REDD+ Finance: What Do We Know About The Private Sector Contribution?

A significant shortfall currently exists in the private sector funding needed to truly propel REDD+ forward. But better engagement with private sector players, clearer definitions of what constitutes REDD+ private sector finance and strategic targeting of public sector dollars could help make these projects more attractive to private investors.

15 August 2013 | There is broad consensus that private finance and investment are needed for REDD+ to meet its climate change mitigation potential in the medium to long-term. Those who are familiar with REDD+ will have heard countless variations of an equation that currently does not balance. Annual REDD+ additional investment needs are estimated to be in the order of tens of billions of dollars, yet the current sums available – which are largely public funds- are a fraction of this number. The hope and expectation is that private sector capital will conveniently fill the gap, et voila! The burden placed upon private capital to balance the books has also been creeping higher over the past few years. REDD+ is not only more complex and expensive than first thought five years ago but public sector finances have also been decimated by successive financial crises in every corner of the globe.

The anticipated flows of private sector finance have yet to materialize. REDD+ finance remains dominated by public sector flows focused on the capacity building and enabling conditions that are the foundation stone of REDD+ and which are vital to catalyze private sector capital. For private sector capital to flow at scale, these public sector funds must be used strategically to improve the financial attractiveness of REDD+ for the private sector. Private sector investment is driven by expectations of future returns and these are currently too low and opaque given the risks and uncertainties compared to other potential investment opportunities.

Despite this broad consensus on the need for private finance and investment in REDD+, very little is known about current flows of private sector finance into REDD+, and what little is known shows that current amounts being channeled are close to insignificant. Difficulties in estimating and tracking volumes of private sector capital flowing into REDD+ arise from a variety of reasons.

There is no standardized definition describing what REDD+ finance or investment constitutes. Should investment into activities that contribute to REDD+, but aren’t directly linked to REDD+ verified emission reductions (VERs) count? Examples might include ‘climate-smart’ agricultural related to drivers of deforestation, green bonds where proceeds are used for ‘forest-friendly’ activities or corporates investing in medium or long-term supply chain security.

Different types of finance are often considered as equal. However, grants, short-term loans, equity investments, ‘in-kind’ payments and carbon off-take agreements all differ in how, why and when they are used. Aggregating these numbers can also potentially confuse and inflate the volume of private sector capital flows through double or triple counting and it also hampers attempts to identify financial bottlenecks at different points in the lifecycle of an activity.

It is also important that we use greater precision when describing sources of finance. ‘Institutional investors’ such as pension funds are one of the largest sources of private sector capital. As the ‘big beasts’ of the private sector financial world- they are sometimes referred to as one of the great hopes for the REDD+ related financial ills we currently face. They can allocate the ‘patient capital’ that REDD+ needs and have trillions of dollars under management. However, in order to unlock this huge pool of potential investment, we must first acknowledge the fact that most pension funds can’t currently allocate to anything resembling a ‘REDD+ investment’. The majority of pension fund capital is invested in liquid, listed securities yet many of the investment opportunities in the REDD+ space are through unlisted private equity or debt vehicles that a large amount of pension funds can’t allocate capital to at the required scale. Unlike publicly listed companies, private companies also have fewer legal obligations to report their finances which further compounds efforts to track financial flows.

Tracking private sector finance into REDD+ will be a daunting task until some of the above issues are addressed. Currently, however, more efforts should be placed in better understanding the role that private climate finance can play in contributing to REDD+ through some of the following activities:

• Engage with and involve the private sector in a constructive discussion on REDD+ to understand what the enabling conditions are that would attract private sector capital at scale. This can be done during the development of national REDD+ strategies.
• Develop clear definitions and parameters for what constitutes REDD+ private sector finance and investment.
• Appreciate that the finance landscape is extremely varied and different types and sources of capital have different uses at different times. This is a key step in connecting the vast pools of private sector capital with the activities that need funding.

UNEP FI is supporting efforts to engage the private sector in general and the private financial sector in particular in REDD+ at both the national and international level. The ultimate aim of this engagement is to reshape the way forest assets are currently exploited and help the transition towards more sustainable land-use patterns.

This series of blogs on REDD+ finance intends to create a forum for debate and exchange of ideas, this blog reflects the opinions of Iain Henderson & Jacinto Coello of UNEP FI, and should not be understood to reflect the views of ODI, Forest Trends, REDDX or Climate Funds Update.

Iain Henderson works at the United Nations Environment Programme Finance Initiative primarily focused on issues related to forestry, (REDD+) agriculture and finance. He can be reached at [email protected]. Jacinto Coello works at the UNEP FI. He can be reached at [email protected].