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PDF Blended Finance Vol. 1: A Primer for Development Finance and ...

ReDesigning Development Finance Initiative
A joint initiative of the World Economic Forum and the OECD
Blended Finance Vol. 1:
A Primer for Development
Finance and Philanthropic
Funders
An overview of the strategic use of development
finance and philanthropic funds to mobilize
private capital for development
September 2015
Contents Acknowledgements
3 Preface This Report synthesizes the ideas and contributions of
4 Executive Summary
hundreds of individuals and organizations, to whom we are
extremely thankful for generously contributing their time, energy
6 Financing an Ambitious Sustainable Development and insights.
Agenda We would like to acknowledge our partners in the ReDesigning
8 Blended Finance: An Opportunity to Unlock Wider Development Finance Initiative Report, the OECD Development
Actors and Resources for Development Assistance Committee, who have tirelessly lent their time
and insights to the project. In particular, we would like to
8 3.1 Defining Blended Finance recognize Erik Solheim, Haje Sch?tte, Jens Sedemund and
9 3.2 Why is Blended Finance Important? Kaori Miyamoto. A special thanks also goes out to our Report
partners, Monitor Deloitte, for their continuous support and
10 The Role of Blended Finance engagement on this document. Furthermore, we would like to
acknowledge the insights and contributions of the ReDesigning
10 4.1 Overcoming Barriers to Private Capital in Development Finance Initiative Steering Committee:
Emerging and Frontier Markets Chair: Christian Paradis, Minister of International Development
11 4.2 The Role of Development and Philanthropic
and La Francophonie of Canada; Vice-Chair: Julie Sunderland,
Capital
Director, Bill & Melinda Gates Foundation; Charlotte
Petri Gornitzka, Director-General, Swedish International
11 4.3 Investor Barriers across Stages of Maturity Development Cooperation Agency (Sida); Dale Mathias,
Chairman - Partners Forum for Private Capital Group for Africa,
13 4.4 Blended Finance Tools US Agency for International Development (USAID); Thomas
Speechley, Chief Executive Officer, Abraaj North America; and
16 Blended Finance Approaches and Case Studies Gavin Wilson, Chief Executive Officer, IFC Asset Management
16 5.1. Supporting Mechanisms Company.
18 5.2. Direct Funding We would also like to extend our sincere thanks to Professor
Klaus Schwab, Founder and Executive Chairman of the World
24 Mainstreaming and Scaling Blended Finance Economic Forum; Rick Samans, Head of the Centre for the
25 Blended Finance as a Pillar for Future Development
Global Agenda and Member of the Managing Board of the
Efforts
World Economic Forum; Michael Drexler, Senior Director, Head
of Investors Industries; as well as the Project team: Terri Toyota,
26 Appendix A: Blended Finance Lexicon Philip Moss, Michelle Larivee, Christina Gomis and Marina
Leytes.
27 Appendix B: Abbreviations and Acronyms
? WORLD ECONOMIC FORUM, 2015 - All rights reserved.
No part of this publication may be reproduced or
transmitted in any form or by any means, including
photocopying and recording, or by any information
storage and retrieval system.
REF 180915
Preface
This Primer outlines the significant opportunity that Blended Finance presents for public-private cooperation
to support international development efforts. There is a huge, and largely untapped, potential for public,
philanthropic and private actors to work together towards win-win-win solutions: wins for private investors,
as they make an attractive return on their capital; wins for public and philanthropic providers, as they make
their limited dollars go further; and most importantly, wins for people in developing countries as more funds
are channeled to emerging and frontier markets, in the right way, to help transform economies, societies,
and lives.
The development challenges of the 21st century remain vast. Poverty has fallen, and will continue to do so,
Richard Samans
but developing economies will need to be transformed if they are to ensure long-term development. The
Managing Director
needs for infrastructure, health, education, agriculture, and other development challenges loom large.
and Member of the The good news is that there is enough money to go around. Capital markets are growing, and frontier and
Managing Board emerging markets are particularly attractive. Private investment into developing countries has been growing
World Economic at much faster rates than development funding, and the potential to do more is huge. But to realize this
Forum potential, key bottlenecks which prevent private investors targeting the sectors and countries in which they
are needed most must be addressed.
