3. The role of blended finance in the coronavirus (COVID-19) crisis response and recovery in least developed countries

Private sector mobilisation remains particularly challenging in the immediate response given the high risks in LDCs. The magnitude of the COVID-19 shock is unprecedented, and there is still uncertainty about how the pandemic and response will evolve in LDCs. As a result, during this initial phase, record levels of capital outflow have been noted. The focus of international co-operation has been mainly on grant support, with the aim of responding to the heath emergency and protecting the most vulnerable populations by providing safety nets. In 2018, 90% of official development assistance (ODA) to LDCs came in the form of grants, a drop from about 93% in 2015 (UN, 2020[1]). While this decline was most notable in certain economic sectors, it will be important for ODA providers to avoid further diverting important grant funding from key social sectors in LDCs. Moreover, many donor governments are falling short on their ODA commitments and should strive to achieve their targets, considering the unprecedented crisis. By design, blended finance may have more of a role in the medium- to long-term recovery. To remain on track to achieve long-term development goals, some ODA resources can be used to mobilise private sector resources to finance the COVID-19 economic recovery, using effective partnering strategies in line with the Kampala Principles (GPEDC, 2019[2]).

In the short term, the focus has been mainly on protecting broader development finance portfolios, rather than launching COVID-19 blended finance vehicles. Development finance providers have mostly focused on protecting existing investments, safeguarding their portfolios and preserving jobs. The general risk aversion of development finance institutions (DFIs) makes it particularly challenging for them to attract even more risk-averse commercial investors in LDCs and find new investable opportunities in the near term and as long as the pandemic is ongoing. The travel restrictions in place in LDCs make it challenging to conduct due diligence processes for DFIs investors, requiring deeper local partnerships with financial institutions (THK, 2020[3]) At this stage, DFIs are mainly focusing on countering the liquidity shortages of their clients and restructuring loans or simplifying procedures to implement fast-track investment processes and to disburse quickly. While many DFIs appear to have acted urgently by making announcements in terms of financial commitments, it is difficult to assess whether these are related to a reallocation of existing funding to address the COVID-19 emergency, or new commitments from additional funding. Germany’s development bank KfW provides a good illustration of the opportunity for DFIs to open new facilities. With investment manager Incofin and Germany’s Federal Ministry for Economic Cooperation and Development (BMZ), KfW has launched the agri-finance liquidity facility, an emergency liquidity facility to give smallholder farmers in developing countries an opportunity to maintain their operations during and after the COVID-19 crisis (Incofin, 2020[4]). Other new initiatives include the three-year, USD 3 billion Fight COVID-19 Social Bond issued by the African Development Bank, the largest dollar-denominated social bond launched in the international capital markets to date (African Development Bank, 2020[5]), and the additional funding from the International Finance Corporation (IFC) for low-income countries and LDCs through its real sector crisis response and its working capital solutions initiatives supported by concessional resources provided by the International Development Association (IDA) Private Sector Window (see the guest contribution in Section 5.2 from the IFC).

Similar to DFIs, impact investors are also prioritising the need to address their portfolio companies’ solvency constraints in the short term, while also launching some new blended finance initiatives. The Response, Recovery and Resilience Investment (R3) Coalition launched in May 2020 aims to identify and fill financing gaps and quickly deploy impact capital to investment opportunities responding to the current COVID-19 crisis. The Coalition's August 2020 report highlights efforts made by impact investors to protect their current investees, including by providing liquidity infusions directly, often via working capital or bridge financing (GIIN, 2020[6]). The short-term focus is therefore on responding to immediate needs and strengthening investee resilience through this emergency and any future crises (ibid.).

Blended finance has been used to support trade finance to ensure that market access channels remain open in the short term. The pandemic and resulting global supply chain disruptions are posing risks to African trade in the form of falling export revenues, limited access to foreign exchange liquidity and a risk of decreased supply of bank-intermediated trade finance (Nyantakyi and Drammeh, 2020[7]). As a result, it is critical to extend the capacity of local banks in LDCs to deliver trade financing by providing risk mitigation tools in challenging markets where credit lines may be constrained. For example, the global trade finance programme (GTFP) developed by the IFC offers local banks partial or full guarantees covering payment risk for trade-related transactions. Through the GTFP bank network, local financial institutions work with international banks that can broaden access to finance and reduce cash collateral requirements (IFC, 2020[8]). In response to COVID-19, up to USD 400 million of concessional IDA Private Sector Window resources have been made available to low-income countries and fragile states to ensure continued availability of trade finance.

A relatively small number of LDCs have provided relief measures for small and medium-sized enterprises (SMEs) to weather the crisis. Eleven LDCs report having put in place or expanded guarantee mechanisms to extend access to credit for SMEs (IMF, 2020[9]). For example, Cambodia has provided a USD 200 million credit guarantee fund. Lesotho, Mali, Niger and Senegal have also announced SME guarantee funds. New initiatives have also been taken by microfinance institutions to support the informal sector in developing countries. In April 2020, a group of fund managers (BlueOrchard, Developing World Markets, Incofin, MicroVest, Oikocredit, responsAbility, Symbiotics, Triodos and Triple Jump) issued a memorandum of understanding to co-ordinate their response to support microfinance institutions in response to the COVID-19 crisis (European Microfinance Platform, 2020[10]).

