In recent years, a series of interlinked crises have significantly reduced countries’ fiscal capacities and undermined investments in recovery efforts - particularly in developing countries, who face additional historic inequalities and systemic vulnerabilities. To ensure that all countries have the necessary resources to ensure long-term sustainable development outcomes, including tackling climate change, a concerted and multi-stakeholder effort is required. Central to this effort is reforming the international financial architecture, aimed at reducing inequalities and furthering the mobilisation of funds for sustainable development, as highlighted in the Pact for the Future. Aligned with the goals of the UN Summit of the Future and the UN Secretary General’s rescue plan call to support developing countries in their efforts to advance the SDGs, this chapter identifies actions to close the SDG financing gap facing developing countries. It focuses on achieving additional financing from a diverse number of sources and increasing strategic allocations of domestic resources to meet domestic needs.
OECD Contributions to the 2030 Agenda and Beyond
4. Financing sustainable development and creating a global enabling environment for developing countries
Abstract
The recent global crises, coupled with the shortcomings of an international financial system that is not fit-for-purpose and remains plagued by systemic and historic inequities, are constraining international recovery efforts, especially in developing countries. To ensure that developing countries have the resources they need to invest in their immediate recovery and in long-term sustainable development outcomes, it is crucial for them to gain better access to global trade, international funds and aid, science, technology, and innovation. Moreover, all stakeholders must work together to scale up financing to tackle the challenges ahead.
Ongoing efforts to optimise multilateral development banks’ balance sheets are a step in the right direction but will not be sufficient. The expanded mandates of multilateral organisations will also require ambitious contributions to multilateral development banks’ concessional resources – which help deliver financing to low- and middle-income countries through mechanisms such as grants and low-interest loans with long grace periods – as well as global funds, many of which are scheduled for 2024 and 2025, including the World Bank Group’s International Development Association, Asian Development Fund, African Development Fund, Gavi, Global Fund, and Global Partnership for Education. These forthcoming replenishments should be driven by the principle that scarce concessional resources must go to the countries and people most in need.
To help secure a surge in SDG-related financing while supporting a global enabling environment for developing countries, this section covers the implementation of three distinct priorities set forth by the UN, namely:
Delivering an SDG stimulus, including by increasing the mobilisation of private finance for sustainable development, scaling up the use of green, social, and sustainability bonds in developing countries, strengthening the use of local currency solutions, and promoting blended finance instruments – various financial instruments that can be used alone or together to address unfavorable outcomes in investments in developing countries;
Harnessing trade for the SDGs; and
Leveraging domestic tax revenues for SDG financing.
4.1. Delivering an SDG stimulus
The OECD estimates suggest that additional annual financing of around USD 4 trillion is needed to reach the SDGs by 2030 (see Figure 4.1), which will require an average additional annual spending of up to 16 percent of GDP in low-income developing countries (Benitez et al., 2023[1]).
Figure 4.1. The SDG financing gap and existing sources of financing for development
Sources: Global Outlook on Financing for Sustainable Development 2023, based on figures for ODA-eligible countries excluding China; remittances are based on KNOMAD (2022) Remittance inflows (database). Capital flows are from IMF, Balance of payments (database); data on composition of government revenues taken from IMF (2022), World Economic Outlook - April 2022 edition (database).
Amid historic development setbacks, developing countries face significant challenges balancing SDG financing priorities. For example, despite the strong positive impacts on GDP observed for green investments, the upfront costs of investing in green infrastructure could be up to 33% higher than for conventional energy infrastructure investment (Rozenberg and Fay, 2019[2]).
In addition, the Covid-19 pandemic and Russia’s war of aggression against Ukraine widened the SDG financing gap in developing countries by 56%, reaching USD 4 trillion in 2020. Sustainable development financing (FSD) plummeted by USD 774 billion (17%) from 2019 to 2020, with government revenues, the largest FSD source, dropping by USD 689 billion (22%). This decline was more severe than during the 2009-2009 financial crisis (OECD, 2022[3]).
Government revenues, constituting over 80% of the FSD decline, were severely constrained due to the global economic shutdown caused by the COVID-19 crisis. Moreover, the USD 907 billion increase in developing countries’ government expenditure in response to the COVID-19 emergency equalled nearly 30% of 2019 revenues. Russia’s war in Ukraine has further impeded recovery, keeping government revenues nearly 20% below pre-pandemic levels (OECD, 2022[3]). This has exacerbated debt service costs for developing countries, projected to rise from USD 330 billion (2015-2019 average) to USD 375 billion annually (2020-2025). This “wall of debt service repayment” could have enormous impacts on debt sustainability and fiscal space in these countries (UNCTAD, 2020[4]).
Taking into consideration the expected tightening of global financing conditions, projections by the UN Conference on Trade and Development (UNCTAD) and the IMF suggest that the SDG financing gap could reach USD 4.3 trillion per year from 2020 to 2025, an increase of USD 400 billion over OECD estimates in 2019-20 (UNCTAD, 2022[5]).
While collaborative public and private financing could ease this situation, the trillions of dollars in the global financial system are not SDG aligned and could therefore exacerbate macro financial vulnerabilities in developing countries.
Monetary policy, including quantitative easing by major economies, contributed to an 11% increase in the value of global financial assets, from USD 423 trillion to USD 469 trillion, in 2019-20. But these assets are mostly concentrated in high-income countries, bypassing those in greatest need. Developing countries hold less than 20% of global financial assets, valued at USD 469 trillion in 2020, while they represent 84% of the world’s population and 58% of global GDP. Critically, only 3% of sustainable investments occur in these countries (OECD, 2022[3]).
Developing countries have yet to fully harness the benefits of the sustainability boom. About 97% of the estimated USD 1.7 trillion in total sustainable investment funds is held in high-income countries (UNCTAD, 2021[6]). All ODA-eligible countries account for less than 7% and the least developed countries (LDCs) hold less than 1% of cumulative total GSSS bonds issued since 2014. Access to climate or green funds by small island developing states (SIDS) and LDCs, who have the greatest need, remained at 2% and 17%, respectively, between 2016 and 2020 (OECD, 2022[7]).
