The Decade of Action for the Sustainable Development Goals (SDGs) starts with a crisis: as the COVID‑19 pandemic unfolds, progress toward the goals is in danger of slowing – and even reversing with poverty expected to rise for the first time in more than twenty years. The crisis has increased inequalities, and not all countries can raise the funds necessary on domestic or international markets to effectively respond and recover. Financing for the sustainable development of developing countries risks collapsing, with all resources available under stress, domestic and external, public and private. Even before COVID-19, financing for the SDGs was not enough. Now, external financing to developing countries could drop by an estimated USD 700 billion in 2020. Revenues will fall further than gross domestic product (GDP) (OECD, 2020[1]). The scissor effect of SDG financing – increasing needs and declining resources – has been magnified (Figure 1). The USD 2.5 trillion annual SDG financing gap in developing countries is predicted to increase due to global economic uncertainty and an estimated USD 1 trillion gap in COVID-19 emergency and response spending in developing countries compared to OECD countries. As a result, the annual SDG financing gap in developing countries could increase by USD 1.7 trillion, i.e. about +70% in 2020.1
Global Outlook on Financing for Sustainable Development 2021
Overview
Figure 1. The scissor effect demonstrates a widening SDG financing gap in developing countries
Source: Authors
The SDG alignment agenda
The impacts and risks presented by COVID-19 reinforce the case to align more global finance in support of a more sustainable and inclusive world and to achieve the 2030 Agenda. More than ever before, incentives governing the public and private sectors are aligning. Putting people and planet at the heart of our economic system is not only an ethical or political imperative but also an economic and risk management strategy.
The cost of inaction now exceeds the cost of action. The global threat of climate-related disasters, future pandemics, and other shocks have brought the development finance world to a tipping point. However, the adjustment of markets, policies and behaviours will require pro-active interventions by all actors along the investment chain. Already, in the period between the beginning of the pandemic in early 2020 and 15 July 2020, G20 countries committed at least USD 151 billion to fossil fuels but only USD 89 billion to clean energy in their stimulus and recovery packages (Gerasimchuk and Urazova, 2020[2]).
This is a central challenge. Trillions of dollars are in the system, but it will take political leadership to shift them to better serve people and planet, and OECD governments and other relevant stakeholder have an essential role to play to enable this shift. As trillions of dollars of debt are contracted to help current and future generations recover, will spending accelerate the trajectory of the past or will it put the policy makers, in partnership with the private and civil sectors, on a new path, towards more inclusive and sustainable development?
The COVID-19 crisis has shown that the depreciation of assets linked to global shocks, such as epidemics, climate change, or forced displacements of populations, is not a distant threat. Since the onset of the crisis, sustainable investment has surged, due in part to the anticipation by markets of stricter environmental and social rules – including the conditionality of stimulus packages, but also due to the possibility of higher financial returns, or least lower losses on sustainable investment than traditional investment. As a result, the twin goals of higher non-financial and financial return are mutually reinforcing. The economic case for making finance more sustainable – and more aligned with the SDGs – has never been stronger.
Shifting the trillions will only build resilience within the system and preserve the long-term value of assets if the two dimensions of SDG alignment are addressed: equality – to guide resources to where the needs are, leaving no one and no goal behind particularly in developing countries; and sustainability – to increase the sustainability of finance and avoid “SDG washing”, i.e. the use of sustainability labelling or branding without reliable assessment of how financing impacts progress towards the global goals.
SDG alignment is needed across two dimensions
“SDG alignment” seeks to raise the accountability of different sources of financing by carrying out an assessment of how financing is targeted across two dimensions:
1. equality: resources should be mobilised to leave no one behind and fill the SDG financing gaps, and
2. sustainability: resources should accelerate progress across the SDGs, while doing no significant harm to any single objective.
This shift will require governments to accompany market forces, and adopt better policies for a better financial system, e.g. to harmonise rules pertaining to reporting or assessing non-financial performance, as well as remedy market failures, e.g. to address the equality dimensions of SDG alignment and protect investors and consumers against deceitful practices.
Financing for sustainable development is at risk of collapse
The COVID-19 crisis struck on the eve of the Decade of Action for the SDGs (2020-2030). The health crisis quickly turned into an economic crisis of large magnitude with potential long-lasting effects on inequalities and development. The dual demand and supply shock spared no country, but hit harder those without the financial and technological means to handle the health crisis and lockdowns. More developing countries (90 of 122 low and middle‑income) have entered into economic recession than at any time since the Second World War. This is in contrast to the global financial crisis, which resulted in negative growth, mostly in developed countries. As a result, inequalities have increased, and populations at risk, including youth and women who lost access to basic services such as education or health, have suffered most.
