Innovative financing instruments

The growing uncertainties about future ODA growth, dampened by recent persistent budgetary deficits and slowdowns in the major economies, have led to a search for additional funding sources, including innovative

financing. The subject of innovative financing was first mentioned during the UN International Conference on Financing for Development in 2002 and has since come to the fore as a promising option to help fill the gap between needs and traditional sources of funding.

There is no universal definition of “innovative finance”. The World Bank defines it as methods departing from traditional approaches that involve

“non-traditional applications of solidarity, [public-private partnerships], and catalytic mechanisms that (i) support fundraising by tapping new sources and engaging investors beyond the financial dimension of transactions, as partners and stakeholders in development; or (ii) deliver financial solutions to development problems on the ground” (World Bank, 2009). OECD defines it as comprising “mechanisms of raising funds or stimulating actions in support of international development that go beyond traditional spending approaches by either the official or private sectors”

(Sandor, Scott, & Benn, 2009), such as new approaches for pooling private and public revenue, new revenue streams (e.g. new taxes, bond-raising or voluntary contribution schemes), and new incentives to address market failures or to scale-up ongoing developmental activities.

By its definition, the WB estimates that innovative financing has contributed US$ 57 billion in official flows between 2000 and 2008, including almost US$ 12 billion in concessional flows, such as solidarity levies. Other estimates give much lower figures, depending on the definition used.

A 2012 UNDP discussion paper classifies innovative finance instruments / methods into four categories: (a) taxes, dues or other obligatory charges on globalised activities such as airline ticket taxes; (b) voluntary solidarity contributions such as contributions when making online hotel bookings and to digital solidarity funds; (c) frontloading and debt-based instruments such as debt swaps and diaspora bonds; and (d) state guarantees, public-private incentives, insurance and other market-based mechanisms (Hurley, 2012).

Innovative finance initiatives involve a wide and growing range of sponsors and participants. For example, the airline ticket tax initiative was launched in 2006 by the governments of Brazil, Chile, France, Norway and the United Kingdom and endorsed by the UN Secretary-General. The digital solidarity initiative urges public institutions and private companies

to donate 1 per cent of the value of an ICT-related contract to the Global Digital Solidarity Fund to help developing countries narrow the digital divide with more developed countries. The International Financial Facility for Immunisation was launched in 2006 by the governments of the United Kingdom, France, Italy, Spain, Sweden and Norway, which were sub-sequently joined by other governments to increase children’s access to vaccines. Funds are channelled through GAVI the Vaccine Alliance (formerly the Global Alliance for Vaccines and Immunisation), which is a public-private partnership. A variety of debt-swap arrangements have been instituted to leverage funds for education and other development initia-tives, with many Latin American countries taking the lead in adopting this instrument.

Multilateral and regional development finance institutions have contributed to, and joined, many innovative finance initiatives. The WB and other development banks have introduced an instrument called

“sustainable investing bonds”, which are aimed at investors planning to incorporate social and environmental concerns into their decisions.

Another feature has been the increasing role played by public-private partnerships in innovative fundraising and implementation, combining the respective comparative advantages of the public and private sectors.

The Leading Group on Innovative Financing for Development (Leading Group on Innovative Financing for Development, 2010) was set up in 2006 as an international platform focussing on innovative finance. Themes include education, health, climate change, financial transactions, illicit flows and food security. The Group comprises 63 member countries, international organisations, foundations, NGOs and civil society organisations (CSOs). The Group seeks to address a broader range of issues to draw more attention to the prospects of extending and strengthening innovative finance initiatives beyond health and climate change, which have been the two main focus areas so far.

Two sets of issues should be considered in assessing the impact and future prospects of innovative financing: issues of mobilising new sources of development funding; and issues of implementation and delivery of such funds, and how these compare with traditional methods.

Of the questions raised, four serve to illustrate the need for more analysis:

 First, has innovative financing generated additional funds, over and above ODA and other existing sources? The provisional answer is mixed. Some have; others have merely diverted funds from one source to another, as when aid providers count their contributions to inno-vative funds as being part of their ODA (Sandor, Scott, & Benn, 2009).

 Second, have innovative finance initiatives avoided the pattern of concentrating aid on relatively few recipient countries under traditional ODA modalities? The evidence from the health sector suggests that these initiatives have done better by covering more countries with higher levels of need. On the other hand, the picture is more mixed for climate change, with some of the smaller countries receiving little or no innovative funding to mitigate climate change effects.

 Third, what about the predictability and stability of funding? Once again, available evidence shows that a few instruments seem to provide more stability, such as airline ticket tax proceeds, though these are subject to volatilities in air travel and general economic conditions.

The stability and predictability of innovative finance is also dependent on the ups and downs of government budgets, where these contribute to innovative funding initiatives, and are thus likely to be pro-cyclical.

 Fourth, has innovative financing strengthened national development capacities and respected country ownership? Most innovative funding has been channelled through theme-focussed “vertical funds”, which have their own operating methods and procedures and do not guarantee good alignment with host countries’ priorities and budget objectives.

Thanks to their financial and technical strengths, vertical programmes tend to be in a stronger position to negotiate with potential recipients, which may sacrifice part of their sovereign decision-making preroga-tives in order to avail themselves of the benefits offered by these funds.

Likewise, the ability of the funds to achieve quick results is a positive outcome, as long as this does not ignore the urgent need to strengthen recipient countries’ capacities – a risk that must be considered if these quick results are not to be short-lived.

These assessments, drawn from the UNDP paper, are tentative. But they flag important questions requiring more attention, especially from recipient countries, in order to seek improvements in what is potentially a very significant source of development financing. The UNDP paper states that the

challenge will be to ensure that innovative finance mechanisms are governed in an inclusive manner, allocate resources equitably and transparently between countries and ‘issues’ on the basis of clear and objective criteria, build capacity and respond flexibly to beneficiary countries’ needs and priorities as expressed by them (Hurley, 2012).