Multilateral lending institutions and private sector capital mobilization for climate action and development

G20 members have intensified pressure on MLIs to deliver more financing as the world continues to fall significantly behind on meeting commitments under the UN's sustainable development goals by 2030. The G20 also aims to close the estimated financing gap in the climate transition toward net-zero emissions by 2050. Estimates on the annual financing gap amount to approximately $4 trillion in low-income countries, according to the UN Conference on Trade and Development, a significant increase from $2.5 trillion in 2014. 

Physical risks from climate change are increasing, and their economic and financial impacts are likely to rise with time, especially if mitigation and adaptation efforts are not accelerated. By 2050, if global temperature increases do not stay well below 2 degrees C, up to 4.4% of the world's GDP could be lost annually, absent adaptation. This will test countries' adaptation plans, particularly among lower-income nations that are disproportionately exposed and less able to prevent permanent losses. According to the United Nations Environment Programme Annual Report 2023, the adaptation finance gap is 10-18 times above current international flows. Estimated annual adaptation needs range from $215 billion to $387 billion, or 0.6% to 1% of developing countries' GDP, per year for this decade. 

As public funds fall short of needs, the G20 announced after the 2023 IMF-World Bank meetings in Marrakech, Morocco, its ambitions to deliver bigger, better and more effective multilateral development banks by enhancing operating models and substantially increasing their financing capacity to maximize development impact, with private sector mobilization playing a key role.

The MLI sector's current operating model seems to be lagging in its capacity to sufficiently scale up private capital mobilization. However, the sector's own lending increased 30% to about $200 billion annually in 2020, compared with $150 billion in the previous five years, and has roughly remained at that level. This was a significant increase beyond our expectations, but the bar is now higher for further expansion. Private sector capital mobilized to low- and middle-income countries has only grown 10%, to $65 billion in 2022 from $60 billion in 2017, partly reflecting a lack of explicit targets and steering models to increase mobilization. 

Structural improvements may lead to higher mobilization. The World Bank Group has launched a new scorecard, which proposes including a key variable that measures the mobilization of private sector capital. IDB Invest's strategic focus on mobilization first launched in 2022 and was reinforced in 2024 with a $3.5 billion capital increase explicitly linked to scaling up mobilization.

We expect that further targets and changes to business models will be launched by the asset class to enable a structural increase in mobilization of private capital, which, in our view, is set to receive shareholder support. 

But obstacles to scaling up private sector investments remain similar to the past. Potential projects that can be mobilized face challenges in many low- and some middle-income countries. Often, a lack of solid institutional support and low capacity or appetite for public funds to provide first-loss equity or mezzanine-like financing prevent greater mobilization. Additionally, foreign exchange risks persist.

MLIs' loans to sovereigns are not priced to account for credit risk, making private sector capital mobilization difficult due to low returns compared with other investments. Sovereign loans comprise about two-thirds of the overall loans on MLI balance sheets, while the remainder are direct private-sector corporate and financial institution loans of $250 billion and $400 billion, respectively — significantly reducing the capacity for mobilization. 

When turning to climate financing, loan volumes in the sector have ramped up significantly over the last five years, but mobilization levels for low- and middle-income countries have yet to recover to pre-COVID-19 levels. While MLI lending has grown, private sector mobilization in these countries was lower in 2022 at $16.9 billion, compared to $21 billion in 2019. 

We believe that G20 members considering MLIs essential to accomplishing both sustainable development and Paris Agreement on climate change goals is a testament to their relevance and policy mandates. Support from major global shareholders may become more contingent on meeting mobilization targets. If shareholders prioritize mobilization, we would consider this a progressively more important factor when assessing future shareholder support. However, we believe the overall ratings impact to be limited at this point. 

But if mobilization becomes a key focus area, our assessments of both enterprise and financial risks may change. This could have a negative impact on our assessments if entities take on significantly more risk — i.e., in first loss structures, without proper capitalization — or if these new risks are not being managed well. Conversely, successful mobilization with increased shareholder support could positively affect our view of the mandate and the relationship with shareholders.

Since 2017, when the MLI sector first started reporting mobilization numbers in a common publication, mobilization rates compared to commitments in low- and middle-income countries have deteriorated, while the amounts mobilized have remained stable, between $50 billion and $65 billion annually. Mobilization amounts can be measured against total new loans extended by the MLIs or by the private sector — and depending on which, the outcomes are very different. When measuring against all loans, each dollar committed leads to a mobilization of an additional 30 cents. This increases significantly, to almost $1.8 per dollar committed, when measuring against private sector loans, where the vast majority of all mobilization takes place. This highlights the difficulty in mobilizing even small amounts against loans extended directly to sovereigns, which are based on concessional terms.