Prior to the COVID-19 crisis, countries were already facing difficulties to finance and fulfil the ambitions of the 2030 Agenda
Prior to the COVID-19 crisis, progress made on the SDGs and their financing was a mixed picture. Despite stark improvements, tax revenue, the largest source to fund public expenditure – and the only viable one in the long term - fell short of needs in many countries. In 2017, countries eligible to receive ODA had collected USD 5.3 trillion in tax revenue, more than double the sum of external inflows that year. Since the early 2000s, tax revenue had substantially increased across country income levels (Figure 2, left panel). The overall increase could be attributed to a combination of macroeconomic conditions, among them high average GDP growth, rising commodity prices, tax policy reforms to broaden tax bases, and tax administration reforms to increase collection efficiency and compliance. However, tax revenue in about one-third of developing countries (46) was below 15% of GDP and below 20% of GDP in about two-thirds (79) of ODA-eligible countries – that is, below the thresholds commonly considered to be necessary for effective state functioning.
Although the total level of external finance had recovered from a sharp drop in 2015, at around USD 2 trillion in 2018, it remained well below the peak of 2013 (Figure 2, right panel) that was driven by private investment inflows. Remittance inflows had steadily increased due to rising international migration and improvements in measuring the flow. Excluding the People’s Republic of China (hereinafter China), remittances surpassed foreign direct investment (FDI) as the largest individual source of external finance since 2016. Official development finance remained stable over time with a small increase in 2019.
Rising public debt and debt servicing costs, particularly in the poorest countries, were putting SDG financing levels under increasing pressure. Government debt had soared on expectations of high growth, including in low-income economies where it rose by 20 percentage points on average after large declines in the 2000s. Non-financial corporate debt also ballooned in emerging markets, from USD 1.6 to USD 3.8 trillion between 2009 and 2019, leading to vulnerabilities and to “sudden stops” in international credit (Avdjiev, McGuire and von Peter, 2020[3]). However, of the 69 countries applying the low-income countries debt sustainability analysis in 2019, half were either already “in debt distress” or “at high risk of debt distress”, compared to 23% in 2013 (IMF, 2020[4]).
Figure 2. Tax revenue and external financing of ODA-eligible countries prior to the coronavirus (COVID-19)
Note: The left panel shows unweighted average tax-to-GDP ratios for 113 countries and uses the World Bank classifications for income groups is used. In the right panel, the largest sample possible for ODA-eligible countries was used for each year.
Source: Tax revenue are based on OECD (2020[5]), Global Revenue Statistics Database, http://www.oecd.org/tax/tax-policy/global-revenue-statistics-database.htm; IMF (2020[6]), World Revenue Longitudinal Data (WoRLD) (database), https://data.imf.org/?sk=77413F1D-1525-450A-A23A-47AEED40FE78; and UNU-WIDER (2020[7]), Government Revenue Dataset (database), https://www.wider.unu.edu/project/government-revenue-dataset. Official development finance is based on OECD DAC Tables 2a and 2b. Remittances based on KNOMAD (2020[8]), Remittances inflows (database), https://www.knomad.org/data/remittances. FDI, portfolio investment and other investment data refer to net incurrence of liabilities and are from IMF (2020[9]), Balance of payments (database), http://data.imf.org/bop. Missing data on FDI are imputed using World Bank (2020[10]), World Development Indicators (database), https://datacatalog.worldbank.org/dataset/world-development-indicators.
Still, financing was not increasing fast enough to fulfil the ambitions of the 2030 Agenda. The pre-COVID-19 USD 2.5 trillion annual SDG financing gap corresponds to about USD 500 billion for low-income countries and USD 2 trillion for other developing countries, or respectively 15% and 4% of GDP of additional spending per year (Gaspar et al., 2019[11]).
On one hand, between 2015 and 2019, the world made significant progress to eliminate poverty (SDG 1): extreme poverty, while not eradicated, was trending downward, reaching 8.2% in 2019 due to rapid economic growth, especially in East and South Asia. On the other hand, progress towards several other SDGs had stagnated or reversed. Food insecurity (SDG 2) rose between 2015 and 2018. Inequalities (SDG 10) have risen globally, as extreme wealth and incomes have grown and protection of the most vulnerable has weakened. While high income countries aggregate index, as computed by Sachs et al. (2020[12]) for the 2020 Sustainable Development Report, have more than halfway met (above 50) all of the 17 goals, low income-countries’ aggregate index is less than halfway met for 10 of 17 goals. For lower middle income-countries, 13 were below 75 (Figure 3. The SDGs in 2020: Mixed success).
Figure 3. The SDGs in 2020: Mixed success
Note: SDG 1 “No Poverty”, SDG 2 “Zero Hunger”, SDG 3 “Good Health and Well-being”, SDG 4 “Quality Education”, SDG 5 “Gender Equality”, SDG 6 “Clean Water and Sanitation”, SDG 7 “Affordable and Clean Energy”, SDG 8 “Decent Work and Economic Growth”, SDG 9 “Industry, Innovation and Infrastructure”, SDG 10 “Reduced Inequality”, SDG 11 “Sustainable Cities and Communities”, SDG 12 “Responsible Consumption and Production”, SDG 13 “Climate Action”, SDG 14 “Life Below Water”, SDG 15 “Life on Land”, SDG 16 “Peace and Justice Strong Institutions” and SDG 17 “Partnerships to Achieve the Goal”.
