Taking the Leap: the Cutting-Edge Development Banks Aligning their Activities with the SDGs

Operating in more than 150 countries with some $23 trillion in assets and providing more than 10% of the world’s annual financing, public development banks carry enormous financial heft. Yet recent studies show they have underutilized capital that could translate into far greater environmental, political and social impact. 

“Public banks offer our best fighting chance at financing the changes needed to confront the global climate crisis, and to do so justly,” writes Thomas Marois, politics professor at McMaster University and author of Public Banks, Decarbonisation, Definancialisation and Democratisation. “Public banks already punch well above their weight in climate finance commitments. [They] provide nearly equal amounts of climate financing as all private banks – despite private banks having fourfold the total assets of public banks.”

Untapped financing potential

International Development Finance Club members – some of the world’s leading PDBs –provide more than $800 billion in annual investment, of which an average of 20% is dedicated to green financing. But “they have the potential to mobilize significantly higher amounts,” according to an IDFC review of SDG alignment published last week. 

“Some PDBs have made progress,” says Maria Alejandra Riaño, Associate Researcher at IDDRI and FiCS Advisor. “But real alignment unfortunately is still lacking.” Whether on a strategic, operational or partnership level, “very few banks align on all three levels at same time,” she says, “which is what would make a bank truly aligned with the SDGs and the 2030 Agenda.”

Further reading: Are AFD's actions aligned with the Paris Climate Agreement? 

Trailblazers

Some PDBs however, are making significant progress. 

German development bank KfW has devised a mapping system that uses more than 1500 sets of data to examine the expected effects of its annual financing commitments on the SDGs. 

It also uses a Development Effectiveness Rating (DER) system to determine whether and to what extent its projects promote local development and contribute to the SDGs. It uses five categories to assess clients’ contributions to sustainable development, asking whether companies provide decent jobs; employ locally to pay “local incomes”; contribute to the country’s market and sector development;  engage in environmental stewardship; and contribute to communities. 

Applying similar criteria, the Central American Bank for Economic Integration uses the CABEI Development Impact Index to evaluate each project from preparation, through self-evaluation to progress evaluation and ex-post evaluation to verify the results obtained. 

Research and early preparation 

Engaged banks are researching their investments earlier in the process to better assess their impact on communities and the environment. 

The Trade & Development Bank in Africa for example, developed the Environmental and Social Management System (ESMS) to not only monitor operations already underway, but also to evaluate the environmental and social performance and ramifications of potential investments before they're made. 

Its 2021 ESMS report features questions linked to each theme, such as “What happens in the case of incidents or emergencies?” And, “what procedures are in place to provide adequate labor and working conditions, to ensure the protection of the workforce against forced labor and child labor?” By asking such questions before projects are well underway, banks can try to avert damage or harm. 

Obstacles and Opportunities

So why are not more development banks aligning their activities with sustainable development? Some experts point to a lack of consistent information from the field, costs related to data collection and lack of follow up capacity. Risks also accrue from tying one’s investment to higher social, environmental and developmental standards. 

Brazilian bank BDMG uses risk assessment to identify sectors it excludes from financing activities, such as certain mining activities and high-emissions transportation. 

Mexico’s Nacional Financiera (NAFIN) has provided financing in the wind energy market using partnerships and loan syndication – i.e. loans provided by a group of lenders when a loan is too large or considered too risky for one bank. 

“NAFIN also uses recoverable grants to help projects find the balance between achieving bankability and ensuring sustainability,” says Riaño. “And it provides support in the early stages of project preparation, which not many banks do. It is one of the few to take the risk to use contingent grants to support SDG-aligned projects, particularly in the energy sector.”

Further reading: Sustainable Development Analysis in the service of the SDGs

In matters of alignment, AFD Group is something of a pioneer. It launched the sustainable development analysis and advice platform in 2014, and uses six criteria – biodiversity, climate (mitigation / adaptation), social wellbeing, gender, the economy and governance – to assess how its projects incorporate these themes and the related SDGs. 

Between 2018 and 2022, some 200 projects were evaluated each year, representing 80% of the total volume of financing approvals. Of the projects assessed, 57% received a favorable opinion; 40% received a favorable opinion with recommendations; and 3% received a “reserved” or negative opinion. 

Now, AFD is using increasingly detailed data to better map its contributions to the SDGs and be more accountable for the results of its funded projects. 

“Banks are finding entry points to align themselves with the 2030 Agenda and the Paris Agreement, both on a strategic level – revising strategies, human resources and internal incentives, and on an operational level: revising projects, processes and products,” says Maria Alejandra Riaño. “Some are using tools to figure out how to move from there to a more comprehensive alignment of the entire bank.” 

Scaling up alignment and standardizing practices  

However robust individual banks’ analytical tools may be, each institution tends to have its own way of measuring alignment. This lack of standardization makes comparison difficult among the vast field of more than 500 development banks and financial institutions. 

“If you look at different trends in world finance, you see that PDBs are increasingly concerned about sustainability, but we lack a common taxonomy with regard to investments related to sustainable development,” says AFD researcher Jean-Baptiste Jacouton. 

“We can say climate finance is increasing but if we don’t share the same standards, can we really say something definitive about our progress?  There’s a need for shared standards, common methodologies, to say with certainty that finance for climate and sustainability is increasing.”

To help forge a standardized approach, the IDFC commissioned the 2022 study, “PDBs’ Catalytic Role in Achieving the UN SDGs.” It sets out 15 “SDG integration trackers” that support banks in their efforts to catalyze alignment with the SDGs at both bank and activity levels, and calls on both public and private banks to harmonize principles and practices. 

Recommendations include identifying areas where the gap between a given SDG and actual developmental needs is particularly wide, using a taxonomy to rate SDG contribution potential for each activity, and using this potential to exclude some investments and act as an incentive for others. 

“The IDFC has been actively working on a framework for the alignment of Public Development Banks with the SDGs,” says Riaño. “Now, the PDB community at large should follow its lead.”