Beyond such initiatives, new ideas and proposals on harnessing blended finance approaches for the COVID-19 recovery are emerging. There are calls to create a global health security challenge fund to blend resources from national governments, global financial institutions such as the World Bank, bilateral development agencies, international philanthropies and the private sector to help at-risk economies to improve their preparedness for epidemic scenarios (Convergence, 2020[11]). The United Nations-supported initiative on financing for development in the era of COVID-19 and beyond calls for increased efforts to promote private investments towards the SDGs in developing countries, including through greater support for innovative blended finance approaches in LDCs (UN, 2020[12]). In addition, the 30 financial institutions in the Global Investors for Sustainable Development Alliance (GISD), convened by the United Nations Secretary-General, has called for the establishment of a blended finance fund for the SDGs, modelled after the IFC’s managed co-lending portfolio programme. The aim of this fund would be to aggregate projects that were not previously bankable to take blended finance to large scale (GISD Alliance, 2020[13]).

Blended finance can play an important role in the medium- to long-term response to the pandemic, in two ways. First, it can stimulate economic recovery and, second, improve resilience for future crises, from both financial and sustainability standpoints.

Private finance mobilisation remains central but challenging in the medium-term, given the high risks in LDCs. Even prior to the crisis, OECD data show that only 6% of the private finance mobilised by official development finance interventions in 2012–2018 went to LDCs (OECD DAC, 2020[14]). Concessional finance providers will need to think critically about how best to use their scarce resources and get the balance right between leverage and development impact (see the guest contribution in Section 5.4 from CrossBoundary on how to evaluate this choice). Blended finance practitioners will need to make a stronger case for the role of blending in building resilient and sustainable market systems to help build forward better in countries that are being left behind. To take blended finance to large scale and achieve greater impact in LDCs post-COVID-19, wider engagement of philanthropists and new investors, along with joined approaches between grant and non-grant providers, will be needed (see the guest contribution in Section 5.5 from ThinkAhead Consulting).

Meeting the significant sustainable investment needs in LDCs post-COVID-19 will require thinking more strategically about how blended finance can be deployed at large scale. Overall, this could mean moving away from a focus on individual transactions towards greater use of blended finance funds and facilities. For example, the small size of individual investment projects in LDCs is one acute barrier that prevents the mobilisation of private finance. As argued in the guest contribution in Section 5.3 from Convergence, one way for blended finance to help overcome this challenge is by supporting transactions at the portfolio level (e.g. through pooled funds or facilities), as opposed to individual transactions at the project or company level. A portfolio approach helps to create larger deals, to increase diversification to reduce risks, and makes assessment and approval processes more cost-effective. This can also include a greater use of structured funds, which pool capital with different risk tolerance and return expectations, and which have proven to mobilise more commercial finance than flat funds and are more likely to reach a size of USD 100 million or more (Convergence, 2019[15]).

At the same time, greater standardisation in the blended finance field would lead to less complexity, lower transaction costs and greater transparency, which would enable more scalable approaches in response to the crisis. There is yet no standardised, ready-to-use model for a blended finance investment, and each vehicle is structured according to the specific needs of investors and local markets. This complexity prevents many mainstream investors from placing capital in blended finance vehicles (17 Asset Management, 2019[16]). In the guest contribution in Section 5.12, Global Affairs Canada stresses that for blended finance to be further scaled up, greater transparency is needed to improve the understanding of what works and where the effectiveness of blended finance mechanisms can be improved, when it comes to both financial performance and development impact. The author puts forward a set of actions that can be taken in this regard, including reaching broader agreement on standardised reporting requirements for different stakeholders.

Improved transparency will be even more urgent and important in the response to the COVID-19 crisis, to ensure that blended finance truly delivers optimal sustainable outcomes. To assist blended finance practitioners to better assess the impact of blended finance activities on poor people, the Tri Hita Karana (THK) working group on impact has developed a practical checklist, with a set of questions and screening considerations for the ex-ante assessment of the expected impact, as well as the ex-post assessment of the actual impact on the poor, in line with the Global Impact Investing Network’s IRIS+ impact metrics (THK Impact Working Group, 2020[17]); (THK and IRIS, 2020[18]). The OECD Community of Practice on Private Finance for Sustainable Development is also planning further work on transparency, to measure impact and provide information for investors to evaluate the market.

Strengthening capacity in local capital markets will be crucial to increasing the uptake of blended finance transactions in LDCs. Palladium’s guest contribution in Section 5.6 discusses the lack of local ecosystems of key actors, of local capital market integration, and of enabling policies, structures and capabilities and the resulting “market friction” as major barriers to the growth of blended finance in LDCs. The contribution argues the need to take a blended finance market development approach in LDCs, and describes Palladium’s effort to strengthen transaction advisory and business development advisory services as a key component of that ecosystem to help generate specific blended finance transactions. GuarantCo’s guest contribution in Section 5.9 highlights the low level of capacity in local capital markets to assess and price the credit (repayment) risk of infrastructure projects and proposes to overcome this challenge through a three-pronged approach: (i) using donor-funded guarantees to attract local investors, (ii) providing capacity-building to educate investors about how to assess the credit risk of infrastructure projects and (iii) establishing and developing local currency guarantors to support the development of local capital markets.

In the wake of the crisis, it will be critical for LDC governments to pursue relevant policy reforms aiming to improve the local investment climate. Development partners should support and co-ordinate efforts with the public sector to promote the reforms needed to create the policy and regulatory environment necessary to attract investors back to LDCs, including in specific priority sectors. Global policy-making discussions on increasing private finance flows existed before the COVID-19 crisis, but will be even more relevant given the additional challenges. For example, the G20 Compact with Africa was initiated in 2018 and aims to increase the attractiveness of private investment in African countries by improving macro, business and financing frameworks. So far, 12 African countries, seven of which are LDCs, have joined this effort. As a result, participating countries are speeding up the implementation of business environment reforms (IFC, 2019[19]).

