Putting Climate at the Center of DFC’s Mandate

Climate change will soon be a top US government priority. The incoming Biden administration is not mincing words about its plans to roll out a bold and ambitious domestic climate agenda, starting with a flurry of executive orders to propel the US towards a clean energy and carbon neutral future. On the international front, the incoming administration has announced its intent to rejoin the Paris Agreement on January 20 and lead a major diplomatic push to raise the ambition of global climate targets.

An effective international climate agenda will be partially synonymous with the new administration's ability to mobilize climate finance to help the developing world mitigate and adapt to climate change. The Paris Agreement, which president-elect Biden plans to rejoin, calls for developed countries to mobilize an estimated $100 billion a year to this end with estimates placing current climate-specific assistance between $59 billion and $79 billion annually. The US Development Finance Corporation (DFC)—which this year alone is on its way to surpassing $6 billion in investments—could play a pivotal role in meeting the $100 billion target in the years to come.

The Overseas Private Investment Corporation (OPIC), DFC’s predecessor agency, had a robust track record on climate in its final years. Under the Obama administration’s Power Africa initiative, the agency vastly increased its clean energy investments. OPIC also committed to reduce greenhouse gas (GhG) emissions in its portfolio by over 50 percent through 2023 (which DFC appears to be on target to meet). While DFC recently announced a new Ocean Plastics Initiative and has continued to finance clean energy projects and report on GhG emissions, senior management has not placed a strategic emphasis on actively building a green portfolio. The agency’s new ex ante impact framework does not systematically screen projects for climate considerations but simply gives projects "bonus points" for voluntary initiatives that aim to reduce a project's environmental impact. Climate change was also visibly absent from the DFC’s recently released Development Strategy, putting the agency out of sync with its European DFI peers who have increasingly elevated climate as a top corporate priority and become major sources of climate finance.

The Biden administration has a unique opportunity to push the new agency towards a greener mandate which could help mobilize billions more in climate finance. Here are a few of the pathways incoming DFC leadership consider:

• Adopt an annual climate finance target and a new GHG goal. Many of the major DFIs have annual climate finance targets that range between 30-50 percent of their annual portfolio for mitigation and adaptation. DFC management could set an ambitious portfolio target that would require 50 percent of its financing be directed to climate mitigation and adaptation projects. Similarly, DFC could announce a plan to transition its portfolio to net zero emissions by 2050 aligning it with the major European DFIs.

• Green Financing Hurdle for UMICs. The BUILD Act directs DFC to prioritize lending in low and lower-middle income countries but provides exceptions for upper-middle income countries under certain circumstances. In practice, this exception has not proven to be a major hurdle and over one third of DFC financing has gone to upper-middle income or high-income countries, including some projects with questionable development and financial additionality angles (i.e. liquidity support for large banks or fiber-optic cables from Singapore to the US). Going forward, new DFC management could limit financing in UMICs to projects with clear environmental benefits.

• Innovative financing for conservation and debt for nature swaps. Over the past year, some of DFC’s most innovative projects have been around debt-for-nature swaps. In partnership with the Nature Conservancy, DFC has provided political risk insurance to several blue bond projects that commit a country to nature conservation. In the context of rising sovereign debt burdens, and looming restructurings, DFC could design scalable programs and bring in other DFIs, private sector actors and foundations to share the burden. Programs to date have focused on marine conservation, but they could be extended to forests and other types of natural resources.

• Upping its game on climate-smart agriculture. The implications of climate change on poverty alleviation—and food security—are dire since agricultural progress has been a potent force in raising incomes and lifting people out of poverty. Investments to help poor communities adapt their agriculture practices and build resilience to climate change are therefore critical. Agriculture is DFC’s third largest sector, but it is still less than 10 percent by value. Aggressively scaling up in its investments in climate-smart agriculture through blended finance partnerships with USAID and MCC could also help DFC meaningfully bolster its portfolio in poor countries and provide more adaption finance.

We will be publishing more in the coming months on the green financing avenues at DFC’s disposal. DFC has an opportunity to prioritize this fight against climate change while remaining committed to its poverty reduction and growth mandate. It is also an opportunity to truly differentiate DFC's offerings from China's infrastructure financing model. Incoming DFC leadership should be prepared to set an ambitious green agenda for the agency that could place DFC at the heart of the incoming administration’s international climate program.