4.1.1. Promoting a more equitable and needs-based allocation of SDG-aligned finance
To achieve the equity objective of SDG alignment, more and better financing must be allocated where the needs are greatest. Shifting just 1% of global financial assets could fill the SDG financing gap. This, however, requires engaging all public and private actors in the financial system (OECD, 2022[3]). The 2021 OECD “Global Outlook on Financing for Sustainable Development” and the OECD-UNDP “Framework for SDG Aligned Finance” call for mutually reinforcing actions in support of alignment in all areas of the investment cycle (OECD, 2020[8]; OECD and UNDP, 2020[9]). A clear framework must guide actions in SDG investment, from countries of origin to financial intermediaries and on to countries at greatest risk of falling behind while others continue to develop. In pursuit of better and more sustainable global development outcomes, the SDG alignment framework rests on two pillars: sustainability and equity. Both are needed to build resilience and are equally important (OECD, 2020[8]).
To be sustainable, resources should avoid benefiting one party at the expense of another. Instead, the mindset that investing in any one goal can represent an opportunity to invest in the other goals must be adopted. Resources should aim to promote a triple bottom line within the sustainability equilibrium – that is, leverage any potential for alignment across environmental, social, and economic outcomes. In contrast to this goal, although sustainable finance increased by 15% in 2018-20, totalling USD 35 trillion, it lacks transparency and accountability for impact across the SDGs (i.e., SDG-washing). Moreover, of the USD 1.8 trillion of so-called sustainable bond issuances since 2014, 56% focused on environmental goals, while only 18% targeted social objectives in areas such as quality education, hunger, poverty and gender equality.
Finance must also be equitable to be sustainable, reducing inequalities in access to SDG-oriented finance across countries. For example, maximising positive cross-national spillovers of sustainable financing can help all countries reach the SDGs more quickly. However, it bears repeating that the sustainability boom is not yet benefitting high-income countries and developing countries equally.
The growing financing gap means developing countries will have insufficient resources to address future shocks, for example, rising temperatures, disruption to product development and distribution processes, refugee influx, etc. Without new efforts and deepened collaboration to help developing countries tap into these opportunities, the sustainability boom could bypass the countries furthest behind (OECD, 2022[3]).
4.1.2. Increasing the mobilisation of private finance for sustainable development
With a fast-approaching deadline to 2030, the annual SDG financing gap still stands at USD 3.9 trillion (OECD, 2023[10]).Official Development Assistance (ODA) remains fundamental in financing sustainable development and rose to an all-time high of USD 223.7 billion (preliminary) in 2023. However, to meet the growing development objectives in times of multiple crises, it is not sufficient to preserve ODA. Rather, it must be used strategically to mobilise additional resources, including from the private sector, given that private finance is lagging far behind needs and expectations (OECD, 2023[10]).
Meeting the SDGs requires a rapid scaling up of financing from all sources – public, private, domestic, and international – alongside a wider reallocation of capital away from business-as-usual. In the context of the fight against climate change, financing needs are most acute in emerging markets and developing economies (EMDEs), where investment will need to at least quadruple by 2030 (Bhattacharya A, 2023[11]).
However, tracked volumes of private finance mobilised by bilateral and multilateral public finance interventions remain relatively small. In 2021, developed countries provided USD 73.1 billion in international public climate finance through bilateral and multilateral channels, and USD 2.1 billion as export credits; in that same period, only USD 14.4 billion was mobilised from the private sector (OECD, 2023[10]).
Closing this gap between ambition and action requires policy interventions at various levels across both OECD and non-OECD countries, including:
Rethinking how we deploy climate finance, significantly scaling up the use of blended finance for impact and factoring in the rapidly improving commercial prospects of many climate investments.
Expanding capacity building to support developing countries to improve the conditions for investment, especially against the backdrop of difficult macroeconomic conditions and constrained fiscal space.
Addressing the institutional barriers in the international development architecture that relegate mobilisation to a niche, rather than the bedrock, of climate finance.
Addressing regulatory and other barriers to investment in advanced economies, where the large stocks of private capital are overwhelmingly located.
The international fora, including G20 communities, are calling for targeted support to enhance co-operation between public and private financial institutions to mobilise domestic and international financial resources through banking systems and capital markets, specifically to support sustainable development in developing countries. This will require deeper partnerships with the global south, technical assistance on blended finance instruments, measurement of the contribution of ODA to Global Public Goods – goods that are available to all globally, for example, a clean environment, property rights, health care, knowledge, etc. – as well as new analysis on innovative financing structures and instruments to scale up private financing for sustainable development (Elgar et al., 2023[12]).
From 2016 to 2019, private philanthropy contributed a total of USD 42 billion, playing a modest yet significant role in the development finance arena. Philanthropy's unique advantage is its ability to mobilise private capital through innovative tools, de-risking strategies, and blended finance approaches. By offering a higher leverage ratio for private sector engagement, philanthropy can unlock additional concessional resources. These resources are crucial for achieving global goals such as poverty alleviation and mitigating the impact of climate change on the most vulnerable populations. Multilateral development banks (MDBs), Development Finance Institutions (DFIs) and National Development Banks (NDBs) are key players in increasing developing countries’ capacities to plan, build, and operate climate-resilient infrastructure (OECD, 2024[13]; OECD, 2024[14]). Development banks provide a wide array of services beyond direct financing, including risk assessment tools (Box 4.1).
Box 4.1. Development banks are fundamental players in enabling infrastructure resilience to natural hazards
Financing via a variety of instruments, including loans, grants, and guarantees. Development banks often offer concessional terms and flexible financing options to support projects that incorporate climate resilience measures, such as climate risk assessments, adaptation strategies, and resilience-enhancing technologies. Additionally, they can leverage their financial resources to attract co-financing from other sources, including the private sector and international climate finance mechanisms.
