How Can Climate Finance Help Secure the Resilience of Low-Income Communities?

April 3, 2021

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A young girl holds a handmade sign of the Earth at a climate protest

This post was originally published on Climate Finance Advisors and was co-written with Joyce Coffee.

In 2020, the world’s poor find themselves at the nexus of two crises: COVID-19 and climate change. The populations most vulnerable to COVID-19 – low-income individuals, women, informal workers and minorities – are the same populations that are most vulnerable to weather and climate crises.

The poor disproportionately face obstacles to adapting to the effects of climate change due to unstable incomes, small savings, their work in the informal economy, a lack of access to credit, and of course, the reality of the landscape in the communities and countries in which they live.

These constraints have only become exacerbated in the COVID-19 global recession. As governments, businesses and financial institutions move into economic recovery, it is necessary to ensure that that recovery is green, resilient and fair – if not, it will be reinforcing an already dire situation for the world’s poor.

A population’s vulnerability to climate change proceeds along three axes: exposure, susceptibility, and ability to cope.

Where it comes to access to finance, low-income populations suffer the impacts of all three. The poor are more exposed to climate change because of where they can afford to live or the economic activities they engage in, such as farming or fishing.

For instance, a Harvard study found that Miami-Dade County was affected by “climate gentrification”: as flood risks increase, wealthier residents are moving inland, displacing local low-income communities. Further, some studies suggest that climate change adaptation expenditures tend to be driven by wealth rather than need, further exacerbating inequalities between high and low-income communities if not shifting more climate risk onto the latter.

Finally, structural inequalities ensure that low-income communities lack access to the social, cultural and financial assets they need to cope with the onset and consequences of climate change. Low-income urban households tend to hold most of their wealth in a single asset – housing – which means they have a single and significant point of financial vulnerability to climate change. Conversely, high-income households hold better-diversified portfolios of assets and wealth, both financially and geographically making them better able to withstand financial shocks from climate impacts.

Taken together, these factors imply that the costs of climate change may make vulnerable communities even more vulnerable over time, increasing proportionate costs of climate change for these groups exactly when they cannot afford it, and in doing so, accelerating inequality. This is the exact opposite of progress.

Investing in resilience is really the only option to address these headwinds and ensure a Just Transition. Finance, both public and private, has a powerful role to play in mitigating the cycle of income inequality and climate vulnerability, but historically finance has been deaf to the needs of the most vulnerable, deeming these groups as higher risk from a credit perspective. Furthermore, there has been an increasing “gap” in the financial ecosystem of banks and investors serving vulnerable communities and those that do exist often provide capital at significant cost, effectively reducing the availability of credit to low-income communities.

A focus on long-term recovery

The past several months of the COVID-19 pandemic can tell us a lot about how to address climate risks, and importantly how to do so in ways that are equitable and just. A strong post-COVID-19 recovery could be a unique policy and investment opportunity to address both climate resilience and equity issues by squarely incentivizing, or even mandating, the financial sector to fill what has otherwise been a gap in financing in order to create resilience for the most vulnerable.

Many policy makers are thinking through practical ways to action this right now. For example, a recent OECD report on Green COVID Recovery recommends “integrating environmental sustainability and socioeconomic equity” in policy packages – by, for example, lowering labor taxes concomitantly with raising taxes on pollution – in order to build long-term resilience and mitigate the regressive effects of environmental policies.

In addition, the IMF has been supporting this idea by promoting a “smarter, greener and fairer” recovery. As the current IMF Managing Director, Kristalina Georgieva, has stated, “We cannot turn back the COVID-19 clock, but we can invest in reducing emissions and adapting to new environmental conditions.”

However, how exactly sustainable and equtible COVID-19 recovery plans can support vulnerable communities – particularly those local communities hardest hit economically, and most exposed to climate related risks – remains to be seen.

There are several ways to do this, and the options to enhance resilience and close the equity gap include both public policy and private investment. There is no need to start from scratch, though, and the following provides practical mechanisms for filling a critical gap in the financial ecosystem, and increasing the availability of affordable financing for climate-resilient investments for vulnerable communities:

The role of financial institutions like CDFIs and green banks

Community Development Financial Institutions (CDFIs): CDFIs are financial institutions with, with the support of the U.S. Treasury Department, are tasked with providing low- and moderate-income communities, individuals, and smaller firms with affordable capital.

In the United States, there are more than one thousand CDFIs in the form of commercial banks, credit unions, and venture capital firms that are currently financing low-income communities, each of which can be mobilized to create community level climate-resilience. While CFDIs are beginning to take notice of the importance of climate change to the communities they serve, post-COVID mandates can help them better serve these communities’ climate-resilience needs; however, coordination, capacity and financial support by the federal government may essential to unlocking CFDIs for climate adaptation.

Green Banks: In addition to CDFIs, Many U.S. states (and more than 35 countries around the world) have green banks or green banking mechanisms, which in a nutshell, “leverage[s] public funding to attract private capital for clean energy projects”.

These institutions are – by design and mandate – focused on climate finance and investment, but traditionally have been far more focused on renewable energy or energy efficiency investments. Expanding the model beyond energy to include a greater variety of climate-related projects that support vulnerable communities, including using their model for mobilizing private investment could help ensure these institutions address all aspects of climate change, not simply mitigation.

Furthermore, these institutions could be critical links in the financial “ecosystem” by bundling and securitizing pools of local investment which can then be bundled to create investment vehicles for larger investors, as was the case with the Connecticut Green Bank’s securitization of solar home renewable energy credits.

In short, the global business community can’t address the COVID-19 crisis without viewing it through the lens of climate change – and we need to retool the financial sector in order to help guide the world’s poorer citizens through both this pandemic and the long-term risks linked to climate change.