Source: Author’s based on (Sachs et al., 2020[12]), The Sustainable Development Goals and COVID-19. Sustainable Development Report 2020, https://s3.amazonaws.com/sustainabledevelopment.report/2020/2020_sustainable_development_report.pdf.
With COVID-19, developing countries face an economic shock of unprecedented magnitude in recent history
The COVID-19 crisis magnified those difficulties to fulfil and finance the ambitions of the 2030 Agenda. The crisis is expected to result in an historic contraction in global gross domestic product (GDP) – estimated at about 5%, compared to 2% during the global financial crisis and 1% during the four previous global recessions (World Bank, 2020[13]). It will also prompt recessions in many developing countries that had managed to maintain positive growth rates in previous crises. GDP of developing countries is expected to drop by an average 3%, among them almost all upper middle-income countries and 31 of 44 lower middle-income countries. Low-income countries are projected to have better prospects due to better containment of the disease (with a less vulnerable demography and experience with past epidemics), less restrictive lockdowns, higher mobility and less integration in the global economy (World Bank, 2020[13]). However, the progression of the disease is a source of considerable uncertainty; and effects of the crisis are magnified in countries with large segments of the population just above the poverty line and already subject to vulnerabilities.
Figure 4. Growth forecasts amid the COVID-19 recession in 2020 by income group
Source: Author’s based on (World Bank, 2020[13]), Global Economic Prospects, June 2020, 10.1596/978-1-4648-1553-9; (World Bank, 2020[14]), World Development Indicators (database), http://datatopics.worldbank.org/world-development-indicators/.
With regard to sectors, tourism, commodities and manufacturing in developing countries suffered the greatest immediate income and job losses.
Tourism: Tourism overall accounted for 10% of global GDP in 2019 and could decline by 60% to 80% in 2020. The sector is particularly labour intensive, which means that the impact on jobs will be even larger, and affect women in particular. In small island developing states (SIDS) and other countries such as Thailand, unskilled employment could fall by more than 20% due to direct and indirect effects of the pandemic.
Commodity exports: The price of commodities fell sharply in the early months of 2020, especially for energy. As a result, commodity exporting countries – most notably Botswana, Equatorial Guinea, Iraq, Peru and Zimbabwe – are projected to experience growth decline of more than 8% (World Bank, 2020[13]).
Manufacturing: As China had moved to the centre of many global value chains, the impact of its slowdown spread faster through developing countries. On the trade side, the World Trade Organization (2020[15]) estimated a slowdown in trade of 18.5% for Q2 2020. The pandemic severely affected countries such as Bangladesh and Cambodia, which rely on garment manufacturing and saw an 80% decline in exports in April 2020 over April 2019. These impacts also have strong gender dimensions, as most employees in the garment-producing sector are women from rural areas. Ethiopia and Kenya also experienced an initial reduction in demand during spring 2020, but have rebounded in the summer (Mold and Antony, 2020[16]). Unemployment risks are particularly high for self-employed workers, of whom close to 100 million work in the manufacturing sector worldwide.
The consequences of unemployment in developing countries are magnified by the lack of unemployment insurance (Gerard, Imbert and Orkin, 2020[17]). Other social protection systems are also limited. In South Asia, the region with the largest existing safety nets, social protection tends to be based on public works programmes, which are harder to maintain in times of physical distancing.
Progress towards the SDGs has stopped, or even reversed, as financing needs increase
This economic downturn could have major impacts on development prospects. Hard fought development gains are facing short, medium and long-term setbacks (Infographic 2 below). In just a few months, several years of progress on poverty reduction were erased. Poverty will rise for the first time since 1998 with an additional 100 million people expected to be pushed into extreme poverty and job losses up to 200 million. Uncertainty regarding the interrelated health and economic shocks are increasing tensions within the multilateral system, compounding pressure on available resources for sustainable development. Inequalities are likely to rise significantly over the short term, with Gini coefficients increasing on average by 1.5% over five years, based on the experience of the previous five major pandemic events (Furceri, Loungani and Ostry, 2020[18]). Inequality is not only linked to income. The digital divide makes it harder to perform tasks from home, whether they are for work or schooling or simply to access information. Over the long term, global uncertainty on the future path of growth is likely to slow investment in sectors such as infrastructure and innovation, further increasing the overall long-term financing needs.
Beyond the direct health effects of COVID-19, lockdowns have significantly affected access to basic services. While some education and health investments can be postponed and will translate into larger needs in the future, others cannot be delayed and will translate instead into deaths or permanently lower quality of life. A dramatic example is that of maternal health. As described by Robertson et al. (2020[19]), a 10% to 19% reduction in access to maternal care – their best-case scenario of the impact of the pandemic – would translate into 253 500 additional child deaths and 12 200 additional maternal deaths in 119 lower income countries.