From the consultations with blended finance experts conducted as part of this report, it emerged that pipelines of investment-ready sustainability projects in key sectors need to be developed for crisis-recovery financing. The blended finance community should be doing this now, even while the crisis is still unfolding. Developing a robust pipeline for post-crisis investments will position investors for when the recovery phase takes hold (Lee, 2020[20]). Even before the COVID-19 crisis, there was wide recognition of the shortage of investment-ready projects in LDCs and the costly and time-consuming pipeline origination and project preparation (OECD/UNCDF, 2018[21]); (OECD/UNCDF, 2019[22]). Projects in key sectors, as identified in tools such as the integrated national financing frameworks (INFFs) and nationally determined contributions under the Paris Agreement, should be prioritised (see Box 3.3 on integrating blended finance in INFFs). The United Nations global SDG investment platform, proposed by the GISD, could contribute to create the pipeline for SDG-enabling investments at large scale by filling market intelligence gaps and connecting investors to actionable investment opportunities (UNDP, 2020[23]).

The lack of investment-ready project pipelines also highlights the need for enhanced investment preparation capacities within governments and development institutions. Transaction and deal support, which is underdeveloped in most LDCs, will benefit from direct private sector expertise. At the country level, investment promotion capacities and investor one-stop centres could be further strengthened to identify sustainable investments. In addition, to support smaller-scale projects in LDCs to access additional finance, the provision of early-stage risk capital can often be critical (see the guest contribution in Section 5.10 from UNCDF’s LDC Investment Platform team on addressing the “missing middle” challenge). Such capital, combined with technical assistance, helps to demonstrate commercial viability and address constraints such as a lack of collateral or credit history. UNCDF manages a portfolio of such risk-tolerant catalytic loans and guarantees on its balance sheet, which aim to de-risk early-stage enterprises and projects in LDCs to enable their access to additional finance. This support for “missing middle” finance in LDCs fills a unique niche in the development finance architecture, and UNCDF now aims to fully capitalise its LDC investment facility to scale up this support, in its capacity as an official international support measure for LDCs (UN, 2020[24]). As also highlighted in UNCDF’s guest contribution in Section 5.8, the organisation is also establishing technical assistance facilities for two blended finance vehicles it helped establish, the BUILD Fund and the International Municipal Investment Facility, to support local partners on the ground to assess, identify and prepare investments.

For highly indebted countries that do not have unsustainable debt burdens, debt swaps for COVID-19 response, SDG and climate investments could be considered (UN, 2020[12]). Debt swaps would mean that debtor countries would agree with creditors to reallocate a part of the resources that have been budgeted for debt repayment to finance domestic projects that will contribute significantly to COVID-19 recovery and SDG progress. Under such debt swaps, one option could be for governments to allocate a portion of these resources for investments through blended finance vehicles, working in collaboration with development partners and other concessional finance providers. This could enable the mobilisation of sustainable private investments at large scale for building forward better post-COVID-19. While debt swaps to date have mostly been limited to smaller projects, some recent relevant experiences include a smaller sovereign debt swap for climate adaptation and impact investments in the Seychelles (Palladium, 2019[26]) and a proposal for swapping up to USD 1 billion in Caribbean external debt for annual payments into a climate resilience fund (Horgan, Murchison and Vaughan, 2020[27]). Larger-scale debt for climate and nature swaps with a focus on sustainable investments are gaining more interest, including a proposal for such an effort to back the LDC Group’s 2050 Vision for a low-carbon, climate-resilient future, launched in 2019 (LIFE-AR, 2019[28]).

To best prepare the medium-term recovery, it is critical for LDC governments as well as their financing partners to draw lessons from past crises. For example, the global financial crisis highlighted the need for DFIs and regional development banks to play a countercyclical role and have a catalytic effect to crowd in commercial finance for the recovery in the most vulnerable geographies. To illustrate this, independent evaluations of the crisis performance of the IFC and the European Bank for Reconstruction and Development (EBRD) offer some useful evidence (Lee, 2020[20]). Both were key actors in tackling the crisis – the IFC because of its size and global scope, and the EBRD because of its private sector focus and operations in the region hardest hit by the global financial crisis, and because it was considered highly countercyclical.

In addition, the Ebola crisis demonstrated the importance for LDCs’ governments to implement clear national recovery plans. One example of this can be found in Sierra Leone post-Ebola. The recovery plan clearly outlined the following three country priorities (Government of Sierra Leone, 2015[29]): (i) provide support to the agricultural sector, which may have suffered from a decline in agricultural outputs, (ii) restore tourism and attract private investment, as well as ensure the resumption of air and sea transport operations, given the restrictions on the movement of cross-border goods and services during the epidemics, and (iii) recapitalise financial institutions and support them to provide affordable finance for SMEs. Such national recovery plans should serve as a basis for blended finance actors when shaping responses post-COVID-19 and designing future blended finance transactions.

Expanding blended finance transactions to address liquidity and solvency by using debt and equity products will become more critical in the medium-term. Equity, including early-stage equity and quasi-equity, and subordinated debt, including in local currency, could prove particularly critical as we move from a liquidity crisis to a solvency crisis. However, this will involve taking greater risks in LDC markets; investors’ ongoing perception of these markets as high-risk will likely still hinder the growth of private investment in the medium-term. In addition, development financiers, including DFIs, will likely have some distressed assets on their balance sheets as a result of the economic impact of the pandemic. When considering future investments, financiers will require more concessionality and will likely use more capital-intensive instruments, reducing their overall ability to extend their lending.