Technical assistance and capacity building. Development banks offer technical assistance and capacity building support to enhance the readiness and implementation of climate resilient infrastructure projects. Also, international and national development banks actively structure and prepare infrastructure projects, which includes providing technical expertise in climate risk assessments, engineering design, project management, and monitoring and evaluation. Development banks also facilitate knowledge exchange and best-practice sharing among countries facing similar climate challenges, helping to build local capacity and expertise in climate resilient infrastructure development.
Policy and regulatory support. Development banks play a crucial role in shaping policy and regulatory frameworks that promote climate resilient infrastructure development. They work closely with governments to strengthen regulatory standards, codes, and guidelines related to climate resilience in infrastructure planning, design, and construction. Development banks also advocate for policy reforms that incentivise investment in climate resilient infrastructure and integrate climate risk considerations into national development strategies and sectoral plans.
Project screening and due diligence. Development banks conduct rigorous screening and due diligence processes to ensure that the infrastructure projects they could finance are climate resilient and environmentally sustainable. This includes assessing climate risks and vulnerabilities, evaluating the resilience of proposed infrastructure designs and technologies, and considering long-term climate impacts and adaptation strategies. Development banks also incorporate climate resilience criteria into project appraisal and approval processes, guiding investment decisions towards projects that enhance resilience and reduce vulnerability to climate change.
Knowledge sharing and innovation. Development banks facilitate knowledge sharing and innovation in climate resilient infrastructure by supporting research, pilot projects, and knowledge exchange platforms. They invest in research and development of innovative technologies and approaches that enhance climate resilience in infrastructure, such as green infrastructure, nature-based solutions, and resilient urban planning. Development banks also promote learning and capacity building through workshops, seminars and conferences, fostering a culture of innovation, and continuous improvement in climate resilient infrastructure development.
Source: (OECD, 2024[14]).
4.1.3. Aligning development and climate finance
Development and climate objectives are closely interlinked and mutually reinforcing. Sustainable advances in poverty reduction as well as economic and social conditions cannot be achieved without addressing climate change, both adapting to climate change and mitigating the rise of global temperatures. Development finance, including ODA and Other Official Flows (OOFs), is an essential resource to progress towards the achievement of the 2030 agenda and the Paris Agreement. This is why in 2021, the members of the OECD DAC pledged to align ODA with the objectives of the Paris Agreement. Through the OECD DAC Declaration on a new approach to align development cooperation with the goals of the Paris Agreement on Climate Change (OECD, 2021[15]), DAC members agreed to several commitments in relation to their own development co-operation programs, as well as the work undertaken collectively at the OECD.
The Declaration covers several areas, such as transparency and accountability, aligning ODA with the Paris Agreement, effective delivery of climate action in developing countries, and biodiversity and sustainable ocean economies, including the following commitments:
Implementing article 2.1(c) of the Paris Agreement to make financial flows consistent with pathways toward net zero GHG emissions and climate resilient development. This includes Official Development Assistance (ODA) flows, for which climate and environmental impacts must be considered in all ODA spending, including in sectors not traditionally associated with climate and the environment;
Identifying alternative sustainable, low emissions, efficient, clean and renewable energy solutions to any current ODA fossil fuel support; and
Ensuring closer collaboration with the multilateral system, especially the United Nations, the international financial institutions and regional and multilateral development banks on these topics.
Bilateral donors support to development co-operation with climate change adaptation or mitigation objectives has increased steadily in the last decade. In 2021-22, it reached nearly 50 billion USD on average annually, representing 32.9% of total bilateral allocable ODA from DAC members, an increase from 30.6% over 2020-21. Beyond ODA, bilateral development finance providers also provided other official flows for around USD 3.7 billion in 2021-22.
Overall, ODA has been steadily growing in the last five years and within this overarching trend, a growing share of ODA supports climate change as the principal or significant objective. In 2021-22, ODA with climate objectives reached nearly 50 billion USD on average annually, representing 32.9% of total bilateral allocable ODA from DAC members, an increase from 30.6% over 2020-21. Of all climate-related activities in 2021-22, 34% addressed adaptation, 37% mitigation and 29% both objectives. Furthermore, bilateral ODA activities may support climate change and other policy themes simultaneously. In 2021-22, 91% of biodiversity-related ODA also pursued climate change mitigation, adaptation, or both, while 20% of the climate-related ODA from DAC members also pursued biodiversity-related objectives. In general development finance for biodiversity also saw a decade long growth from both bilateral and multilateral donors (OECD, 2023[16]).
Beyond ODA, DAC members extend other financial resources for climate objectives, such as other OOFs – i.e. loans that do not meet the ODA definition, e.g. regarding concessionality. Climate-related OOFs reached an annual average of USD 3.7 billion in 2021-22, more than double the value in 2019-20, due to a few large commitments. OOFs are recorded mostly for mitigation activities until 2020, while in 2021-22 activities supporting both adaptation and mitigation reached 35% of the total.
4.1.4. Scaling up the use of green, social, sustainability, and sustainability-linked (GSSS) bonds in developing countries
Global debt markets hold seemingly infinite potential for private finance mobilisation due to their size. Innovative financial instruments – such as green, social, and sustainability (GSS) bonds1 and sustainability-linked bonds2 (SLBs) (referred to together as GSSS bonds), which function much like traditional bonds – are emerging within this environment. By linking scale with impact, GSSS bonds are important internal tools to mediate between capital markets and sustainability needs.
However, OECD research finds that GSSS bond issuances are not occurring in the countries with the greatest financing needs, and which could therefore benefit the most from these instruments. In 2022, for example, only 13% of the overall GSS bond market was issued by entities in developing countries (further reduced to around 5% when not including China) (OECD, 2023[17]). The same is true for SLBs, where issuances from developing countries appear to be decreasing. Between 2021 and 2022, the share of SLBs from issuers in ODA-eligible countries as a percentage of the total issued amount decreased from 13% to 5% (OECD, 2024[18]).
