24 November, 2016

Blended finance will generate billions – not trillions – for developing countries. So we need to improve its development effectiveness

By Cordelia Lonsdale
Policy and Engagement Adviser, Development Initiatives

“From billions to trillions.” This is a familiar phrase from last year’s global debates about financing the 2030 Agenda for Sustainable Development. Billions refers to the finance currently flowing into developing countries (through Official Development Assistance (ODA), foreign direct investment and remittances, for example). Trillions is the amount we collectively need to mobilise to finance the Sustainable Development Goals (SDGs). This leaves an annual funding gap for developing countries estimated at US$2.5 trillion yearly. Public finance, whether domestic or international, clearly cannot fill this gap. In fact, since the 2002 Monterrey Consensus, policymakers have asked how we can use public resources as a catalyst to leverage other public and private resources for development.

Blended finance is one type of catalytic aid receiving plenty of attention lately. This is a catch-all term for a variety of complex financing setups, which all have in common their use of public funds, sometimes ODA, to de-risk, or leverage, private investments in development through instruments such as guarantees, syndicated loans and equity investments. There are big expectations for what blending could achieve: “There’s a $2.5 trillion development investment gap. Blended finance could plug it.” as one recent headline said. But we really don’t know if this is true.

We don’t know how much blended finance there is, where it’s going, or indeed, what impact it will have when it gets there. From a development effectiveness perspective, providers and partner countries need to understand different resources in relation to one another, to determine how they can be used to finance a development strategy. What is the added value of blended finance, as part of the financing toolbox? What are the potential risks, and where should it be targeted?

Our new report, Blended finance: Understanding its potential for Agenda 2030 uses the available data to try to answer these questions. We found that there are more private investments mobilised through blended finance in middle-income countries, and in countries with lower levels of poverty. Blended finance is most likely to be invested in infrastructure and the productive sectors, though we found examples of blended finance in the education and health sectors too. But private capital mobilised through blended finance seems more likely than foreign direct investment – which mostly goes to upper middle income countries – to be invested in poorer, lower middle income countries. This could mean that blending might be working the way it’s supposed to: using public funds to encourage private finance to go where it otherwise would not.

However, while blending is growing, it’s not likely to get us to trillions. Our projections show billions annually at the most – well short of bridging the gap in SDG funding. Blended finance should probably, therefore, be a resource that complements, not replaces, others, and as such should be used strategically. There are also challenges in aligning blended finance with development effectiveness principles. There is a particular challenge with reporting of results and data on blended finance flows. The data is so poor that we can’t determine the amount of ODA spent to generate the private finance described in the previous paragraphs.

To address these questions and issues, we need to look firstly at how we can generate better evidence to discuss how blended finance can be made more effective at country level, especially as big providers (like the EU) scale up their use of blended finance instruments. The goal is to ensure we have the evidence and information needed to understand how blended finance can best be used to finance development and end poverty as part of a coherent strategy that leaves no one behind. This means understanding country contexts and where blended finance can add real value, including the opportunity costs of using ODA for blending instead of traditional grants and loans. Partner countries must be able to assess how and whether blending fits into their own national strategic plans, and may question whether it’s the best use of aid to strengthen their domestic economies and markets versus other catalytic uses of aid. Improving monitoring and evaluation systems, results frameworks and publicly available qualitative information on objectives and outcomes is needed to develop this evidence base – and a common space to discuss and agree what these systems and frameworks should look like.

The Global Partnership for Effective Development Cooperation can play a key role in improving understanding and evidence, promoting dialogue and supporting action. At its Second High-Level Meeting, Development Initiatives is partnering with Oxfam International and the UK Aid Network to host a side event to examine available evidence and identify next steps. We aim to generate commitments enhancing the effectiveness of blended finance under the auspices of the Global Partnership. Join us in Nairobi – we hope to hear a diversity of voices, to advance the policy debate and move our collective knowledge forward.

Download DI’s report: Blended finance: Understanding its potential for Agenda 2030

About author: Cordelia Lonsdale is a policy and engagement adviser at Development Initiatives, an independent international development organisation focused on ending poverty by 2030. Cordelia works to inform policymakers and influence global policy processes, particularly to enhance the transparency and effectiveness of development finance.

Related Blog Commentary and Stories of Progress

DISCLAIMER: This blog is a forum for sharing the diverse views of its varied contributors on important and emerging issues of Effective Development Co-operation. The posts do not necessarily reflect the view of the Global Partnership, its Co-Chairs, Steering Committee members, or of the joint UNDP/OECD support team.