Before the COVID-19 pandemic, the fight against Climate Change was the number one topic on the news. What was most striking about the fight against Climate Change were the huge numbers that were discussed. Under the UNFCCC Copenhagen Accord of 18 December 2009, developed countries committed to jointly mobilize USD 100 billion dollars a year by 2020, to finance projects to halt Climate Change or at least mitigate the impact of Climate Change. In December 2019, the EU Commission’s president, Ursula von der Leyen, announced EU’s Green Deal and a plan to invest EUR 1 trillion by 2050 to fight Climate Change.
Over the next years, we will see a spark in development projects with a focus on fighting Climate Change and subsequently, an increase in financing requirements for these projects.
In this article, we will take a closer look at the system of climate finance. We will also look at disputes that may arise in the context of climate finance activities and briefly examine whether or not arbitration can be used as a means to resolve these disputes.
What is climate finance?
Climate finance refers to local, national or transnational financing—drawn from public, private and alternative sources of financing—that seeks to support mitigation and adaptation actions that will address climate change. The UNFCCC Standing Committee on Finance defines it as “finance that aims at reducing emissions, and enhancing sinks of greenhouse gases and aims at reducing vulnerability of, and maintaining and increasing the resilience of, human and ecological systems to negative climate change impacts.”
The UNFCCC, the Kyoto Protocol and the Paris Agreement envisage that Parties with more financial resources will provide assistance to those who are less endowed and more vulnerable. Typically, developed country Parties are to provide financial resources to assist developing country Parties in implementing the objectives of the UNFCCC. The Paris Agreement reaffirms the obligations of developed countries, while for the first time also encouraging voluntary contributions from other Parties.
Under the UNFCCC Copenhagen Accord of 18 December 2009, developed countries committed to jointly mobilize USD 100 billion dollars a year by 2020, for funding climate change mitigation activities and USD 30 billion for the period 2010-2012 for allocation between adaptation and mitigation activities. The money was to be raised from a wide variety of sources- public and private, bilateral and multilateral, including alternative sources of finance. This money would then be channelled through the Green Climate Fund (“GCF“), the Global Environment Facility (“GEF“), the Adaptation Fund and the Special Climate Fund, to support projects, programmes, policies and other activities in developing countries, related to climate change mitigation and adaptation efforts.
In addition to the money committed under the UNFCCC Copenhagen Accord, there are further means of climate finance. Financing for climate mitigation and adaptation activities can be provided by way of advisory services, equity, grants, loans, guarantees, lines of credit and other instruments such as purchase agreements for carbon finance projects. This financing can be provided by governments, multilateral development banks such as the Asian Development Bank or the World Bank, or by multilateral funds such as Climate Investment Funds. Climate finance can also be raised from private sector investors including individual investors, venture capitalists, or larger institutional investors like pension funds and insurance companies. According to a report published by Climate Policy Initiative, climate finance raised from public sources, such as governments and multilateral development financial institutions, totalled USD 253 billion in 2017-2018, representing 44% of total commitments while the amount raised from private sources was USD 326 billion, accounting for 56% of the total climate finance. The Organisation for Economic Cooperation and Development (OECD) maintains a database of statistics regarding all climate-related external development finance flows, which can be accessed here.
Some examples of projects that have received climate finance are an adaptation project for climate-resilient coastal zone management in the Western Indian Ocean, a project in the Philippines to implement long-term climate risk reduction and adaptation measures and a project in the Knuckles Mountain range catchment in Sri Lanka to address climate-induced irrigation and drinking water shortages in farms and agricultural plantations.
Relevant parties in climate finance
Given that climate financing involves financing through local, national and transnational sources, a number of parties may be involved. The main sources of climate finance can be identified as under:
- Official bodies like the UNFCCC, the UNEP, the OECD, and the G-20, which play an important role in coordinating public and private finance sources, as well as provide limited finance themselves.
- Governments, since they decide how finance is earmarked for climate change initiatives, and which projects they would support.
- Development Finance Institutions such as the Asia Development Bank, Japan International Cooperation Agency, the UK Development Fund, to name a few.
- Climate Funds such as the Green Climate Fund, which relies on contributions from countries.
- Green Investment Banks which are basically banks with a specific focus on providing finance lines to projects with a climate change mitigation and/or adaptation focus.
- International and domestic capital markets, which provide debt finance, at the international and domestic level respectively, in the form of green bonds to climate change projects.
- Corporations, which are the largest provider of climate finance, through their climate friendly investments in various sectors, including energy generation and efficiency, transport, and environment infrastructure.
- Aid agencies, by providing necessary finance for essential projects, which are unable to find funding.
- Rating agencies, such as Standard & Poor and Moody’s, which oversee corporations and provide an analysis on their climate performance.
- Insurance industry, as a holder of substantial amount of finance, the insurance industry can provide finance for climate change mitigation and adaptation initiatives.
- Community-focused approaches, such as crowdfunding, i.e. campaigning for and raising funds through individuals or organizations.