OECD policy work explores the role of OECD DAC members in ensuring GSSS bonds live up to their potential in developing countries. This includes, for example, supporting the development and use of harmonised, locally-adapted standards for different types of GSSS bonds; providing technical assistance and capacity building to increase issuer familiarity with these instruments; and using blended finance instruments like guarantees to enhance the risk-return profile of GSSS bonds –that is, the trade-offs between the potential returns of the investment and the risk of losing money (OECD, 2023[17]) (OECD, 2024[18]). A fundamental starting point for these initiatives, is the fact that GSSS bonds are debt instruments at their core – meaning that the debt sustainability of issuers must therefore be carefully evaluated prior to considering an issuance.
4.1.5. Harnessing good practices for domestic resource mobilisation, particularly local currency mobilisation
Domestic resource mobilisation is key to country ownership and ensuring sustained economic growth and stability, especially to help countries’ public finance systems recover from pandemic spending. Deepening domestic capital markets through local currency financing is also critical to increasing country ownership. However, local currency solutions are severely underutilised. For example, a substantial majority (93%) of the SLBs issued globally are in hard currencies – that is, money coming from countries with stable political structures and strong economies (data sourced between Q2 2020 to Q1 2023) (OECD, 2024[18]).
OECD research indicates that donors, MDB’s and DFIs need to critically scale up the utilisation of local currency solutions to support the development of domestic capital markets – particularly in strengthening small- and medium-sized enterprises (SMEs) and infrastructure sectors. These solutions can include both indirect mobilisation tools such as capacity-building, policy advocacy, and technical assistance to bolster local financial infrastructure and regulatory frameworks, and direct mobilisation tools including currency hedging instruments that attempt to reduce the effects of currency fluctuations on investment performances, financial guarantees to ensure dept is repaid to a lender by another party if the first party defaults, “synthetic” loans where money is loaned in a base currency but paid out in another currency, and targeted investments to mitigate currency risks and stimulate the growth of local currency markets.
4.1.6. Promoting blended finance instruments to mobilise domestic investment and attract international investment for sustainable development in developing countries
Blended finance is crucial for better mobilisation of private finance. By deploying development resources to reduce the risk-return profile of investments, blended finance can attract private sector investment towards developing countries. As such, it helps demonstrate project viability and build markets – in turn attracting more commercial capital (OECD, 2018[19]). Via the development of Principles and Guidance on blended finance, the OECD has worked to make blended finance an established pillar of the financing for sustainable development architecture (OECD, 2017[20]).
Yet OECD research – and the sheer size of development and climate needs – suggest that development finance providers should urgently make greater use of mobilisation instruments and blended finance solutions. MDBs should step up efforts to mitigate the risks for private investors, bundle projects to attract private investment and mobilise at scale their portfolios for climate action (OECD, 2023[21]).
OECD research finds that guarantees have proven to be the most effective instrument for mobilising private finance (Garbacz, Vilalta and Moller, 2021[22]). Syndicated loans – loans provided by a group of lenders who work together to provide funds for a single borrower – and project finance for long-term industrial and infrastructure initiatives have been particularly effective too, including for climate action.
Examples include the African Development Bank (AfDB) Facility for Energy Inclusion, which has committed USD 50 million to provide risk mitigation instruments such as guarantees, alongside concessional loans from development partners like the European Commission and the Nordic Development Fund (AfDB, 2019). In addition, the Scaling Solar Programme by the International Finance Corporation (IFC) has facilitated syndicated loans to finance two solar power plants totalling USD 160 million, with private sector participation, in Zambia (IFC, 2022[23]).
4.1.7. Supporting a strong and future-fit multilateral development system
The multilateral development system stands as an indispensable platform for orchestrating strategic, coordinated international responses to global development challenges. It also channels a growing share of Official Development Assistance (ODA). For example, DAC members have steadily increased their share and volume of ODA sent to, or through, multilateral organisations over the past decade, from 37% in 2010 to 45% in 2021.
In recent years, successive crises and a high-risk post-pandemic context have spurred calls for an ambitious overhaul of the global financial architecture, of which the multilateral development system is a core component. Multilateral organisations, in particular the main Multilateral Development Banks (MDBs), are at the forefront of current efforts to reform and push the boundaries of development finance. This is apparent in the ongoing initiatives undertaken to transform these organisations’ mandates, operational models, and toolbox.
At the same time, the surge in reforms and innovation brings with it an urgent need to strengthen the governance and effectiveness of the multilateral system. Over time, the growth in multilateral development finance has been accompanied by the creation of new multilateral entities in response to each new crisis – the number of active multilateral entities has more than doubled since 2005 – resulting in a versatile but also complex and fragmented architecture.
Without system-wide accountability and co-ordination mechanisms, the expansion of the multilateral aid architecture and its toolbox risks exacerbating existing flaws. Unstructured and uncoordinated growth could further increase complexity, diminish accountability, and perpetuate fragmented initiatives resulting from a lack of inter-organisational cooperation, eventually eroding development partners’ trust and commitment to invest in a robust, future-ready multilateral system.
4.2. Harnessing trade for the SDGs
Trade can play a pivotal role in advancing the SDGs by fostering economic growth and promoting inclusive and sustainable development. Trade allows countries to capitalise on their comparative advantages and enhance access to international markets, stimulate productivity, and create employment opportunities, contributing directly to SDG 1 (poverty eradication) and SDG 8 (decent work and economic growth). International trade also facilitates access to essential goods and services, including food and medical goods, thereby contributing directly to food security through SDG 2 (zero hunger) and global health through SDG 3 (good health and well-being). Moreover, trade can enhance access to technology and knowledge to support more sustainable production methods and encourage more sustainable consumption patterns in support of SDG 12 (responsible consumption and production). Private-public collaborations and partnerships in trade further foster infrastructure development and knowledge sharing, thus supporting SDG 9 (industry, innovation, and infrastructure) and SDG 17 (focused on partnerships).