Managing risk will be critical for blended finance actors, especially in a period of extreme uncertainty and rapid evolution of risk (see Box 3.1). Risk mitigation instruments need to be used even more strategically in the medium-term in LDCs. In such circumstances, blended finance is an effective approach to cover the risks that the private sector cannot mitigate (such as political, market or regulatory risk) and provide risk mitigation in areas where no or limited market solutions are available in this crisis context for de-risking (through, for example, insurance or guarantees). It should also be noted that guarantees are complicated instruments, especially in collaboration with the private sector, and can take several months or up to a year to set up for implementation.

DFIs are important actors in offering risk mitigation and should use their catalytic role to attract further investment in the mediu- term to build more resilient markets. DFIs have been at the centre of the discussions in the THK Roadmap for Blended Finance, as key actors with a clear catalytic role. In particular, taking on more risk for DFIs will mean focusing on more fragile countries and contexts, using catalytic instruments and focusing on sectors severely hit by the crisis. However, it should be noted that these institutions also face various challenges, including potential damages to their balance sheets. DFIs may also need to work with shareholders and rating agencies to accept a certain level of loss, as they direct more resources to LDCs. Box 3.2 discusses how DFIs can take on more risks (THK, 2020[3]) (see the guest contribution from Think Ahead Consulting on DFIs’ role in Section 5.5).

Prioritisation of where to focus blended finance investments will be critical for LDC governments and their partners. With the present urgency and limited resources, blended finance should be applied in support of LDCs’ national priorities in sectors and areas where the largest impact can be achieved in rebuilding more equitable, resilient and sustainable LDC economies and societies that accelerate the achievement of the SDGs in the coming decade. As countries define their post-COVID-19 development pathways for building forward better, they will need to balance the pursuit of economic value creation and diversification, the generation of decent jobs and inclusive growth, environmental sustainability and low-carbon development alongside good health. Building forward also means changing structures, systems and processes, to promote inclusive and sustainable growth. Overall, blended finance should be positioned as one tool in the financing toolbox to help demonstrate projects’ viability and crowd in private investments in LDC priority sectors that contribute to achieving these multiple objectives, with a focus on investments that create jobs.

Inclusive country ownership will remain fundamental. Consulting and engaging with national and local governments as well as other non-state actors such as civil society and the private sector will ensure that the development projects chosen for investment are country-led and country-owned, in accordance with the Addis Ababa Action Agenda and the Kampala Principles. Development partners have yet to effectively engage national governments and incorporate a “whole-of-society” approach in their private sector engagement and blended finance efforts, according to the Global Partnership on Effective Development Cooperation1 (GPEDC, 2019[2]) (see pages 44–45 of the 2019 edition of this report (OECD/UNCDF, 2019[22]) and the guest contribution in Section 5.1 on perspectives from Bangladesh on country ownership and alignment with national priorities).

To identify sectoral and other SDG priorities, blended finance providers should consult governments about priority sectors for development that could benefit from blended finance. This should include referencing and aligning with national SDG implementation plans and INNFs that have recently been developed or are under development in many LDCs (see Box 3.3 on INFFs). It should also involve reviewing any national strategies or response plans to address the COVID-19 crisis.

Ensuring alignment with national climate and environmental priorities through nationally determined contributions (NDCs) under the Paris Agreement will be critical. Ahead of the United Nations climate change conference (COP26) in late 2021, countries are in the process of developing their NDCs to put in place low-carbon green economy plans. This provides an important opportunity to look at how blended finance can mobilise investments to support the implementation of these plans.

National SDG implementation plans and strategies, such as NDCs, will in most cases need to be further translated into more specific sector and sub-sector priorities where specific investment opportunities could be pursued. One useful resource in this regard is the IFC’s country private sector diagnostic, which combines economy-wide and sector-specific analysis of constraints with the aim to identify private sector investment opportunities and policy actions to unlock these (IFC, 2020[35]). As of 2020, diagnostics have been undertaken in six LDCs (Burkina Faso, Ethiopia, Myanmar, Nepal, Rwanda and Senegal). In Senegal, for example, the analysis highlighted private sector investment opportunities in agriculture, education, tourism, and real estate and housing, which could unlock job creation, growth and structural transformation if a set of identified constraints are alleviated (IFC, 2020[36]). Another tool is the UNDP-led SDG investor map, which is an eight-step methodology to produce data and insights on country-level sustainable investment opportunity areas in key priority sectors and sub-sectors that would contribute to progress on the SDGs. Fourteen maps were produced in 2020 (two in the LDCs of Rwanda and Uganda), with several more planned for 2021 (UNDP, 2020[23]).

Co-ordination and strengthened collaboration will be critical, including with local actors such as national development banks. This is especially true as the crisis has limited international travel and created the need to staff up local capacity. Existing donor co-ordination groups at the country level can play an important role in gathering the main actors on the ground and rationalising and co-ordinating their efforts. Some donor groups already have their own dedicated working groups to discuss private sector engagement, including blended finance, while others review such issues in sectoral discussions. Development partners should make use of these groups where available and ensure that discussions go beyond simple updates on ongoing projects (GPEDC, 2018[37]). In addition, research from the Tony Blair Institute and CrossBoundary recommends that governments, DFIs and the private sector align approaches and synchronise efforts to scale up investment for COVID-19 economic recovery, including by co-ordinating on sector and sub-sector planning with governments (Cusack et al., 2020[38]). The Finance in Common Summit in November 2020 highlighted the importance of bringing together all actors in the development finance system, including those that have not always been integrated into the global development finance architecture, such as national and regional development banks. The guest contribution in Section 5.11 from the Overseas Development Institute (ODI) argues that national development banks (NDBs), present in almost two thirds of all LDCs, have a critical but often overlooked role to play in advancing the SDGs and the climate change agenda. NDBs are well placed to help leverage sustainable private investments if three preconditions are in place: (i) NDBs are well governed with a clear green mandate and business model to support the mobilisation of private finance, (ii) NDBs are adequately resourced, and (iii) NDBs receive international support, including from multilateral development banks (MDBs) and DFIs, and are provided with access to international concessional climate finance. The declarations of intent made at the Finance in Common Summit (Finance in Common, 2020[39]) will need to be operationalised and monitored to realise the vision of a fully integrated development finance system and its ability to support the world’s most vulnerable people.