The significant drop in the total ratio in 2020 and 2021 resulted from the sector quickly increasing its disbursements to respond to the effects of the COVID-19 pandemic, when most of the disbursements went directly to sovereigns. Private sector disbursements and overall mobilization volumes remained relatively intact, though boosted by one outlier transaction in Mozambique.

Mobilization volumes in high-income countries range from two to four times those in low- and middle-income countries despite commitments being roughly the same. Moreover, high-income countries see mobilization volumes 20 times greater than low-income countries on average. This divergence reflects the root cause of the problem of mobilization and private sector investors' preferences. In general, the political environment and sovereign risk, project pipelines, foreign exchange risks, absence of first loss structures, and capacity to undertake larger projects are all obstacles that investors cite when considering projects in low-income countries that are not present to the same degree in high- and middle-income countries.

Sovereign loans from MLIs are concessional in nature. MLIs expect priority repayment in a distressed situation given the preferred creditor treatment principle. Therefore, since private sector investors often want a cushion against losses to be borne by public resources, MLIs are not always a great fit as they often are the first to get paid. 

However, some structures in the private sector can attract significant interest from private investors. Although it did not originate from the MLI sector, a landmark LNG project in Mozambique in 2020 created an unprecedented surge in private mobilization. The African Development Bank was part of a syndicate, and given its close connections with the central government, it helped mitigate political risk and provide robust screening of the developmental impact. This indirect mobilization, where an additional $12.9 billion was committed, represented almost 90% of the total volume for low-income countries. Such projects are rare and are typically owned by foreign operators, and revenue streams from the gas project were secured by offtake arrangements with mostly foreign purchasers (more than 85% of total production). 

Mobilization of private capital is less likely in sovereigns already in or nearing distress. Concessional MLI loans and grants are often among the few viable options for these sovereigns to finance infrastructure projects because most market-based financing would be too expensive. 

Social infrastructure, such as schools, hospitals, clean water and non-toll roads, is often difficult to cofinance with private sector investors and may not proceed unless undertaken by the sovereign itself. 

Private-sector mobilization volumes in high-income countries range from 1.5 to three times those in low- and middle-income countries despite similar commitments. This indicates a smaller difference in private-sector mobilization for climate financing between these groups, supported by the overall trend toward climate financing.

However, the vast majority is directed toward climate mitigation. Adaptation projects struggle to attract private investors and to find private actors to lead the projects. 

Over 2019–2022, mobilization of private sector resources into climate financing in low- and middle-income countries reached an average $17 billion, or about 140% of own committed resources to the private sector. Both dropped significantly in 2020, and mobilization numbers have not yet rebounded to pre-COVID-19 levels. In addition, only one-third of that is direct mobilization, where the MLI takes an active role leading a syndicate and attracting private investors.

MLIs have significant experience in structuring projects and advising on policy work. In our view, investors might direct more funds to emerging and frontier markets, enabling significantly more financing, if the overall investment climate improved. We believe that additional support from MLIs in the form of advice for policy reforms, helping to build up local capacity to bring projects to a bankable stage and, in general, improving the investment climate, could support more substantial private investment. We are also observing various initiatives, such as bundling assets, to provide risk diversification and scale, which could address roadblocks to private investors' mobilization needs.

Investors are seeking different structures, where the first loss and the mezzanine part of the structure are borne by others to meaningfully increase their exposure to emerging and frontier markets. This would require more risk and likely more equity and high-risk exposures on MLI balance sheets. While this involves trade-offs, as it consumes more capital, it has the potential for a larger impact and more significant mobilization.

Investors want more standardization and pools of projects rather than bespoke small-scale assets. We believe that MLIs have significant experience structuring deals and applying best practices. They can build up project pipelines and streamline project assets by further educating market participants in emerging and frontier markets. We believe this would also eventually reduce their own costs when analyzing deals.

However, even with better standardization and pooling of projects, regulatory capital requirements remain a roadblock to increasing private capital mobilization. Investments in securitized assets, including senior tranches, often have regulatory capital requirements that are a multiple of what insurers' and banks' internal risk assessments would suggest, deterring them from investing in such structures despite the risk diversification benefits and credit enhancement. 

MLIs have traditionally been governed by their own volume delivery — both from a client perspective and internally — to reach goals and deliver impact. The industry's growing emphasis on the more effective use of resources has prompted shareholders to reconsider the current business model, aiming more toward impact outcomes and delivery of private capital mobilization.