To achieve these goals, however, it is essential to ensure that trade policies are aligned with sustainable development objectives and promote inclusive and equitable outcomes for all stakeholders by integrating social, environmental, and economic aspects, including potential spillover effects, into trade policies.
4.2.1. Harnessing trade facilitation to reduce costs, spark competitiveness, productivity, innovation, and growth, and increase opportunities for trade
Trade facilitation policies encompass measures that help expedite the movement, clearance, and release of goods when traded internationally. These are key in offsetting the time and cost to trade and in ensuring the timely delivery of essential goods. As international trade evolves, trade facilitation policies are not only needed to ensure that transactions are faster and easier, but also to ensure that trade is sustainable and resilient.
The COVID-19 pandemic, technological developments, geopolitical tensions, and climate change have all been leading to a rapidly changing trade landscape in recent years, impacting not only what we trade but also how we trade. By lowering trade costs, trade facilitation policies allow for a better access to competitively priced inputs. This will in turn support developing countries’ competitiveness and greater participation in global systems of production, including for small- and medium-sized enterprises. A better trade facilitation policy environment will also enhance access to new export markets, including in agriculture and food trade, a key sector for many developing economies. In addition, further streamlining border processes will help enhance exports in additional sectors, including through the increased opportunities provided by parcels trade (López González and Sorescu, 2021[24]). Seven years after the World Trade Organisation (WTO) Trade Facilitation Agreement (TFA) came into force, developing economies have been setting up the required regulatory frameworks to operationalise their commitments under the Agreement. The TFA has also started to bear fruit on the ground in developing and least-developed economies – reducing trade costs by around 6% over the last decade. The trade facilitation policy environment has also improved significantly over the last decade, particularly in areas relating to streamlining trade-related documents, automation of border processes, and transparency and predictability (Figure 4.2). Significant challenges remain, however, across all the policy areas covered by the OECD TFIs and many countries continue to face implementation setbacks.
In this context, the OECD Trade Facilitation Indicators (TFIs)3 (OECD, n.d.[25]) allow countries to identify strengths and challenges in trade facilitation, prioritise areas for action, and mobilise technical assistance and capacity building in a more targeted way.
Figure 4.2. The trade facilitation policy environment continues to improve in LDCs
Note: Each of the 11 Trade Facilitation Indicators (TFs) range between 0 and 2, with 2 the maximum performance that can be achieved by area. OECD TFIs cover 35 out of 45 economies designated by the United Nations as the least developed countries (LDCs).
4.2.2. Promoting good governance in export credits to boost support of climate friendly transactions
Since the mid-1990s, OECD countries have been sharing information on their policies, practices, and experiences regarding environmental and, more recently, social issues when providing officially supported export credits – that is, financing and services that help exporters transport and sell goods in overseas markets. The result of these discussions has been a series of agreements and OECD Recommendations relating to measures that OECD countries should take to identify, consider, and address the potential environmental and social impacts of projects for which official export credit support is requested as an integral part of Members’ decision-making and risk management systems.
OECD countries have also developed Recommendations to deter bribery in transactions for which official export credit support is requested and to promote sustainable lending practices to ensure that the provision of officially supported export credits does not contribute to the build-up of unsustainable external debt in developing countries.
The Modernisation of the Arrangement on Officially Supported Export Credits [15. July 2023], as the most significant review to the Arrangement since 1978, allows countries to offer greater support for green projects while also expanding the use of export credits in the context of an evolving world economy and an increasingly competitive landscape.
4.2.3. Enhancing aid for trade support for the SDGs in connection to the reform of the global financing for development architecture
Increased demand to finance SDGs and global public goods, including for climate adaptation and mitigation, biodiversity protection, and health systems, have been putting ODA resources under stress in an already constrained fiscal space. These evolutions are raising new questions for development donors and partners, including finding creative ways to unlock additional resources for development, balancing financing priorities, and making an efficient use of concessional resources for maximal impact. A number of initiatives have been launched to reform the global financing architecture, with a view to create a more inclusive system and scale up financing for development. Aid for Trade is a test case for these evolutions.
Drawing on the joint WTO-OECD Aid for Trade Monitoring & Evaluation questionnaire and latest OECD Aid for Trade flows data, 2024 WTO-OECD Aid for Trade at a Glance report provides unique insights to inform reflections related to Aid for Trade in an evolving landscape and how to align both national and SDG priorities (OECD/WTO, 2024[27]). The report indicates that new priorities, including women and youth empowerment, digitalisation, and the green transition, are emerging alongside continued strong support to traditional areas of Aid for Trade, such as trade facilitation and export diversification. For example, 94% of partner countries that participated in the monitoring and evaluation exercise indicated that they foresee future needs to finance the trade-related aspects of climate change.
Aid for Trade priorities are reflected in financing flows. Aid for Trade disbursements supporting sustainability-related objectives have been rising in recent years. In 2022, 67% of bilateral Aid for Trade commitments included a focus on climate. OECD data shows that beyond its role in helping developing countries participate in global trade, Aid for Trade contributes to all SDGs. In 2021-22, SDG 9 (industry, innovation, and infrastructure) attracted the largest amount of Aid for Trade disbursements, followed by SDG 7 (affordable and clean energy), SDG 2 (zero hunger), SDG 11 (sustainable cities and communities) and SDG 8 (decent work and economic growth). These evolutions underscore the role and potential of Aid for Trade in financing a range of SDG-related objectives. Harnessing the full potential of Aid for Trade in that respect however may require new approaches to more deliberately target SDG objectives, integrating an SDG lens in Aid for Trade impact management and monitoring frameworks, and unlocking more resources to finance a growing and interwoven priorities.