Identifying specific priority investments will also require using ex-ante evaluation criteria to ensure investments have optimal development impact, such as reaching the last mile and vulnerable populations, providing essential goods and services with large SDG-positive spillover effects, and driving job creation, regional integration, supply and value chains, and economic growth. To optimise the development impact of blended finance investments and ensure the best possible use of taxpayer resources, it is important to compare and balance the amount of “leverage” (amount of commercial finance raised by every donor dollar) and the development “additionality” that blended finance vehicles bring, as examined by CrossBoundary’s guest contribution in Section 5.4 through the example of two use cases of blended finance. In addition, DFIs and MDBs should adhere to the MDBs’ harmonised framework for additionality in private sector operations (IFC, 2018[40]) and employ their ex-ante evaluation tools to determine anticipated impact and inform investment decisions (see the guest contribution in Section 5.2 from the IFC on the anticipated impact measurement and monitoring (AIMM) system). UNCDF’s approach to measuring results attempts to capture both financial and development additionality through a formal theory of change and an integrated results and resources matrix that sets out a series of performance indicators at both the investee and the policy or market system level (OECD, 2020[41]). The SDG impact standards for private equity funds, recently released by the United Nations Development Programme (UNDP), are a useful tool for investors to systematically identify, optimise and manage sustainable development impacts (UNDP, 2020[42]). The OECD, in collaboration with the UNDP, is currently developing impact standards on financing for sustainable development, to serve as a tool for donors to manage the sustainable development impacts of their investments made through private sector partners.

According to the International Labour Organization (ILO), the pandemic has put nearly half of the world’s 3.3 billion workforce at risk of losing their livelihoods (ILO, 2020[43]); (ILO, 2020[44]). Income losses are expected to exceed USD 220 billion in developing countries (UNDP, 2020[45]). The share of labour income lost in low-income countries during the first three quarters of 2020 was 10.1%, close to the global average of 10.7% (ILO, 2020[43]). This loss in income translates into 19 million full-time-equivalent jobs lost in low-income countries. Particularly in LDCs, hard-hit sectors have a high proportion of workers in informal employment and workers with limited access to health services and social protection. The different types of jobs and the lack of information technology infrastructure in LDCs make working from home impossible for most people. Among those most exposed to the immediate social impacts of COVID-19 are young people, and in particular young women, who tend to be over-represented in LDCs’ sizeable informal economies, lack savings and work in the economic sectors that have been most impacted by social distancing restrictions (UN/DESA, 2020[46]). Weak social protection systems and low levels of fiscal stimulus in these countries mean that this loss in income is likely to push a higher share of households into poverty than in countries with better social protection and larger stimulus programmes (ILO, 2020[43]). The loss of livelihoods will reverberate across societies, impacting education, human rights and, in the most severe cases, basic food security and nutrition (UNDP, 2020[45]).

Central to restarting and rebuilding LDC economies should therefore be a focus on creating, and employing people in, decent and productive jobs. It is widely accepted that the most effective and sustainable way to achieve inclusive and sustainable development is to create jobs offering higher wages and better working conditions (UN, 2017[47]). Blended finance should prioritise providing needed capital in LDCs to help protect and create jobs, sustain the self-employed, and support companies’ liquidity and operations, to accelerate the recovery in the future.

Enterprises and sectors with strong job creation potential should be identified and targeted by blended finance providers. For example, two thirds of LDCs’ labour force are engaged in agriculture as a main source of livelihood, and agriculture growth is two to three times more effective in reducing poverty in Africa than growth in any other sector (UNCTAD, 2018[48]). Small and medium-sized enterprises (SMEs) in the agriculture sector are critical to linking production with markets, but due to high lending risks and lower returns in the sector, agricultural SMEs have limited access to capital. There is an estimated USD 65 billion annual financing gap for agricultural SMEs in the missing middle in sub-Saharan Africa (see the guest contribution in Section 5.10 from UNCDF’s LDC Investment Platform team). In East Africa, for example, 65% of the population works in the agriculture sector, which accounts for 25% of GDP but receives only 5% of commercial bank lending (Aceli Africa, 2020[49]). The situation is similar in Asia-Pacific LDCs. Blended finance holds significant potential to mobilise resources into agricultural finance ecosystems, including in LDCs. The OECD, together with the Smallholder and Agri-SME Finance and Investment Network (SAFIN), has conducted a deep-dive on mobilising private finance for agri-SMEs through blending. Box 3.4 provides insights on a case study of a blended finance project in Bhutan focused on sustainable agriculture.

Digital solutions and innovations have proved particularly important in ensuring business continuity and the protection of jobs. From virtual meetings to online orders, digital services are growing in importance, permeating an increasing number of sectors and activities. Digitally agile firms are adapting to the ongoing crisis more successfully, and others are rapidly adopting digital innovations in response to challenges to their business models (WEF, 2020[51]). Investing in digital solutions and competitiveness will therefore be key to promoting resilient economic recovery as well as both protecting jobs and creating new ones. The guest contribution in Section 5.7 from UNCDF’s Financial Inclusion practice highlights how digital innovations have enabled rapid growth for a wide range of SMEs and business models in different sectors that can now leverage blended finance solutions to reach large scale.