Infographic 2. The COVID-19 economic and social shock and its consequences for the SDGs
Source: Authors
Advanced economies have managed to implement large monetary and fiscal stimulus packages, allowing debt to gross domestic product (GDP) ratios to rise by 20 to 30 percentage points of GDP in OECD countries. Based on the recession as forecasted in Figure 4 it is estimated that developing countries would have required an additional USD 800 billion to USD 1 trillion to respond to the crisis at a comparable magnitude of spending. This includes USD 100 billion in low-income countries, or 5% to 6% of the GDP of these countries; low-income economies represent about USD 85 billion of this gap, or 6% of their GDP. Sub-Saharan Africa, as a whole, would need to increase its packages – of about 1% of GDP – by about 6% of its GDP, or USD 100 billion, in line with the magnitudes found by the United Nations Economic Commission for Africa2 and others.
Figure 5. Stimulus packages: Comparing the financing needs
Note: Stacked columns display stimulus financing needs using International Monetary Fund (2020[20]) projections for 2020 by region and income level. Diamonds display aggregate regional needs using the World Bank (2020[13]) Global Economic Projections, June 2020. The difference stems from large differences in growth prospects.
Sources: Author’s based on Center for Strategic and International Studies (2020[21]), CSIS G20 COVID-19 Fiscal Relief Tracker Dataset, https://datastudio.google.com/embed/reporting/92894631-b883-4140-a294-5d0ab65974fa/page/v7WYB; International Monetary Fund (2020[20]), World Economic Outlook: A Crisis Like No Other, An Uncertain Recovery, https://www.imf.org/en/Publications/WEO//; World Bank (2020[13]), Global Economic Projections, June 2020, https://openknowledge.worldbank.org/handle/10986/33748; Hale et al. (2020[22]), Oxford COVID-19 Government Response Tracker, https://www.bsg.ox.ac.uk/research/research-projects/coronavirus-government-response-tracker.
All sources of financing are now under stress and external private finance to developing countries could collapse
The growth of financing needs starkly contrasts with the decline of available development finance. The risks of COVID-19 are causing major, long-lasting setbacks to all sources within the financing for sustainable development landscape (see Infographic 2 below). The contraction of economies, affecting all major sources of tax revenue, will depress domestic resources. Non-tax revenue in resource-rich countries will drop as commodity prices sink. Tax revenue could also decline as economies contract and governments introduce tax relief measures in the short and medium term. Remitters facing job losses and drops in income will send less money home. Finally, while levels of official development assistance (ODA) have shown resilience in past crises, they may also come under strain.
Infographic 3. The relationship between different actors in the financing for sustainable development landscape
Note: The infographic focuses on the financial flows considered in this report
Source: Authors
In total, this report projects an estimated USD 700 billion reduction of private capital inflows in 2020 compared to 2019 levels in ODA-eligible countries – a drop 60% larger than the drop after the global financial crisis. In March 2020, emerging markets experienced portfolio outflows of USD 83 billion, an impact that was faster and more sizeable than in previous sudden stops (OECD, 2020[23]; Institute of International Finance, 2020[24]). The Institute of International Finance (2020[25]) projects that net inflows of portfolio investment and other investment to emerging markets in 2020 could drop by 80% and 123%, respectively, compared to 2019 levels. Inflows to low- and middle-income countries could decrease by 35% for FDI and by 20% for remittances compared to 2019 levels (World Bank, 2020[26]).
Considering the increase in needs and drop in resources, the scissors effect of the COVID-19 crisis could be estimated to about USD 1.7 trillion, i.e. a 70% increase in the pre-COVID SDG financing gap.
Figure 6. COVID-19 will set external private finance back by USD 700 billion, a 60% greater drop than after the 2008-09 financial crisis
Note: All data refer to ODA-eligible countries. The sudden stop of capital flows in 2015 is not shown here, as it would have included a USD 556-billion drop relating only to China. Other investment excludes IMF lending and Special Drawing Rights allocations.
Source: Author’s based on KNOMAD (2020[8]), Remittances inflows (database), https://www.knomad.org/data/remittances. Historical FDI, portfolio investment and other investment data refer to net incurrence of liabilities and are from IMF (2020[9]), Balance of payments (database), http://data.imf.org/bop, and national central bank data. COVID-19 projections are based on combining historical data with projections on remittances and FDI by the World Bank (2020[26]), “COVID-19 Crisis through a migration lens”, https://openknowledge.worldbank.org/handle/10986/33634, with portfolio and other investment data by the Institute of International Finance (2020[25]), IF Capital Flows Report: Sudden Stop in Emerging Markets, https://www.iif.com/Portals/0/Files/content/2_IIF2020_April_CFR.pdf.
SDG alignment can help avoid the collapse and build back better
The SDG alignment agenda has the potential to both address the urgency of the response to the COVID-19 crisis, i.e. avoid the collapse of financing for development that would have dramatic effects on the global economy and political stability, and the medium-to-long-term objective to recover better for sustainability, i.e. build the resilience of the system. It has the potential to respond to the need to mobilise resources for development by making better use of each resource’s leveraging power, fixing leakages in transmission channels, and increasing the quality of existing flows to achieve greater SDG impact (Figure 7).