Since the launch of the initiative in 2006, a total of USD 648 billion was disbursed for Aid for Trade programmes and projects. Aid for Trade disbursements reached an all-time high of USD 51.5 billion in 2022. Development co-operation providers have also been successful in mobilising additional resources from the private sector to finance trade-related needs. According to OECD data, in 2022, a total of USD 54 billion was mobilised through official interventions in trade-related sectors, including through blended finance mechanisms. This represents 88% of total resources mobilised through official interventions. Ongoing reflections related to the reform of the global financing for development architecture, including the development of innovative financing instruments and operating models, provide an opportunity to build on this positive trend and unlock more finance from the private sector for trade.
While seeking new ways to work with partners and scale up resources for trade and sustainable development, maintaining a focus on LDCs is essential. In 2022, the share of Aid for Trade disbursements to LDCs was 28% and worth USD 14 billion. This is higher than the share of LDCs in broader ODA and represents a 10% increase compared to the previous year. However, disbursements remain below 2019 levels. LDCs remain a priority, with an objective to double Aid for Trade levels from 2018 by 2031 in line with commitments made in the Doha Programme of Action for the Least Developed Countries. However, disbursements have fallen short of this objective, necessitating concerted efforts to bridge the gap and accelerate progress. Ensuring that the right instruments, including grant finance, are available to support LDCs and other low-income countries is essential to provide adequate support. In that regard, the shift towards loans over grants observed in recent years presents challenges.
In a context where demands and opportunities for Aid for Trade keep growing, balancing demands and giving a central place to partner country priorities is a key consideration. The 2024 WTO-OECD Aid for Trade at a Glance report shows that Aid for Trade financing flows are largely aligned with the sectoral priorities of partner countries. Opportunities exist however to foster greater alignment and enhance the scale and effectiveness of Aid for Trade projects. For example, harmonising project durations and funding cycles, addressing institutional capacity constraints, and enhancing access to a broad set of financing instruments including grant finance, could help address some of the challenges highlighted by donors and partners. Ensuring coordination among development co-operation providers, stakeholders and initiatives is also key to promote coherence and synergies, and enhance the effectiveness and impact of Aid for Trade on the SDGs.
4.3. Leveraging domestic tax revenues for SDG financing
The Addis Ababa Action Agenda on Financing for Development recognised the centrality of domestic public resources to achieve the Sustainable Development Goals (SDGs) (United Nations, 2015[28]). Tax revenues are the largest and most sustainable component of financing for development. An effective tax system not only raises revenues needed for funding public services but can be adapted to support development goals. For example, taxation can help reduce inequalities through redistribution and can help address health and environmental objectives through behavioural change. Crucially, the benefits of good tax policy can only be realized through efficient and effective tax administration.
While tax revenues have increased in developing countries since the 1990s, progress has been flat in more recent years, notably since the 2008 global financial crisis. Many developing counties continue to have tax-to-GDP ratios below 12.75%, which is the lowest level of funding studies have found to be necessary for accelerated growth and development (Gaspar, Jaramillo and Wingender, 2016[29]). International Monetary Fund staff have estimated, however, that low-income countries could increase their tax-to-GDP ratios by on average nine percentage points of GDP. (Benitez et al., 2023[1]). Forthcoming OECD estimates confirm that low-income countries have significant tax revenue potential, albeit somewhat lower than previous estimates, in particular in the short run (Brys et al., forthcoming[30]). In any case, even a modest increase in tax revenues could go a long way toward enabling more sustainable, inclusive, and resilient development, addressing major crises related to climate change and ongoing conflicts, and ensuring greater debt sustainability.
4.3.1. Encouraging innovative financing to address the financing gap to achieve the SDGs
As highlighted in earlier sections, green budgeting is emerging at regional and local levels as an important tool for regions and cities to align their expenditures and revenues with their green objectives and enhance the transparency and accountability of their climate and environmental action. Green budgeting is also a tool that governments can use to prioritise low-carbon investments and identify funding gaps, as well as to mobilise additional sources of both private and public climate finance.
For subnational governments to make full use of green budgeting, however, more methodological, technical, and financial support is needed. The 2022 OECD report Aligning Regional and Local Budgets with Green Objectives analyses subnational green budgeting practices in OECD and EU countries and provides a set of guidelines for these governments to use in developing and launching a green budgeting practice. It is accompanied by two green budgeting case studies – one with the Region of Brittany (France) and one with the City of Venice (Italy) – and a self-assessment tool (OECD, 2022[31]; OECD, 2022[32]).
Collecting and analysing statistics on sustainability financing is also key to reaching SDG goals. Covering nearly 130 economies, the OECD’s Global Revenue Statistics Initiative is a key source of information. By providing high-quality, harmonised data on the level and structure of taxation in developing countries in active collaboration with participating countries and regional partners, it is a starting point for policies to address the SDG financing gap as well as a platform for capacity building and knowledge sharing on domestic resource mobilisation.
Revenue trends in developing countries over the past decade underline the financing challenges facing developing countries, especially following the impact of the COVID-19 pandemic. Africa’s tax-to-GDP ratio, for example, increased by 1.5 percentage points between 2010 and 2021 to 15.6% but remained less than half the level of the OECD average in 2021 (34.1%). Moreover, non-tax revenues declined as a share of GDP while the cost of financing external debt increased across African countries over the decade. Following such setbacks, efforts to close the financing gap through taxation need to be redoubled.
4.3.2. Building tax capacity and promoting tax reform in developing countries
In recent years, enormous progress has been made in establishing high standards of tax transparency and information sharing, with important gains for tax authorities’ ability to deter, detect, and disrupt tax evasion and avoidance. The Global Forum on Transparency and Exchange of Information for Tax Purposes has grown to 171 member jurisdictions and has overseen a significant improvement to the global tax transparency architecture.
International co-operation on corporate taxation has also increased dramatically and led to a major update of the international tax system. This work has focused especially on the challenges of Base Erosion and Profit Shifting (BEPS) – the tax planning strategies that shift profits from higher to lower tax jurisdictions and exploit loopholes and mismatches in tax rules. Working together within the OECD/G20 Inclusive Framework on BEPS (IF), 147 countries and jurisdictions are collaborating on the implementation of 15 BEPS Actions to tackle tax avoidance, improve the coherence of international tax rules and ensure a more transparent tax environment.