The crisis can be an opportunity to refocus blended finance to address concerns around impact to place a stronger and more explicit focus on job creation. In the consultation with experts to inform this report, it emerged that, with the expected influx of public spending and grants to respond to the crisis, there is an opportunity to incentivise or require private sector recipients of public support to protect or create decent jobs and, more broadly, to incorporate and drive sustainability through their business models. The pandemic has also underscored the importance of investing in productive capacities in the LDCs (including in areas such as energy, telecommunications, infrastructure and entrepreneurship) to create jobs, enhance resilience to shocks and drive structural transformation towards more diversified economies. To ensure maximum impact, results-based blended financing instruments could also be used in certain sectors, where it could be possible, for example, to include incentives to retain workers as conditions of loans.

The following sections highlight several areas and sectors that are critical for job creation and long-term sustainable economic growth in LDCs, that could be prioritised by blended finance providers.

SMEs are engines for growth and need to be supported to stimulate the recovery and job creation. SMEs account for 35% of formal jobs in LDCs, and medium-sized national industries are often made up of dynamic firms with solid growth potential to generate jobs and boost value addition in national products (UNCTAD, 2018[48]). They also tend to have strong production linkages with the national economy and serve as key players in regional value chains. However, SMEs in low-income countries face significant constraints in accessing finance. On average, 22% of all SMEs globally report being fully credit-constrained, while in low-income countries the share is almost double (42%) (IFC, 2017[52]).

SMEs based in LDCs have been severely affected by the crisis. Preliminary findings from a survey on the state of SMEs in LDCs conducted by a consortium of organisations, including UNCDF, show that due to COVID-19, 87.9% of SMEs report that they operate on less than 75% business capacity, 34.6% have laid off staff, and 33.9% indicate that they are at risk of shutting down within three months (UNCDF et al., 2020[53]). SMEs in the textile, personal care, hospitality and energy sectors are affected worse than businesses in sectors such as financial, professional and technology services (ibid.). Women-led businesses report higher rates of lay-offs (36.9%) and risks of closure (39.5%). SMEs report the lack of access to customers and suppliers as the main challenges caused by the pandemic (ibid.). SMEs in LDCs also have a high share of direct exports, for example in the furniture-making sector, and have been impacted by the global supply chain disruptions caused by the crisis (WTO, 2020[54]). Overall, SMEs in the Asia-Pacific LDCs seem to be faring better than SMEs in sub-Saharan Africa in terms of operational capacity and anticipated revenue loss, as 51.7% of Asia-Pacific SMEs, versus only 24.6% of SMEs in Sub-Saharan Africa, report being at between 50% and 100% operational capacity (UNCDF et al., 2020[53]).

Innovative blended finance could be part of the solution to providing the financing support needed by SMEs. This is especially true for small and growing businesses, the so-called missing middle (for more information on the challenges of missing-middle financing, see page 17 of the 2018 report (OECD/UNCDF, 2018[21]) and page 17 of the 2019 report (OECD/UNCDF, 2019[22])). MDBs and DFIs as well as local banks tend not to serve this enterprise segment because of high risks (real and perceived) and high transaction costs. Providing support – through loans or guarantees, for example – to local financial institutions that on-lend to local SMEs can help to ensure access to finance.

Blended finance vehicles that target this financing gap do exist. For example, all the following use blended finance to increase access to finance for SMEs: the BUILD Fund, managed by Bamboo Capital and supported by UNCDF (see the guest contribution in Section 5.10 from UNCDF’s LDC Investment Platform team), Boost Africa, a joint initiative between the African Development Bank and the European Investment Bank (EIB), with a first loss tranche provided by the European Commission that invests in SME funds in Africa (African Development Bank, 2020[55]), and, the EIB’s SME Access to Finance Initiative, which offers medium- to long-term funding and a partial portfolio guarantee (EIB, 2020[56]). Other noteworthy initiatives include Aceli Africa (Aceli Africa, 2020[49]), which offers portfolio first-loss coverage and origination to address the mismatch between the risk-return hurdle of lenders and the demand for capital among agri-SMEs, and the African Guarantee Fund, which provides financial institutions with loan portfolio guarantees and other financial products and financial incentives to secure existing portfolios of loans to SMEs (African Guarantee Fund, 2020[57]). In the wake of COVID-19, innovative blended finance solutions such as these targeting LDC-based SMEs in the missing middle should be scaled up and replicated, recognising the important roles of SMEs in creating much-needed jobs.

Women play a vital role in economic and sustainable development, but face additional challenges under the COVID-19 crisis. It is therefore critical to prioritise investments that economically empower and create jobs and livelihoods for women. Women are disproportionately more impacted by economic shocks, are at a greater risk of being laid off, and have lower access to social protections (Narayan, 2020[58]). Women are more likely to hold less secure jobs in the informal economy, and generally earn less than men. Women are also likelier to work in the front-line health and service sectors, increasing their exposure to the virus Moreover, lessons from the Ebola epidemic suggest that the negative impacts on women’s economic livelihoods are longer-lasting than those for men. In addition, the 2X Challenge and the Gender Finance Collaborative stress that the COVID-19 pandemic has and will continue to magnify pre-existing gender inequalities and vulnerabilities (2X Challenge, 2020[59]).

