and mitigation demands, and the common nature of private sector investments, which are deterred by high risks and uncertain returns in developing nations. As a result, MDBs, with their designated mandate and objectives when investing and unique ability to mitigate risks, are well-positioned to fill this critical gap and ensure equitable support for the most vulnerable countries.

At the 29th United Nations Climate Change Conference (COP29), held from November 11-22, 2024, developed countries tripled the previous $100 billion commitment and pledged to provide a fund of at least $300 billion annually by 2035 to support developing countries in addressing climate change. However, skepticism remains despite the elevated target. Past experiences show that even the original $100 billion goal, set in 2009, was difficult to achieve. Without enforceable mechanisms, simply raising the target does little to inspire confidence. According to a 2024 report, it took developed countries until 2022—two years later than promised—to finally meet the original $100 billion target. Despite their rhetoric, many developed countries struggle to meet these commitments due to domestic political constraints and economic priorities. Moreover, only 28% of these funds collected in 2022 were grants and most are loans, far from the target expected by developing countries during COP29. The contribution of the private sector also remains far below expectations. These factors not only highlight the difficulty of achieving targets but also question whether such financing frameworks are sufficient or sustainable in addressing the immense needs of developing countries and, ultimately, the world’s climate. 

Relying on altruistic donors to finance climate initiatives has proven to be an insufficient solution. Climate finance is usually framed as a moral imperative—“for the future of humanity.” Indeed, the European Union and its 27 member states contributed $30 billion in public climate finance in 2022. However, the contributions of many other developed countries, including the United States and Canada, have fallen far short of global expectations. Although President Biden pledged $11.4 billion annually by 2024 to fulfill America’s social responsibility, ultimately, the U.S. Congress approved only $1 billion in climate aid. Even if Biden’s target was met, it would still fall short of the proportional contribution expected from the world’s largest historical emitter, not to mention that Donald Trump’s reelection means that the U.S. could once again withdraw from the Paris Agreement. 

Similarly, the private sector faces significant challenges in raising sufficient funds for developing countries. High risks and uncertain returns deter private investors from supporting climate projects in vulnerable regions. For example, Nigeria’s ambitious plans for solar energy development have largely stalled because the government has been unwilling to provide necessary guarantees for developers. A report by the World Bank further points out that private investment in climate adaptation and resilience remains minimal due to perceived low financial returns.

Therefore, MDBs present a viable and scalable solution to the climate finance dilemma. MDBs’ strength derives from their structural advantages. Firstly, their foundational mission is to support member states and underdeveloped regions in achieving economic growth, poverty reduction, and sustainable development with a strong emphasis on environmental protection and climate change mitigation through renewable energy and climate resilience adaptation projects, a mission that inherently aligns with the goals of climate finance. This focus makes MDBs uniquely positioned to address financial challenges when market mechanisms fail. 

For example, the Asian Infrastructure Investment Bank (AIIB) has committed to allocating at least 50% of its annual financing approvals as climate finance by 2025, which is clearly not market-driven. Meanwhile, although MDBs may act like philanthropic grants that are insensitive to investment returns, they still conduct thorough analyses of the economic, social and environmental impacts of projects to ensure feasibility and sustainability, just as private institutions do. In another example, the New Development Bank (NDB) has financed renewable energy projects in South Africa, contributing to the diversification of the country’s energy sustainability and security. MDBs ensure that the problem of inadequate use of resources that many developed countries are distressed over is effectively alleviated. Additionally, MDBs are also more efficient in coordinating resources and aligning them with global goals compared to bilateral climate financing efforts. A notable example is the African Development Bank’s Desert to Power initiative, which aims to mobilize resources from multiple countries to transform the Sahel into a solar energy hub.

In addition to their operational strengths, MDBs have significant potential to become even more effective in blending resources. Backed by sovereign states, MDBs provide a theoretically attractive platform for developed countries to contribute grants and concessional financing, offering donor states greater participation in project design and implementation. However, the current level of contributions from developed countries remains insufficient. While institutions like the World Bank’s International Development Association (IDA) delivered $13.6 billion for climate projects in fiscal year 2024, this is far from the scale needed to meet the climate finance demands of developing nations. Nevertheless, richer countries like the United Kingdom have already pledged extra funds to the institute, gradually reinforcing confidence in MDBs’ role as a trusted and effective channel for climate finance. Similarly, MDBs also benefit from high credit ratings that theoretically allow them to attract private investors, but they also have not yet reached their full potential. Private capital often hesitates to engage with MDB-led projects due to concerns over low returns. However, MDBs hold a distinct advantage in offering more stable returns and robust guarantees, backed by sovereign states, which make them a safer investment option even during economic downturns. By leveraging these strengths, MDBs have the potential to attract greater private investment, particularly in periods of economic uncertainty. 

Climate finance is indispensable for addressing the challenges of climate change, but the current mechanisms being prioritized face significant limitations. Among others, these limitations include insufficient contributions from developed countries, the hesitance of private capital, and the inefficiencies of bilateral aid. Multilateral development banks, with their unique strengths and untapped potential, offer the most effective means of balancing the interests of developed and developing countries while ensuring that financial resources are directed to the communities and regions that need them the most. Strengthening and optimizing the role of MDBs will be critical to achieving sustainable and equitable outcomes in global climate finance.