In 2021, a landmark agreement was reached on a Two-Pillar Solution to address the tax challenges arising from the digitalisation of the economy:4
Pillar One provides for a reallocation of taxing rights over a portion of the profits of the largest and most profitable multi-national enterprises based on the location of the customers or users, in addition to introducing a simplified approach to the application of transfer pricing in specific circumstances, with a particular focus on the needs of countries with low capacity. Pillar One is expected to lead to annual global tax revenue gains of between USD 17.4-31.7 billion, based on 2021 data. The analysis further finds that low and middle-income countries are expected to gain the most as a share of existing corporate income tax revenues (O’Reilly et al., 2023[33]).
Pillar Two puts a floor on tax competition through a global 15% minimum effective corporate income tax rate, which is expected to result in additional annual global corporate income tax revenues of USD 155-192 billion based on 2017-2020 data (Hugger et al., 2024[34]).
While political attention and demand for support continue to be high on international corporate income taxation issues, they are not a panacea for the tax or revenue challenges facing developing countries.
From a domestic resource mobilisation perspective, other taxes and issues of tax administration can make a larger contribution. Other taxes are likely to yield better revenue results, while ultimately development outcomes (such as poverty alleviation) will depend on the combination of both revenue raising and spending decisions. Actions across the entire tax mix are needed as no individual tax can provide the necessary increased revenues.
Notably, the tax mix in developing countries is made up of much lower shares of personal income tax and social security contributions and much higher reliance on corporation tax and consumption taxes (see Figure 4.3).
Figure 4.3. Tax structures for different regions in 2021
Source: Author’s own elaboration.
Value Added Tax (VAT) is often the single largest source of tax revenues for developing countries and aligning VAT with changing consumption patterns due to the digitalisation of the economy presents an opportunity to broaden their tax base. Effectively levying VAT on the import of digital services and goods bought online from foreign vendors will increasingly be critical to safeguarding VAT revenues in developing economies, as well as to minimise competitive distortion between foreign online sellers and local physical stores. To address these challenges, the OECD has delivered a set of internationally agreed standards and recommended approaches for the VAT treatment of international trade, with a particular focus on digital trade. By the end of 2023 almost 100 jurisdictions worldwide (including many developing economies) had implemented reforms based on these VAT standards and more than 30 additional jurisdictions are in the process of implementing such reforms or considering doing so.
Personal income taxes (PIT) and taxes on wealth (including taxes on immovable property, net wealth, and transfers of wealth) typically account for low shares of overall revenue in developing countries. These taxes could play a bigger role in enhancing the progressivity of tax systems and reducing inequalities. Strengthening their role requires careful tax policy design, however, which considers potential policy trade-offs, including possible disincentives to participate in the formal labour market, to save, and to invest. Digital tools, combined with increased access to third-party information and exchange of information between tax authorities can contribute to making personal income and wealth taxation more effective by reducing tax evasion. Enhancing the role of personal income and wealth taxation should also go hand-in-hand with efforts aimed at strengthening trust and tax morale.
A key observation to inform tax policy strategies in developing countries is that domestic resource mobilisation requires economic growth as well as effective tax policies and administration. Tax measures could seek to strengthen the formalisation of the work force and of businesses which will strengthen their ability to support growth and distributional outcomes. Well-designed presumptive tax regimes that simplify tax compliance for small and micro-businesses and avoid excessive tax burdens and tax complexity are key in this regard.
4.3.3. Digitalising tax administrations to improve compliance and revenue collection for a sustainable transformation
The last decade has seen an increase in the digitalisation of tax administrations across the globe, making it easier for taxpayers to file, pay, and communicate electronically. The use of large datasets has also helped to modernise and link tax administration processes, leading to increased efficiency and more sophisticated risk assessment and compliance interventions. Incidentally, the COVID-19 crisis also acted as an accelerant to digitalisation in many countries. The growing adoption of digital technologies brings opportunities that can assist governments achieving their objective of improving revenue collection for a sustainable transformation5.
Tax administrations are gathering more and more data and digitalisation allows them to leverage this information to gain deeper insights into taxpayer and their affairs, and to further enhance and develop innovative compliance strategies. For example, many tax administrations have started using artificial intelligence for risk assessment and fraud detection (OECD, 2022[35]).
Digitalisation can be particularly helpful in addressing issues around the hidden and informal economy, which results in lost government revenue and can undermine the overall trust in the tax system. For example, the use of new digital tools to ease registration, record keeping, calculation, and payments can make it easier for those taxpayers who are unclear on their tax obligations and can help to support voluntary compliance. In addition, being able to receive relevant information electronically from third parties such as government agencies, platforms, and the banking sector can also be helpful in uncovering unreported activity as well as unregistered taxpayers.
Another example improving tax compliance through technology is using electronic invoicing systems where the transmission of electronic invoice data to tax administrations is embedded into taxpayer compliance processes. The introduction of such systems helps improve tax compliance and audit selection, and better detect fraud. For example, in Italy, during 2019, the electronic invoicing system helped identify VAT frauds for a total amount of EUR 1.1 billion, with the VAT gap decreasing by around 25% prior to the introduction of the electronic invoicing system6.
Importantly, digitalisation not only presents opportunities for improving revenue collections but also offers avenues to improve the efficiency and effectiveness of tax administrations. Common objectives in this context include streamlining processes; minimising unnecessary interactions between taxpayers and tax administrations; and utilising data to integrate internal tax administration processes and enhance risk assessments. Particularly, taxpayer services can benefit from digitalisation, allowing tax administrations to provide a greater mix of service channels including 24-hour self-service offerings. Combining the use of technology with other innovative approaches, such as behavioural insights, will further reduce costs and improve compliance. For example, the use of behavioural insights helped some tax administrations to increase self-service and online actions by more than 20%, or to reduce misreporting of income and expenses through tailored digital prompts.