This new context creates incredible new and exciting opportunities for collaboration. Through Blended
Finance, development finance and philanthropic funders can help to address development challenges,
ensuring that private investors can identify and support key investment opportunities in the developing
world. By guaranteeing investments, development finance and philanthropic funders can help to reduce
risk. By supplementing private investment with grant financing, development finance and philanthropic
organizations can raise private returns, creating better incentives for the private sector to invest in strategic
sectors. By providing technical assistance, they can support the development of strategic projects and help
improve the investment climate in key markets.
Erik Solheim To help development finance and philanthropic organizations to seize these opportunities, this Primer
Chair, Development outlines the Blended Finance approach, clarifies the key concepts, and explains the benefits such
Assistance approaches can bring.
Committee (DAC)
Organisation for
Economic Co-
operation and
Development
(OECD)
Blended Finance Vol. 1: A Primer for Development Finance and Philanthropic Funders 3
Section 1:
Executive Summary
The international community will shortly agree on a new set Section 3 explains the concept of Blended Finance. It
of Sustainable Development Goals (SDGs) to shape global highlights that Blended Finance has three key characteristics:
development priorities for the next 15 years. The SDGs - Leverage: use of development finance and philanthropic
envisage a world in which poverty is eradicated, economies funds to attract private capital into deals.
are transformed, and development takes place within planetary - Impact: investments that drive social, environmental and
boundaries. The resources required for this endeavor are economic progress.
immense, as much as $4.5 trillion per annum according - Returns: financial returns for private investors in line with
to some estimates1a. Public resources, including Official market expectations, based on real and perceived risks.
Development Assistance (ODA) are not sufficient to implement
this ambitious new agenda. Sections 4 explains the role of Blended Finance. It identifies
the main challenges that prevent private capital from being
Private investment will be vital to augment the efforts of deployed into emerging and frontier markets:
development finance and philanthropic funders. Only a fraction - Returns are seen as too low for the level of real or perceived
of the worldwide invested assets of banks, pension funds, risks.
insurers, foundations and endowments, and multinational - Markets do not function efficiently, with local financial
corporations, is targeted at sectors and regions that advance markets in developing economies particularly weak.
sustainable development. A key challenge for the SDG era - Private investors have knowledge and capability gaps,
is how to channel more of these private resources to the which impede their understanding of the investment
sectors and countries that are critical for the SDGs and wider opportunities in often unfamiliar territories.
development efforts. - Investors have limited mandates and incentives to invest in
sectors or markets with high development impact .
This is the opportunity presented by Blended Finance, which - Local and global investment climates are challenging,
for the purposes of this primer refers to `the strategic use including poor regulatory and legal frameworks.
of development finance and philanthropic funds to mobilize
private capital flows to emerging and frontier markets'. For Through Blended Finance, development funders can help to
development finance and philanthropic funders, Blended overcome investor barriers and increase the supply of private
Finance represents an opportunity to drive significant new capital to key sectors and countries by:
capital flows into high-impact sectors, while effectively - Shifting the investment risk-return profile with flexible capital
leveraging private sector expertise in identifying and executing and favourable terms.
development investment strategies. - Sharing local market knowledge and experience.
- Building local capacity.
This Primer, a product of the ReDesigning Development - Shaping policy and regulatory reform.
Finance Initiative (RDFI), aims to clarify the definition of `Blended
Finance', and provide practical insights on how development Section 5 identifies and outlines how development funders can
funders1b can meet their impact objectives and use tools to use Supporting Mechanisms and Direct Funding to enable a
address knowledge gaps and execute using approach. Blended Finance transaction. It provides real world examples
of different approaches to address investor barriers faced by
Section 2 outlines the scale of the funding challenge. It companies and projects in emerging and frontier markets.
highlights the scale of the capital needed for the SDGs, and
the need to attract additional financing over and above what Use of Supporting Mechanisms - usually grants or guarantees -
development funders can provide. Although private flows to can attract and support private sector investment and financing
developing countries have grown significantly over the past by managing risks and reducing transaction costs. These
decade, only a small proportion of these flows target financing Mechanisms can be structured to provide:
needs that promote sustainable development. This is the - Technical Assistance, to supplement the capacity of
funding gap that Blended Finance aims to address. investees and lower transaction costs.