Blended finance can be employed to provide liquidity or working capital to financial institutions and intermediaries that incorporate a gender lens, cater to women borrowers, such as microfinance or SME lenders, concentrate on women-focused fund managers, and target sectors with high levels of female representation (2X Challenge, 2020[59]). For example, the IFC is providing pooled first-loss guarantees to support new working capital loans to SMEs in low-income countries, with special incentives for financial institutions that target women entrepreneurs (IFC, 2020[60]). In April 2020, the 2X Challenge put out a call to action to DFIs, private sector investors and other financial intermediaries to ensure that gender dynamics are incorporated into their COVID-19 crisis responses (2X Challenge, 2020[59]). The recommendations are focused on rapid crisis response – including providing direct financial and advisory support, liquidity or working capital to financial intermediaries that incorporate a gender lens, and investing in solutions to improve gender-disaggregated data. In the longer term, it will also be important to finance and prioritise vehicles, facilities and other gender-smart solutions that “increase resilience to future pandemics and other shocks from a gender equality perspective” (2X Challenge, 2020[59]). Investments must be made in areas such as childcare support and women’s economic empowerment that facilitate female participation in the workforce. The Impact Investment Exchange (IIX)’s Women’s Livelihood Bond, which provides a guarantee of 50% of the loan principal, has a USD 500,000 first-loss tranche, and is listed on the Singapore stock exchange. It is an innovative example of how blended finance can support women-led social enterprises to build their resilience to socio-economic shocks in Asia. It is also a model that could be scaled up or replicated (IIX, 2019[61]).

Ensuring that health systems are properly resourced, in terms of both finance and supplies, is key for both the response and recovery to the pandemic and for resilience to future health crises. Blended finance can be used to help mobilise additional finance towards the dissemination of vaccines in LDCs. Using advance market commitments, “concessional funders guarantee the future purchase of a service/product not yet available, or not available in a particular market at a specific price” (Apampa, 2020[62]). This financial commitment could help to provide accelerated, affordable and large-scale vaccine availability and distribution in LDCs.

Blended finance can also play an important role in supporting health system recovery and resilience (for more on the potential of blended finance in supporting health systems, see pages 45–47 of the 2019 edition of this report (OECD/UNCDF, 2019[22])). In response to COVID-19, there are growing calls from LDCs to develop industries to domestically produce vital medical supplies, including test kits, medicines and personal protective equipment. In addition, health infrastructure, including adequate hospital capacity, clinics and beds, is crucial to building resilience. A blended finance mechanism could be employed to help finance the production and manufacturing of pharmaceutical products and the development of health infrastructure. For example, the Investment Fund for Health in Africa is a private equity fund focused on privately backed healthcare SMEs. The fund targets SME healthcare providers in the sectors of care provisioning (hospitals, clinics and similar care providers), healthcare product manufacturing and supply, and wholesale and distribution in sub-Saharan Africa. The fund includes guarantees and insurance from public and philanthropic investors (IFHA, 2020[63]). The International Committee of the Red Cross programme for humanitarian impact investment uses an impact bond, where results-based financing is provided by public investors based on performance, to leverage funding from private institutional investors to deliver comprehensive physical rehabilitation services in conflict and post-conflict countries on the African continent (Convergence, 2020[64]).

However, blended finance investments in health should carefully consider existing issues in the health systems of developing countries, such as fragmentation and inequalities. The choice of financing mechanisms to deliver healthcare services should be based on their ability to ensure that they benefit citizens and address inequalities (OECD DAC, 2020[65]). Blended finance models could explore how to expand and deepen social protection. For example, concessional finance could play a role in closing the gap between the low premiums that individuals can pay and the greater actuarial risks. Blended finance providers should contribute to building the evidence base, assessing the impact of blended transactions on both the expansion of health coverage (quantity) and on its affordability, accessibility and appropriateness (quality) (Eurodad, 2019[66]).

Blended finance solutions could be employed to scale up e-health solutions to support LDCs and help to reach the most vulnerable populations. Private sector-developed e-health solutions, including contact tracing, telemedicine and mobile health applications, have also proved useful in supporting health systems during the pandemic. For example, LDCs have used chatbots to transmit practical information and best practices, and contact tracing applications to enable the rapid identification of new cases (UNCDF, 2020[67]). Moreover, the United Nations Technology Bank for the Least Developed Countries has launched a technology matchmaking platform to scale up the local production of essential COVID-19 technologies (Tech Access Partnership, 2020[68]). Concessional finance providers should provide incentives for the private sector to engage in these solutions to support urgent health needs and boost long-term pandemic preparedness and resiliency planning.

In the medium to longer term, it will be important to focus blended finance investments on projects and sectors that increase the resilience of economies and societies to future crises. Examples include climate-compatible infrastructure (especially in health, and water and sanitation; see Box 3.5), clean energy, oceans-based sectors, digital finance and e-commerce solutions, including sectors that have received low volumes of blended finance to date. Recognising that not all sectors are currently able to generate sufficient financial returns for most private investors, there are nevertheless opportunities in sectors that traditionally have been overlooked. Such upfront investments are likely to be less costly than responding to and rebuilding from future disasters and shocks. Many of these sectors also hold strong potential for job creation, especially for youth, and help to drive more rapid structural transformation (Africa Growth Initiative, 2019[69]). Enabling policies and targeted finance solutions for companies in these sectors would further contribute to job creation and help to build stronger, more sustainable and more resilient systems for the future.