Figure 7. A three-step approach to shifting finance towards the SDGs
Note: Multilateral development bank (MDB) and development finance institutions (DFIs)
Source: (OECD, 2018[27]), Global Outlook on Financing for Sustainable Development 2019: Time to Face the Challenge, https://www.oecd.org/development/global-outlook-on-financing-for-sustainable-development-2019-9789264307995-en.htm.
Shifting only 1% of the trillions could fill the growing gap
This report finds that shifting 1.1% of the total financial assets held by banks, institutional investors or asset managers (USD 4.2 trillion) would be enough to fill the growing financing for sustainable development gap. These new actors hold financial assets valued at more than USD 378.9 trillion that have grown at 5.9% year on year since 2012, due to increased financial intermediation (International Development Finance Club, 2020[28]).
How much of the universe of finance is (mis)aligned with the SDGs? What are the real margins of manoeuvre to tap into global financial assets to build back better and fill in the developing countries’ SDG financing gap? Infographic 4 shows that financial assets are largely held in higher income countries (more than 81% or USD 308 trillion). In addition, out of USD 77 trillion surveyed, USD 31 trillion of assets managed are labelled as having some sustainability consideration. Roughly 10% (USD 3.1 trillion) of these resources seek sustainable development impact. Based on these findings, OECD members have significant opportunities to engage with the new actor to improve progress to improve both the equality and sustainability pillars of alignment.
Infographic 4. How much of the trillions in the system are contributing to equity and sustainability?
Source: Author’s based on Financial Stability Board (2020[28]), Global Monitoring Report on Non-Bank Financial Intermediation 2019, https://www.fsb.org/2020/01/global-monitoring-report-on-non-bank-financial-intermediation-2019/ and Global Sustainable Investment Alliance (2018[29]), Global Sustainable Investment Review 2018, http://www.gsi-alliance.org/wp-content/uploads/2019/03/GSIR_Review2018.3.28.pdf.
Financing is not reaching countries and people most in need
Following the COVID-19 crisis, financial markets rebounded relatively quickly. However, the poorest developing countries lack domestic financial systems to provide reserves, which may accelerate global financial inequalities. Without strong local capital markets, developing countries are faced with increasing competition to seek international financing to respond to the crisis and build back better which exacerbates existing inequalities. Developing countries hold less than 20% of global financial assets, yet represent 84% of the world’s population (Figure 8). Only 5.6% of ODA-eligible countries (8 out of 142) are included in reporting by the Financial Stability Board on financial assets, suggesting a lower level of integration than developed countries in the global financial system and likely negligible size of financial assets. An indicator of local capital market development, the value of stock markets recovered in high-income countries (HICs) after the global financial crisis and are now nearing levels of over 110% of GDP. In upper middle-income countries (UMICs), excluding China, stock market size has remained stagnant at around 60% of GDP. In lower middle-income countries (LMICs), stock market size has remained below 40% of GDP. Notably, data are unavailable for low-income countries (LICs), again suggesting negligible local capital markets.
Figure 8. Shares of global financial assets are unevenly distributed across countries
Source: Author’s based on Financial Stability Board (2020[28]), Global Monitoring Report on Non-Bank Financial Intermediation 2019, https://www.fsb.org/2020/01/global-monitoring-report-on-non-bank-financial-intermediation-2019/.
Developing countries lack financial reserves from central banks and face challenges to attract institutional investors such as insurance providers and pensions to provide social protection. Figure 9 shows that in high-income economies, financial assets increased by 20% due to a three-fold increase in central bank assets following implementation of quantitative easing. Yet, developing countries lacked greater margin to increase central bank reserves following the global financial crisis. In 2017, pension funds represented less than 20% of GDP in developing countries and insurance companies less than 15%, compared to nearly 45% and 40% respectively in high-income countries. In 2017, only one-third to one-half of the global population were covered by essential health services. Large informal sectors prevent the development of financial systems that provide social protection. Informal employment represents 90% of total employment in low-income countries, 67% in middle-income countries and 18% in high-income countries (ILO, 2020[30]). A lack of access to social protection increases the vulnerabilities of informal economy workers and their families, particularly during COVID-19 lockdowns (OECD/ILO, 2019[31]).
Figure 9. Financial assets held by new actors as a percent of GDP across country groups, 2005‑18
Source: Authors based on Financial Stability Board (2020[28]), Global Monitoring Report on Non-Bank Financial Intermediation 2019, https://www.fsb.org/2020/01/global-monitoring-report-on-non-bank-financial-intermediation-2019/.
The unequal geographic distribution of financial assets also is linked to inefficiencies in domestic and international financial and taxation systems. Domestic resources keep leaking through tax evasion and avoidance, inefficient tax incentives, other illicit financial flows or high remittance transfer fees. These inefficiencies facilitate the outflow of assets and profits from lower-income countries. Aggressive tax avoidance by businesses and wasteful tax incentives by governments can further limit the ability of low-income country governments to align spending and economic activity to the SDGs.
