To achieve the Paris climate goals, huge investments will have to be made in the coming decades. The IPCC estimates that investments of $2.3tn per year are needed just for the global transition to renewable energies by 2050.[1] Especially in the Global South, however, the development of renewable energies (RE) is still far too slow. This is because the technical RE equipment must in most cases be imported and paid for in reserve currencies such as US dollars, euros, or yen through high-interest loans. This makes RE investments in the Global South so expensive that they are hardly profitable.[2]
If investments are nevertheless made, the exchange rate risk remains, since the countries of the Global South had to repay the loans in the respective reserve currencies, but they generate their income, from electricity sales or their tax revenues, in domestic currency. This problem is only somewhat alleviated because the development of domestic RE gradually eliminates imports of fossil raw materials and thus saves foreign currency.
Using Special Drawing Rights as finance tool
One already existing economic tool that can help to solve the problem of foreign exchange shortages is the creation and allocation of Special Drawing Rights (SDRs) by the IMF, because countries from the Global South can exchange their new received SDRs into reserve currencies and finance additional imports from RE equipment.
The latest SDR allocation worth $650 bn US-Dollar decided by the members of the IMF is now two years ago and was unprecedented in its size. Its main purpose was to alleviate impacts of the economic damage caused by the Covid-19 pandemic and meant to gain new financial leeway in financing the global energy transition.
However, since the distribution of the new SDRs is done according to the quotas at the IMF, the main part goes to the rich countries of the Global North, while the poorer countries of the Global South only receive a small part of the new created SDRs. Since this unequal allocation of SDRs hardly addresses the problem of the shortage of foreign exchange in the countries of the Global South, the voluntary forwarding of SDRs that are not needed was brought into the discussion.
The possibility of a voluntary transfer of SDRs worth $100 bn US dollars to the states of the Global South was approved by the G20. However, this would not take place directly, but via the existing Poverty Reduction and Growth Trust (PRGT) of the IMF and via the Resilience and Sustainability Trust (RST) newly founded by the IMF. After the Paris global financing pact summit which takes place in June this year countries in the Global North have submitted SDRs of $81 bn to the RST, which will be used to secure new loans. The achievement of the $100bn goal celebrated at the Paris summit is still not fulfilled, because the promised $21bn from the US remain stuck in Congress. However, it took until the end of May 2023 for a country, Rwanda, to receive loan funds (amounting to $98.6 million) from the IMF’s RST programme.[3] Other proposals discussed at the Paris summit on how to increase the number of low-interest loans to the Global South have been put forward by the African Development Bank (AfDB) and by the “Bridgetown Initiative” introduced by Barbados. These are very important and feasible suggestions. Yet, they have not yet been taken up by the countries of the Global North.
With the amount of SDRs currently forwarded, the climate targets are far from achievable.
The options mentioned above could significantly increase the number of profitable – and thus bankable – investments in renewable energies in the Global South. However, the SDRs committed so far will be far from sufficient to achieve the necessary RE investments of several trillion annually. Moreover, even loans with relatively low interest rates would further increase the already unsustainable foreign debt of the Global South. This flaw will be remaining by all of the proposals.
We need a more radical SDR finance tool
To close this investment gap and avoid further increases in external debt, a new mechanism is needed whereby countries in the Global North pass on their unused SDRs in the form of grants. This would require countries to forego maintaining the “reserve asset characteristic” of their SDRs. In this process, the MDBs (especially the so-called “prescribed holders” who are allowed to hold SDRs themselves) would play an important mediating role by developing RE roadmaps together with the countries of the Global South. The MDBs can use their expertise on how best to use the donated SDRs – as grants or guarantees – to finance maximum investment.
As soon as the SDRs are used to pay for the imported RE equipment, they returned to the balance sheets of the central banks of the Global North. However, the associated money creation is not a problem from an economic point of view because real values (the RE equipment) were produced with the new money.
Similarly, the new financing procedure should involve a further, and in the best case continuous, allocation of SDRs.
The forwarding of SDRs to finance the global energy transition (and other SDGs) will be hampered by Global North states as soon as it results in them losing their “reserve asset characteristic”. In view of the looming climate catastrophe, it is the duty of all G7 and G20 countries and their central banks to do everything they can to support the global energy transition. At the moment, however, they are putting on the brakes and not using the great economic potential of SDRs. The argument put forward by central banks to combat inflation is meaningless if the main cause of inflation is “fossilflation” and not exuberant demand.
In the end, the use of SDRs for necessary climate financing is a question of political will
In the end, the question of using SDRs for global climate finance (and other SDGs) is a question of political will of the Global North, or more precise of the states of the “Global West”. If this will exist, all supposed legal problems are solvable.
The states of the Global West have good reason to repair the reputation they lost through lack of economic aid in the Covid crisis and the price increases for energy, fertiliser, and food in the Global South. The Global West must finally take the next step and use SDRs as the effective financing tool it was always meant to be. If the Global West misses this perhaps last opportunity, it will not only be a major failure in the fight against climate change, but also a loss of ground against its new geopolitical competitors.
Literature
[1] https://www.carbonbrief.org/in-depth-qa-the-ipccs-sixth-assessment-on-how-to-tackle-climate-change/
[2] https://www.brettonwoodsproject.org/2022/12/bridgetown-initiative-calls-for-new-global-climate-mitigation-trust-financed-via-sdrs/
[3] See: IMF; IMF Executive Board Completes First Reviews Under the Policy Coordination Instrument, and Resilience and Sustainability Facility for Rwanda, May 24, 2023: https://www.imf.org/en/News/Articles/2023/05/24/pr23176-rwanda-imf-exec-board-completes-1st-rev-policy-coord-inst-rsf