In addition, to benefit from the opportunities of the use of technology and a wider digitalisation and digital transformation, it is crucial for tax administrations to develop a better understanding of their current level of digital maturity and to identify a pathway for reaching higher levels of maturity in the future. Currently, tax administration systems frequently impose substantial administrative burdens on taxpayers which can significantly impact entrepreneurial activity7 by relying on taxpayers providing information to the administration. Instead, digitalised taxation processes could be integrated into everyday transactions, becoming part of individuals’ and businesses’ routine activities. This integration, often referred to as embedding tax within taxpayers’ natural systems, will reduce burdens and allow for compliance by design approaches, thus making non-compliance a more difficult and deliberate action.
Understanding that tax administrations operate in varied environments, in 2022 the OECD developed the Digital Transformation Maturity Model, which allows tax administrations to self-assess their current level of maturity and consider future strategy. The model has been completed by more than 50 tax administrations and the results of those self-assessments are guiding and supporting administrations in their digitalisation strategies (see Figure 4.4) (OECD, 2022[36]).
Figure 4.4. Digital Transformation Maturity Model self-assessment results
Source: (OECD, 2022[36]).
Policy Recommendations
To close financing gaps and create an enabling financial environment for developing countries, governments and the international community can consider:
Delivering an SDG Stimulus
Enhance co-operation between public and private financial institutions, by building deeper partnerships, promoting technical assistance on blended finance instruments, fostering measurement of the contribution of ODA to Global Public Goods, and stimulating new analysis on innovative financing structures and instruments to scale up private financing for sustainable development;
Increase the mobilisation of private finance for sustainable development, including climate finance, by scaling up the use of green, social, and sustainability bonds in developing countries, strengthening the use of local currency solutions, and promoting blended finance instruments;
Strengthen the governance and effectiveness of Multilateral Development Banks (MBDs), including with regards to mitigating risks and attracting private investment; and
Increase the utilisation of local currency financing to deepen domestic capital markets and enhance country ownership.
Mobilising private finance for sustainable development
Rethink how climate finance is deployed, significantly scale up the use of blended finance and factor in the rapidly improving commercial prospects of many climate investments;
Expand capacity building to support developing countries to improve the conditions for investment, especially against the backdrop of difficult macroeconomic conditions and constrained fiscal space;
Address the institutional barriers in the international development architecture that relegate mobilisation to a niche, rather than the bedrock, of climate finance; and
Address regulatory and other barriers to investment in advanced economies, where the large stocks of private capital are overwhelmingly located.
Harnessing trade for the SDGs
Align trade policies with sustainable development objectives and guarantee that they promote inclusive and equitable outcomes for all stakeholders;
Rethink aid for trade in connection to the global financing for development architecture;
Promote good governance in export credits to boost SDG-aligned transactions;
Harness trade facilitation to reduce costs, spark competitiveness, productivity, innovation and growth; and
Enhance Aid for Trade to support the SDGs and emerging priorities by incorporating SDG considerations systematically. This includes increasing resources, improving supply chain resilience, and supporting digital and environmental transitions, thereby fostering a more inclusive and efficient system for financing development.
Leveraging tax revenues for SDG financing
Support domestic resource mobilisation efforts, for example, by stemming illicit financial flows (IFFs) in macro-critical sectors such as trade and investment, banking and financial services; and by addressing the underlying enablers of IFFs and corruption, in terms of the traders, financiers, lawyers and accountants, that enabling and sustain these interests;
Broaden tax bases and/or by tax policy and tax administration reform, including the digitalisation of tax processes;
Build capacity and technical expertise to support the implementation of the agreed international tax standards and instruments (e.g., the tax transparency standards implemented by the Global Forum on Transparency and Exchange of Information for Tax Purposes, and the Base Erosion and Profit Shifting project and the Two-Pillar Solution to address the tax challenges arising from the digitalisation of the economy developed by the OECD/G20 Inclusive Framework on BEPS; and
Support international tax coordination via the Platform for Collaboration on Tax, which brings together the OECD, the United Nations, the IMF and the World Bank.
References
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Notes
f
Notes
← 1. GSS bonds are use-of-proceeds instruments, meaning that issuers commit to using the proceeds to (re-) finance projects considered to have a positive environmental and/or social impact. For investors, they provide greater transparency over what the earnings of the bond are used for and help meet growing expectations over sustainable mandates. For issuers, they are a source of long-term, diversified and low-cost funding for activities with a clear development focus (OECD, 2023[17]).
← 2. SLBs have financial and/or structural characteristics which change depending on whether the issuer meets pre-defined sustainability objectives. Unlike for GSSS bonds, the proceeds of SLBs can be used for general purposes – making them particularly attractive for areas like climate change adaptation or social outcomes which often lack pipelines of bankable underlying assets. SLBs can also be linked to existing internationally agreed objectives – such as the Paris Agreement Nationally Determined Contributions – therefore increasing their credibility and issuers’ accountability towards them (OECD, 2024[18]).
← 3. The OECD TFIs cover the full spectrum of border procedures for more than 160 economies across different income levels, geographical regions, and levels of development. Each TF indicator is composed of several specific, precise, and fact-based variables related to existing trade-related policies and regulations and their implementation in practice.
← 4. See Statement on a Two-Pillar Solution to Address the Tax Challenges Arising from the Digitalisation of the Economy – 8 October 2021
← 5. See also Supporting the Digitalisation of Developing Country Tax Administrations, Forum on Tax Administration (Forum on Tax Administrations, 2021[40])
← 6. See also Tax Administration 3.0 and Electronic Invoicing: Initial Findings, (OECD, 2022[35]).
← 7. A 10% reduction in tax administration burdens can lead to an increase of nearly 4% in entrepreneurial activity. See Figure 1.3 in Supporting the Digitalisation of Developing Country Tax Administrations, Forum on Tax Administration (Forum on Tax Administrations, 2021[40]).