The importance of transport and infrastructure was highlighted during months of border closures, disruptions in the delivery of essential supplies and shortages of food stuffs, especially in landlocked LDCs. It is also important to ensure the affordability and accessibility of products and services, especially for the most vulnerable. For example, the guest contribution in Section 5.8 from UNCDF’s Local Development practice points to the rapid urbanisation in many LDCs and the investment opportunities that growing and more productive cities can bring. However, capital investments are not increasing, due to underdeveloped domestic capital markets and the lack of ability of most municipalities to borrow from international markets. Blended green finance could be part of the solution, and a growing number of cities’ networks and DFIs are coalescing around an agenda focused on blended finance for municipal development (for more on this, see pages 47–48 in the 2019 report). Moreover, while water and sanitation is still one of the least targeted sectors in blended finance, and investments in this sector’s management have historically been financed by the public sector, OECD evidence shows that blended finance can play a critical role in mobilising commercial finance as well as strengthening the financing systems on which water-related investments rely (OECD, 2019[70]). Box 3.5 presents a case study on a water-related project financed through a blended finance approach in Uganda.

Clean energy is a crucial enabling sector for all economic activities, for building resilience and achieving the SDGs. While energy is the sector where blended finance has mobilised the most private finance in LDCs (see Figure 4.12, Chapter 4), there is still far from enough investment going to clean and renewable energy in LDCs. Despite progress towards sustainable energy access in many LDCs, more than 60% of people in LDC populations lacked access to electricity in 2017 (UNCTAD, 2017[72]). More than 40% of LDC businesses are held back by inadequate, unreliable and unaffordable electricity. Achieving SDG 7 on universal access to energy by 2030 in LDCs would require a 350% increase in the annual rate of electrification and an estimated minimum of USD 12 billion annual investments (ibid.). At the same time, investments in green sectors and green jobs such as in renewable energy, are generally more labour intensive, so investing in them can help to expand employment (UN, 2020[73]).

More blended finance funds and facilities can help fill this energy gap and catalyse larger, utility-scale, transformative investments to drive low-carbon resilient development and jobs in LDCs. One example of such a larger-scale blended finance facility is Climate Investor One (CI1), focused on financing projects in low- and lower middle-income countries in the wind, solar and hydro sectors. It focuses on 11 countries, of which five are LDCs (Burundi, Djibouti, Madagascar, Malawi and Uganda) (Green Climate Fund, 2018[74]). Following a notable investment by the Green Climate Fund along with the Netherlands, the European Union, the Nordic Development Fund and USAID, the CI1 facility closed at USD 850 million in June 2019, with some USD 620 million in commercial equity mobilised from investors in Africa, Europe and the United Kingdom. CI1 comprises three funds tailored to finance each stage in a project’s lifecycle: the development fund for the development stage, including pipeline development; the construction equity fund for construction; and the refinancing fund for operations. Based on the experience of CI1, its approach will be replicated and scaled up through the establishment of a next vehicle, CI2, to address adaptation challenges focusing on water, sanitation and ocean systems (Choi and Seiger, 2020[75]).

Investments in digital infrastructure and solutions are imperative for exiting this crisis and helping to build more resilient economies and workforces. While mobile phone and mobile Internet usage is growing rapidly in LDCs, only 19% of the population in LDCs were online in 2019, compared with 86.6% in developed countries and 47% in developing countries. Women access the Internet at a much lower rate than men in LDCs (ITU, 2019[76]). This is due mainly to a lack of digital infrastructure and broadband connectivity, and prohibitively expensive access. This digital divide threatens to reinforce the socio-economic consequences of the pandemic. Investment in digital infrastructure and affordable connectivity is therefore one area where blended finance can play an important role. For example, as part of its strategy to grow the digital economy and public services, the Government of Rwanda is mobilising concessional investment to deploy last-mile solutions and middle-mile networks to connect over 1,700 schools to the Internet, as well as healthcare centres and public institutions that lack broadband connectivity (Giga, 2020[77]).

Supporting the transition to inclusive digital economies in the next decade will be key to creating a new generation of jobs in LDCs. It is estimated that up to 230 million digital jobs can be created in sub-Saharan Africa by 2030, which could generate up to USD 120 billion in revenue (IFC, 2019[78]). Blended finance can play a key role in helping to create such jobs by supporting small and growing digital entrepreneurs that provide digital solutions benefiting the most vulnerable, and the SDGs more broadly; supporting digital supply chain management in sectors where significant numbers of poor people are engaged (e.g. garment manufacturing, agriculture, health); and supporting digital solutions for businesses and value chains in real economy sectors that have been affected by the crisis and that vulnerable populations rely on. For example, in the Pacific, UNCDF is working with mobile network operators to temporarily waive fees for domestic transactions and incoming remittances (UNCDF, 2020[67]). In Malaysia, UNCDF launched a challenge to find solutions to improve the financial health of gig workers. In Uganda, the organisation is supporting motorcycle service SafeBoda to pivot its business from ride-sharing to the home delivery of food, medicines and other goods. This will save the jobs of SafeBoda’s 18,000 drivers, help them to reach at least 28,000 customers, create market access for 800 vendors and enable successful social distancing efforts in Kampala. See the guest contribution in Section 5.7 from UNCDF’s Financial Inclusion practice on digital innovations, which highlights the potentially significant opportunities that digital innovations can provide in mobilising and aggregating micro-savers in LDCs to become micro-investors in local development projects through the use of innovative blended finance mechanisms.

In small island developing states, which heavily rely on oceans-based industries, blended finance efforts could focus on opportunities to scale up or replicate innovative “blue” blended finance schemes, such as blue bonds, debt-for-ocean swaps, blue carbon schemes, insurance schemes to cover oceans-related risks, or impact funds for oceans-based activities (OECD, 2020[79]) (see Box 3.6 on blended finance for blue economies).


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← 1. A mapping of 919 development co-operation projects involving the private sector in Bangladesh, Egypt, El Salvador and Uganda carried out by the Global Partnership for Effective Development Co-operation showed that only 13% of the projects studied listed national governments as partners, and even fewer projects listed other stakeholders (civil society, 9%; business associations, 5%).

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