- Foundations, like the William and Flora Hewlett Foundation and the John D. and Catherine T. MacArthur Foundation, provide funds for research in ideas and products which avert climate change.
Climate financing through the Green Climate Fund
The GCF was conceptualised under the Copenhagen Accord and later established under the 2010 UNFCCC Cancun Agreements. It is a global fund, set up by 194 countries, as part of the UNFCCC’s financial mechanism. GCF supports the efforts of developing countries to respond to the challenge of climate change, by funding mitigation and adaptation measures.
There are broadly two ways in which GCF provides climate finance: (i) by providing finance for projects through a so-called Funded Activity Program by executing Funded Activity Agreements (“FAA“) and (ii) by providing grants and technical assistance to national institutions in developing countries to strengthen their institutional capacities and governance mechanisms, also called National Designated Authorities, through GCF’s Readiness and Preparatory Support Programme (“Readiness Programme“).
FAAs are concluded with a wide range of Accredited Entities. Acumen Fund Inc., Asian Development Bank, the Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ) GmbH, are some of GCF’s Accredited Entities. These Accredited Entities are responsible for presenting funding applications to GCF, and then overseeing, supervising, managing and monitoring the overall GCF-approved projects and programmes.
In order to secure funding for a project, an Accredited Entity has to prepare and submit a concept note providing basic information about the project, followed by a more detailed funding proposal to the GCF. This is then reviewed by the GCF Secretariat and an independent body of international experts, before being submitted for approval of the GCF Board. Once the funding proposal is approved by the GCF Board, the GCF Secretariat will negotiate with the Accredited Entity to sign an FAA. The FAA lays the groundwork for the implementation phase of the project or programme. Once the FAA is effective, the Accredited Entity can then request disbursal of funds from GCF to carry out the project activities.
The process for accessing funding under the Readiness Programme begins with the submission of a readiness proposal and supporting documents by a National Designated Authority to the GCF Secretariat. The proposal is scrutinised and reviewed by the GCF Secretariat, and upon approval, a Grant Agreement is executed with the National Designated Authority.
In certain cases, GCF publishes Requests for Proposals for projects that it identifies as having potential, but are not adequately financed. Accredited Entities and National Designated Authority can submit concept notes and funding proposals for such projects identified by GCF. There is also a Simplified Approval Process Scheme for smaller-scale projects and programmes.
We will discuss FAAs and Grant Agreements in more detail in a separate blog post.
Disputes in climate financing and arbitration as a means to resolve climate financing disputes
Initiatives to combat climate change can give rise to various legal challenges, and consequently result in disputes. The transition to clean energy through the construction of wind and solar farms, could give rise to disputes in the planning, construction or funding phase. The funding of climate change combatting and adaptation initiatives, could be a fertile ground for disputes. For example a dispute could arise from disagreements between stakeholders on how money is to be spent, or which project should benefit from funding. If recipients of climate finance do not utilize funding for the purpose and in the manner outlined under the relevant funding agreement, it could lead to disputes. Also, funders could renege on their promises to make good on payments to projects, resulting in disputes. Moreover, some of the funding is routed through the World Bank or funds managed and/ or operated by UNFCCC- and these organizations could attach certain strings and conditions, in order to make the funds accessible to the intended recipient. This could also potentially lead to disputes.
More specifically, a breach of any term or condition of an agreement under which climate finance has been provided could result in a dispute, which will need to be resolved as per the dispute resolution method stipulated in the agreement. Where there is a contract, there is potential for disputes. In its report on Resolving Climate Change Related Disputes through Arbitration and ADR, the ICC predicts that a growth in investment in renewable energy projects could impact associated underlying contracts including financing agreements. As companies work to scale up their investments in the renewable energy sector to achieve global climate change goals and Paris Agreement commitments, there could be a rise of breach of contract claims under their financing agreements as well.
The method of dispute resolution that is employed to resolve disputes arising in the field of climate finance will depend on what has been agreed by the parties in the underlying financing agreement. Agreements executed for raising climate finance through private sources of funding are not available in the public domain. The GCF however publishes all executed FAAs and Grant Agreements on its website. The FAAs provide for resolution of disputes through arbitration under the UNCITRAL Arbitration Rules. The Grant Agreements themselves do not contain a dispute resolution clause, but they do refer to “Standard Conditions for Readiness and Preparatory Support Grants provided by the Green Climate Fund”. These Standard Conditions will most likely contain provisions on dispute settlement. These Standard Conditions however are not available.
While there is no data available in the public domain regarding disputes that may have arisen under climate financing agreements, it is likely that several if not most of these arrangements provide for arbitration as a means of dispute resolution. Parties engaged in climate change mitigation or adaptation services and strategies and multi-lateral funds or Governments providing funding for these activities may often come from different jurisdictions, and would not want to be engaged in litigation before state courts.
It is still early to see a surge in climate finance disputes, but it will be interesting to see how the landscape of dispute resolution in this sector evolves as climate finance initiatives continue to rise. We urge you to watch this space for more updates!