- Risk Underwriting, to fully or partially protect the investor
1a Sachs, J and Schmidt-Traub, G. (2014). `Financing Sustainable Development: Implementing the SDGs
against risks and capital losses.
- Market Incentives, to provide results-based financing
through Effective Investment Strategies and Partnerships'. Unedited draft for public consultation, and and offtake guarantees contingent on performance and/or
UNCTAD. 2014. `World Investment Report 2014. Investing in the SDGs: An Action Plan'. UNCTAD: guaranteed payments in exchange for upfront financing in
Geneva; accessed at
1b For the remainder of this paper, we will use the term `development funders' for the full range of new or distressed markets.
development finance and philanthropic actors involved in Blended Finance, recognizing that not all of
these will be public actors but motivations may be similar.
4 Blended Finance Vol. 1: A Primer for Development Finance and Philanthropic Funders
Direct Funding provided by development funders to a project Section 6 highlights the path towards Mainstreaming and
or enterprise can also enable Blended Finance. Financial Scaling Blended Finance. It highlights that over the past
instruments such as grants, equity, and debt can all help year, Blended Finance has evolved from a niche activity to a
facilitate Blended Finance. Such funding supports private mainstream focus of development finance with the potential to
investors and financiers to overcome perceived barriers accelerate inclusive growth and development. However, more
in emerging and frontier markets at various stages of the work is needed to ensure that Blended Finance can be scaled
investment life cycle: up, which requires institutional development around:
- Preparing, reducing uncertainty and high initial costs before - Awareness and common language.
commissioning of a project. - Analytics and education.
- Pioneering, helping manage the failure rates and elevated - Institutional readiness.
transaction costs associated with high-risk enterprises or - Partnerships.
projects that are experimenting with, testing and piloting - Definitional alignment on impact.
new business approaches. - Consolidation of the market.
- Facilitating, deferring returns or providing more generous
terms than the market to encourage investments with high Section 7 concludes with the potential of Blended Finance. It
expected development impact but limited commercial outlines how Blended Finance can become a major component
returns. of future development efforts and serve as a key pillar of
- Anchoring, `Crowding in' private capital on equal terms for the financing framework for the United Nations Sustainable
mature or credible projects by signalling that macro risks Development Goals (SDGs.)
can be managed and that the investment is commercially
viable.
- Transitioning, providing a cultivated pipeline that meets the
needs of private investors to source mature transactions
and deploy capital at scale.
Blended Finance Vol. 1: A Primer for Development Finance and Philanthropic Funders 5
Section 2:
Financing an Ambitious Sustainable
Development Agenda
The proposed United Nations Sustainable Development funding for the SDGs would still face a sizable gap. Given the
Goals have huge funding needs. The SDGs being formulated significant investment needs of the SDGs, the use of Blended
to replace the Millennium Development Goals (MDGs) require Finance to engage private capital with strategic development
significant increases in investment in broad-based economic funding in a complementary, rather than substitutive, manner is
transformation. Up to $4.5 trillion2 per year in investment will gaining momentum as one solution to these funding issues.
be required in developing countries between 2015 and 2030,
which compared with current investment levels leaves an Global capital markets represent a significant and scalable
annual investment gap in sectors critical to the SDGs of around supply of capital to fund sustainable development.
$3.1 trillion3. Though this gap is far greater than available ODA Currently valued at $218 trillion, global capital markets appear
funding, which reached an all-time high of $135 billion in 20134, to be entering a protracted period of high liquidity and low
filling this investment gap is not impossible5. The financing gap cost which could last a decade or more10. This is because
constitutes approximately 3% of global GDP, 14% of global the main factors contributing to the decline in real interest
annual savings6, or 1.1% of the value of global capital markets, rates are unlikely to be reversed11. At the same time, owing
estimated at $218 trillion7. to downward pressures on returns in developed markets,
investors and financial institutions are seeking to invest in
Involving the private sector is critical. Current levels of emerging and frontier12 markets. These markets are particularly
private sector investment in sectors related to the SDGs attractive since they offer above-average returns and are
are relatively low. Only a fraction of the worldwide invested less affected by prevailing developed world challenges. High
assets of banks, pension funds, insurers, foundations and GDP growth in these economies also signals that there
transnational corporations is in sectors critical to the SDGs. are opportunities for investors to "buy" into the country's
Translating these assets into SDG-compatible investments overall prospects or seek out opportunities by identifying
will be key, with the potential being greater in sectors such undervaluation in specific sectors.
