Blended finance and ODA: the best use of a limited resource?

It was clear at the 2021 Organisation for Economic Cooperation and Development (OECD) ‘Blended Finance and Impact’ event that there remains a great deal of energy and enthusiasm around leveraged or catalytic forms of finance, such as blended finance. But while blended finance has the potential to help get development finance back on track with progress towards Agenda 2030 it also poses a challenge. Although this form of finance may help to bring in more private finance, it requires official development assistance (also known as ODA) and effort to make it work.

ODA is a unique resource targeted at ending poverty and supporting sustainable development for those being left behind. We all know there are significant challenges at the moment – ODA is shrinking as donors cut aid in response to the economic effects of the pandemic, while aid is being called on for ever-growing needs.

ODA to blended finance and private sector instruments has increased nearly 50%, from US$2.7 billion in 2018 to US$3.4 billion in 2019. And, given the clear emphasis on this modality from donors and other official actors, the volume is likely to continue to increase. But – with no indication that overall ODA will rise – increasing ODA to blended finance will result in less ODA to spend on supporting vaccine roll out, on strengthening healthcare systems and institutions, and on human capital and humanitarian interventions, to name just a few other critical needs. So is blended finance the best use of this limited resource? And can it deliver on our shared development objectives?

What’s the latest data on who benefits from blended finance?

The latest data analysis suggests that for blended finance the same challenges remain today as before the pandemic. A 2019 report co-authored by the UN Capital Development Fund and the OECD shows that least developed countries (LDCs) still receive proportionally less blended finance, and certain sectors vital to poverty reduction (including health, education, agriculture and water and sanitation) are proportionally less targeted by blended finance. This data shows that there is a real trade off. Spending on blending is not targeted where poverty is deepest and so must often come at the expense of something else. The question of best use, is thus a critical one.

Despite blended finance allocations broadly not targeting LDCs, one positive trend seen in a subset of the latest data is the relatively high proportion of private finance mobilised by bilateral donors that goes to countries facing high levels of extreme poverty. On average, countries where over 20% of the population lives in extreme poverty received US$1.54 per person in 2018 in finance mobilised by bilateral donors, exceeding the other poverty bands analysed (Figure 1).

Figure 1: Private finance (US$ per person) mobilised by bilateral donors across poverty bands (share of population living in extreme poverty), 2016–2018

A line chart showing that in 2019, bilateral donors mobilised more finance per person in countries with the highest rates of poverty – US$1.54 per person in countries where over 20% of the population live in extreme poverty.

Much better data and transparency are needed to understand the impact and challenges of blended finance

However, this analysis reveals only part of the blended finance picture, since multilateral investment data is not currently available at the country level. In 2018, multilateral donors mobilised four times as much investment from the private sector than bilateral donors (US$42.4 billion and US$10.6 billion respectively). Disaggregated multilateral data is needed to understand better the potential impact of these significant blended finance investments.

Development Initiatives’ (DI’s) analysis of near real-time data from the International Aid Transparency Initiative shows that since the onset of the Covid-19 pandemic there has been a clear shift in the donor landscape. Total bilateral aid is currently flatlining, while ODA flowing through international financial institutions has substantially increased. But despite increased expenditure, without disaggregated multilateral data we lack transparency about spending and impacts of blended finance and other catalytic forms of finance to ensure we are making the best use of limited resources.

What next for blended finance?

A range of stakeholders at the OECD discussions emphasised that to entice private finance, a larger pot of ODA (or other concessional financing) will be needed. For example, Larry Fink, CEO of Black Rock, noted in discussions at the conference that he wouldn’t invest in developing countries without a good return unless there was significant first loss guaranteed by the public sector. The discussions covered a range of serious and continued challenges facing blended finance:

• lack of bankable projects;
• lack of investors interested in lower returns;
• lack of investors focusing on ‘sustainable impact’;
• impact and success being highly reliant on being able to work with financial intermediaries;
• the problems of supporting smaller ticket sized small and medium-sized enterprises.

While discussions at the OECD event did highlight impact as a key question, there was less pronounced focus on the critical questions of impact on poverty and supporting those people who are being left further behind. Addressing that gap means deeper consideration (both before and after making an investment) of the pathways to impact and ensuring that, especially when ODA is involved, pathways that can positively contribute to the acceleration of progress for the poorest people are prioritised.

It’s clear that the conclusions of DI’s discussion paper remain true: unless the evidence gap on impact is addressed, it is impossible to know if we are making best (or even good) use of limited ODA resources. And that risks undermining the achievement of the SDGs.

Practically, it means we need to shift the way decisions are made in development finance institutions and beyond, and focus on frameworks that condition them to answer the key questions: who will benefit, how and when? While in line with key dimensions of impact highlighted by existing impact fora and systems (such as the Impact Management Project, IRIS+, UNDP’s SDG Impact Framework, and US DFC’s Impact Quotient) these questions also focus on the intended and unintended impact on the poorest and most marginalised people.

Answering these questions will enable more inclusive and better poverty-focused ex-ante and ex-post impact considerations, by placing the focus on the people most at risk of being left behind.

So urgent questions remain as the calls on scarce public resources continue to grow. There must be wider transparency and accountability for all actors in blended finance. And they must be able to answer these critical questions: Who will benefit? What is the intended impact on access, inclusiveness and affordability? And over what timeframe will such impacts be achieved?