While some financial assets held off-shore are legitimate, a significant proportion are thought to be illicit and/or undeclared for tax purposes. Evidence suggests that at least 44% of African financial wealth is held offshore in tax havens, with tax losses estimated at EUR 17 billion annually (Zucman, 2015[32]).
Aggressive tax avoidance by multinational enterprises is estimated to cost countries as much as USD 240 billion annually, and developing countries are disproportionately affected because they rely more on corporate tax revenues than do developed countries.
According to surveys of investors, tax incentives are a low priority in investment decisions, with redundancy rates exceeding 70% in 10 of 14 surveys analysed by the International Monetary Fund (IMF et al., 2015[33]). Such redundant or wasteful tax incentives are essentially a transfer from a government to the companies.
The cost of sending remittances to ODA-eligible countries remains high – between 6.8% and 7% on average in 2017-19 or between USD 30.26 billion and USD 31.15 billion annually.
While private investment for sustainable activity is on the rise, so is a risk of “SDG washing”
The private sector is shifting gears to include sustainability in its business models. A survey of the 75 largest asset managers found that 48% of investors are developing an approach to the SDGs (ShareAction, 2020[34]). Already, several funds that use non-financial environmental, social and governance (ESG) indicators have outperformed and registered lower losses than for-profit only funds during the pandemic. During the COVID-19 period, all three emerging market sustainable index funds outperformed the iShares Core MSCI Emerging Markets ETF by 1.58 percentage points (Freyman, 2020[35]). As this activity increases, a wide array of financing activities and strategies comprise the spectrum of what is labelled “sustainable” finance. The proliferation of hundreds of different ESG rating agencies has led to different measurement standards. Many overlap, ranging from funds that seek to do no harm (i.e. mitigate risks) to those that seek positive impacts based on thematic or geographic focus. In the broadest sense, sustainable finance includes both a do no harm objective and impact-based financing (Figure 10). Roughly 10% of sustainable finance, or USD 3 trillion, is defined as seeking to achieve positive impacts.
Figure 10. Few types of sustainable investment are based on non-financial impacts
Note: The amounts in the figure do not add up to the estimated USD 30-trillion estimate sustainable investments due to double-counting across several categories.
Source: Author’s based on Global Sustainable Investment Alliance (2018[29]), Global Sustainable Investment Review 2018, http://www.gsi-alliance.org/wp-content/uploads/2019/03/GSIR_Review2018.3.28.pdf; European Sustainable Investment Forum (2018[36]), European SRI Study 2018, http://www.eurosif.org/wp-content/uploads/2018/11/European-SRI-2018-Study.pdf; Responsible Investment Association Australasia (2019[37]), Responsible Investment Benchmark Report: Australia 2019, https://responsibleinvestment.org/wp-content/uploads/2019/07/RIAA-RI-Benchmark-Report-Australia-2019-2.pdf.
While USD 30 trillion out of USD 70 trillion assets under management (AUM) surveyed meet some sustainability criteria, the sustainable finance market remains immature and there are many inefficiencies. Standards, instruments and initiatives proliferate: estimated at 115 multi-stakeholder initiatives, growing at a rate of eight per year, involving 5 181 constituent members. Without better accountability, transparency and incentives, impediments remain to improve the allocation of resources and enable the use of sustainability labelling or branding without reliable assessment of how financing impacts progress toward the global goals (i.e. green or SDG washing). Lack of transparency and accountability present challenges for investors, clients, and citizens to assess how their investments affect people, planet and prosperity.
Implementing a common framework for SDG alignment
With hundreds of trillions of dollars in the system, and a significant margin to correct misalignment of finance, what could be done to foster change? Recovery for greater resilience and sustainability in response to the COVID-19 crisis relies on the collective capacity to better manage risks associated with recurrent shocks linked to growing inequalities and uneven or insufficient progress towards the SDGs. The equality and sustainability dimensions of SDG alignment are interlinked: one cannot be achieved without the other. According to a recent study, the cumulative economic losses due to natural disasters in 2019 were nearly equivalent to total ODA volumes in the same year (USD 150 billion) (Löw, 2020[38]).The capacity of each individual country to reduce the distance to the SDGs will depend on the performance of other countries to avoid negative spillovers.
Five years after their adoption, the 2030 Agenda remains the best blueprint to successfully build better after the crisis, and the Addis Agenda the best framework to finance the goals. However, a step change is needed to accelerate progress. Sustainable finance cannot remain a niche; it should be mainstreamed in order to build resilience in the system. In particular, the Addis Agenda could be leveraged to help shift the trillions in favour of the SDGs while leaving no one and no goal behind. Two key challenges must be addressed by policy makers:
First, engagement with the private sector on the 2030 Agenda remains a challenge. The United Nations Secretary General (UNSG) has made it a priority in its SDG Financing Strategy and Roadmap, including with the creation of the Global Investment for Sustainable Development (GISD) Alliance. Perception of risk in many developing countries still impedes sustainable investment opportunities, and market failures need to be addressed. Better leveraging official development finance to mobilise more SDG-aligned finance will be key to success.