as infrastructure (power, renewable energy, transport),
telecommunications, and water and sanitation, which together However, there are significant barriers impeding capital
have an estimated shortfall of up to $1.6 trillion per year.9 flows into these markets. Despite emerging and frontier
markets contributing over 49% of global GDP, a fraction out of
The role of private sector in filling this gap is recognized the roughly $218 trillion in global capital markets flows annually
by the international development community. Since the to these high-potential markets due to risks13 (real or perceived)
2002 Monterrey Consensus on Financing for Development, and market inefficiencies14. The most significant barrier to
discussions on external resources have acknowledged that private capital flows in these markets is that returns are often
private international capital flows, in particular foreign direct not proportionate with the level of perceived risks, which tends
investment (FDI), are vital complements to development efforts to be much higher than in more mature markets, given often
funded through domestic resources and ODA. weak regulatory frameworks and enabling environments.
Ultimately, if risk-adjusted returns are less attractive relative to
This reflects the fact that the development finance other markets, investors will not allocate capital to emerging
landscape has changed dramatically over the past two and frontier markets. Development funding can therefore play
decades, While ODA that could address the SDGs would more an important role in mitigating risk and bringing risk-adjusted
than double if all OECD-Development Assistance Committee returns in line with investor requirements.
(DAC) countries were to meet the 0.7% ODA/GNI target,
2 There is currently no comprehensive assessment of financing needs of the proposed 17 Sustainable 10 Kharas, H. Prizzon, A. and Rogerson, A. (2014). `Financing the post-2015 Sustainable Development
Development Goals. These estimates are preliminary and incomplete and based on several reports that Goals: A rough roadmap'. London: Overseas Development Institute.
have consolidated publicly available estimates to arrive at a preliminary assessment of financing needs. 11 These factors include: i. Emerging market economies' saving rate increased significantly between 2000
3 UNCTAD. 2014. `World Investment Report 2014. Investing in the SDGs: An Action Plan'. UNCTAD: and 2007, driving down interest rates. This increase is expected to be only partly reversed; ii. Increased
Geneva; accessed at demand for risk-free assets, as a result of increased accumulation of foreign exchange reserves in the
4 The country programmable component (CPA) of ODA was $101 billion in 2013 and is projected emerging market economies and an apparent rise in the perceived riskiness of equities relative to bonds;
to increase slightly by $2.5 billion between 2013 and 2017). CPA is the portion of ODA that donors iii. Decline in investment rates in advanced economies as a result of the global financial crisis is likely to
programme for individual countries and over which partner countries could have a significant say. Source: persist.
OECD 2014 Global Outlook on Aid: Results of the 2014 DAC Survey on Donors' Forward Spending Plans 12 For the purposes of this primer, emerging and frontier markets refers to countries included in the
and Prospects for Improving Aid Predictability'. OECD Publishing; accessed at "`OECD DAC List of ODA Recipients (2014-2016)".
aid-architecture/GlobalOutlookAid-web.pdf DAC%20List%20of%20ODA%20Recipients%202014%20final.pdf"
5 From Billions to Trillions: Transforming Development Finance Post-2015 Financing for Development: 13 Risks include: macroeconomic; political; regulatory; business; hard and local currency; liquidity; tax
Multilateral Development Finance prepared jointly by the African Development Bank, the Asian conditions; and market segmentation.
Development Bank, the European Bank for Reconstruction and Development, the European Investment 14 OECD and World Economic Forum 2015, op cit.
Bank, the Inter-American Development Bank, the International Monetary Fund, and the World Bank Group
for the April 18, 2015 Development Committee meeting
6 Calculation based on the World Economic Outlook --Recovery Strengthens, Remains Uneven
(Washington, D.C., International Monetary Fund, April 2014), at purchasing power parity exchange rates.
7 Sachs et al 2014 op cit, UNCTAD 2014 op cit.
8 UNCTAD 2014 op cit
9 UNCTAD 2014 op cit., Sachs et al 2014 op cit
6 Blended Finance Vol. 1: A Primer for Development Finance and Philanthropic Funders

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