Second, incentives and policies that could align the trillions along the investment chain need to be updated. Domestic and international SDG financing strategies need to be better connected. Unless the incentives within OECD countries are corrected, resources will not flow to where the needs are greatest. Without clear rules, the sustainable finance market will continue to lack integrity and efficiency, and allow investors to be misled by deceitful practices. Without transparency and harmonisation of definitions and standards, the growing number of public and private initiatives could lead to further fragmentation and segmentation of markets.
This is a shareholders’ agenda: people’s savings, pensions, investment should serve their interests. All actors along the investment chain should be involved to put people and planet at the heart of the system, and reach the twin goals of higher non-financial and financial results. Of the trillions of dollars invested in stimulus packages, a portion of resources should be allocated to development co-operation and building resilience within the system in order to prevent future crises. The United Nations and other forums, such as the G7 or G20, have raised concrete recommendations. Now it is time to translate them into concrete actions for all stakeholders.
Building Block 1 – Unleash the potential of the Addis Ababa Action Agenda
The SDG alignment agenda starts with a two-pronged crisis management strategy that must address the equality and sustainability dimensions: in the short term, to stop the bleeding of available resources, i.e. avoid the collapse of financing for sustainable development; in the medium-long term, to build back better, i.e. increase the sustainability or qualities of the financing. Figure 11 outlines the central challenges and corresponding actions to be taken.
First, the traditional actors in the financing for sustainable development landscape should better mobilise and leverage resources in support of SDG financing in developing countries:
Domestic resources remain the most sustainable long-term source of financing for sustainable development. Realising this potential requires actions at both the domestic and international level, and on both policy and administration. Improving international co-operation and exchange of information on tax is vital to enable action against tax avoidance and evasion, while ensuring effective taxation with a digitalised global economy will require new international standards that work for, and can be implemented by, all countries. The challenge of designing tax systems in the wake of the COVID-19 crisis will require new approaches, and more support, for developing countries in identifying and implementing policy and administration reforms to not just generate revenues, but also influence growth and equity, and shape behaviours. Increasing the supply of tax expertise remains a high priority, and can deliver significant impacts, on average, USD 70 in additional tax revenues have been recovered by Host Administrations for every dollar spent on TIWB operating costs between 2012 and 30 June 2020 (OECD/UNDP, 2020[39]).
Development finance providers should play a larger role to increase efforts to maintain official development assistance budgets and keep external financing flowing, including private investment and remittances. This requires scaling up innovative finance approaches and tools, such as blended finance and COVID-19 and SDG bonds, and doing more to promote digital financial services. It is also important to promote innovative finance for sustainable development to identify potential new sources of funding for official development finance. Following the pandemic, governments and the private sector globally raised USD 150 billion in four months using COVID-19 bonds (Hirtenstein, 2020[40]).
In 2019, half of low income countries were either already “in debt distress” or “at high risk of debt distress”, compared to 23% in 2013 (IMF, 2020[41]). With a debt crisis looming, all development finance providers must do more to ensure the positive development impact of all resources over the long term. Debt suspension, restructuring and relief should be used as levers to promote greener and more resilient growth in developing countries. New instruments should be deployed to repurpose debt in support of the environment and social protection, among others.
Second, official development finance providers and other relevant stakeholders should increase the quality of financing for greater SDG impact:
At the global level, the international community must build on and accelerate its work to develop a framework for assessing national SDG financing needs. At the national level, demand for and supply of SDG financing needs to be better matched. Development finance providers should assist partner countries to create a pipeline of sustainable projects and match sustainable finance opportunities, as well as mainstream SDGs into tax reform, budget planning and performance review.
Development finance providers should strive to enhance the qualities of trade, investment and infrastructure that are essential elements of a sustainable recovery. For example, climate-resilient infrastructure translates into a USD 4 benefit for each dollar invested in resilience (Hallegatte, Rentschler and Rozenberg, 2019[42]).
The channels of distribution of development finance also need to improve as part of the effort to build back better, e.g. by pursuing the effectiveness agenda, including for multilateral development finance that has played and will continue to play a key role in the management of global crises. For example, multilateral organisations channelled USD 250 billion to developing countries following the pandemic in developing countries (OECD, 2020[43]). DAC members are the major shareholders of the multilateral system and must ensure greater efficiency to address global challenges.
Figure 11. Actions for alignment: Building Block 1
Source: Authors
Building Block 2 – Beyond Addis, increase the efficiency of markets and partner with new actors
A focus on development finance and the enabling conditions for financing in developing countries remains limited to the intermediate and final steps of investment. However, a successful SDG alignment strategy requires incentives and policies aligned all along the investment chain, including in countries of origin of the funds (i.e. OECD countries). For example, Canada has announced that businesses with revenues of USD 300 million or more requesting COVID-19 economic aid would be required to disclose their climate impacts and commit to making environmentally sustainable decisions.
The Addis Agenda calls for “policies, including capital market regulations where appropriate, that promote incentives along the investment chain that are aligned with long-term performance and sustainability indicators” (paragraph 38). Following the global financial crisis, private sector actors, particularly in the financial sector, anticipated changes in regulations that would tip the balance of risks and returns in favour of greater non-financial focus (i.e. long-term performance and sustainability) to avoid future shocks.
Policies in OECD countries determine upstream how much private investment development finance providers will be able to leverage. The role of the governments and regulators is not to force the shift but to accompany and remove all obstacles to a more efficient allocation of resources for greater market integrity and market efficiency. Taking “billions to trillions” to the next frontier means lifting the barriers to transparency, accountability and getting the incentives right – this is the missing supplement to the AAAA.
The emergence of new actors along the investment chain, and the proliferation of multilateral initiatives on financing for sustainable development, are creating new risks to mitigate but also opportunities to be seized. Three major issues need to be tackled in order to promote alignment, ensure market integrity and efficiency, and grow the sustainable finance market: transparency, accountability and incentives. Actions needed include: identifying SDG metrics that are fit for the private sector, helping companies more clearly define their sustainability objectives, and phasing out policies that create barriers to SDG alignment.
The SDG target and indicator framework was developed by governments for governments. Only 40 of 169 SDG targets were supported by business in developing countries (GrowInclusive, 2020[44]). However, business may be supporting targets not captured in the current measurement framework. For example, SDG target 10.4 makes reference to social protection policies without setting objectives for private sector practices that could achieve the same objective.
Not enough businesses and financial institutions include SDGs in their strategies, and non-financial performance is still under-rated. A survey of the 75 largest asset managers found that less than half of investors are developing an approach to the SDGs (ShareAction, 2020[34]).
Hundreds of initiatives claim to promote sustainability of business and finance, but an agreement on definitions is missing; rules for mandatory reporting are necessary and independent assessment put in place. For example, an assessment of ESG risks can be carried out differently from one agency to another. A high environmental score accorded by some ESG ratings can correlate positively with high carbon emissions if other environmental factors are given greater weight (OECD, 2020[45]).
The United Nations system and its partners began work before the crisis to make the case for SDG alignment. This report provides analytical support and recommendations to promote an emerging common framework developed jointly by the OECD and the United Nations Development Programme to bring all sources of financing along the investment chain behind the SDGs.
Figure 12. Actions for alignment: Building Block 2
Source: Authors
In support of the recommendations emerging from the UN-led financing for development process, and other notable initiatives (e.g. in the G7 and G20), voluntary community action plans could be promoted. New actors, including asset managers, banks, institutional investors, credit rating agencies, stock markets, should take concrete actions to improve transparency, accountability and incentives for SDG alignment.
Investors managing trillions of dollars can make efforts to reduce misalignment, including avoiding negative externalities such as carbon emissions, human rights abuse, etc. and take preventive measures to facilitate greener and more sustainable forms of finance such as develop asset classes beyond equities such as green bonds (e.g. asset managers and investment banks) and leverage capital markets to mobilise more finance directed to developing countries (e.g. public development banks). Institutional investors such as pension funds, sovereign wealth funds and insurers could further integrate ESG considerations and better monitor and evaluate ESG risk reduction, compatible with the SDGs and based on accountability for sustainable development impact. For example, Norway’s Norges Bank Investment Management (NBIM) has worked to divest or press for changes to the business models for companies in sectors contributing to deforestation and pollution, such as plastics (Fouche, 2018[46]). Market regulators like rating agencies and stock markets could set stronger financial and non-financial disclosure requirements to raise transparency and harmonise reporting standards.
For this purpose, the Global Outlook provides a first non-exhaustive set of examples to identify how actions could be tailored across the different communities and in partnership with policy makers. Table 1 provides the menu of possible actions to be taken by both new actors and policy makers on the basis of consultations carried out in 2020.
Table 1. Community action plans
Source: Authors based on stakeholder consultations.
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Notes
← 1. It is estimated that in addition to the USD 2.5 trillion annual SDG financing gap, developing countries as a whole would require an additional USD 1 trillion in recovery spending to match recovery spending carried out by OECD countries over the same period. Compounding the gap in both recovery spending and SDG financing, the report further estimates a potential drop of USD 700 billion in external private finance in 2020. These figures provide an order of magnitude of the growing financing needs and limitations to access financing in developing countries The estimation of additional recovery spending in developing countries to reach a similar magnitude of recovery spending in OECD countries, calculated on the basis of the recession as forecast at the time of this report’s publication.
← 2. This is indicated in the communiqué of the African Ministers of Finance on 13 March 2020, published by the United Nations Economic Commission for Africa. See https://www.uneca.org/stories/communiqu%C3%A9-african-ministers-finance-immediate-call-100-billion-support-and-agreement-crisis.