Innovative Financing Initiative: Scalable Business models that produce economic, social, and environmental outcomes

Innovative financing is the manifestation of two important trends in international development: an increased focus on programs that deliver results and a desire to support collaboration between the public and private sector. Innovative nancing instruments complement traditional international resource ows—such as aid, foreign direct investment, and remittances—to mobilize additional resources for development and address specific market failures and institutional barriers. Innovative financing is an essential tool as the development community strives to eliminate poverty, raise living standards, and protect the environment.

This report aims to accelerate the growth of innovative nance by creating a common language and vision for leaders in both the public and private sector to use as they explore innovative nancing opportunities. Thus far, a lack of clarity about what innovative financing is and how standards can help compare the performance of different mechanisms has inhibited broader participation in the sector and increased transaction costs associated with the creation of new products. We believe that this report can help by creating a common understanding of innovative nancing, providing an overview of the market, and identifying opportunities for public and private sector actors to make innovative financing commitments.

Innovative nance is not nancial innovation. It encompasses a broad range of nancial instruments and assets including securities and derivatives, results-based financing, and voluntary or compulsory contributions—all of which this report explores in more detail. Established financial instruments, such as guarantees and bonds, constitute nearly 65% of the innovative financing market; while new products dominate many conversations about innovative financing, most resources mobilized through innovative financing use existing products in new markets, or involve new investors. Our definition of the “innovation” aspect of innovative financing includes the introduction of new products, the extension of existing products to new markets, and the presence of new types of investors.

Within this broad definition, innovative financing has mobilized nearly $100 billion and grown by approximately 11% per year between 2001 and 2013. This growth reflects the emergence of results-based financing as an important tool for achieving development outcomes and the capability of instruments such as bonds and investment funds to provide risk-adjusted returns for private investors. Innovative financing instruments are emerging in a variety of additional development areas—a few examples include low-carbon infrastructure, mechanisms to improve access to finance, and tools to reduce the cost of life-saving commodities.

Successful innovative financing instruments address a specific market failure, catalyze political momentum to increase and coordinate the resources of multiple governments, and offer contractual certainty to investors. Often, innovative financing instruments reallocate risks from investors to institutions better positioned to bear the risk and, in the process, enable participation from mainstream investors. Instruments that have mobilized significant resources benefit from relatively simple financial structures and a proven track record that clearly describes the financial and social returns for investors.

The focus of innovative financing is shifting from the mobilization of resources through innovative fundraising approaches to the delivery of positive social and environmental outcomes through market-based instruments. We anticipate three primary drivers of growth in the innovative financing sector:

• Increased use of established financial instruments. Established instruments that investors can evaluate through existing risk frameworks, such as green bonds, will attract new participants including pension funds and institutional investors. Channeling the proceeds of these instruments to productive development goals will require new standards that specify how funds can be used most effectively.

• Expansion into new markets through growth of replicable products. Over the past ten years, the international development community has experimented with new instruments such as performance-based contracts. These instruments do not yet have the track record to attract institutional investors, but offer promising opportunities to improve development outcomes in new sectors.

• Creation of new innovative financing products. Finally, we have seen the emergence of new products that are theoretically promising, but have not yet demonstrated results. While these products will remain a small portion of the market in the short-term, we encourage donor governments and other funders to continue experimenting with these products so they can mature into the next important asset class.

This report is the cornerstone of the Innovative Financing Initiative, a coordinated effort led by public and private institutions to facilitate more efficient markets by providing performance data on past investments, catalyzing investments through engagement with new actors, and developing and promoting new products through work with leading international development organizations. Building on past efforts to describe innovative nance schemes, we identify common characteristics of different initiatives, assess the market demand for new models, and propose mechanisms that can unlock the sector’s potential. These proposed mechanisms include an innovative financing exchange to provide performance data and technical assistance, a marketing facility to expand the reach of established products, and an incubator to reduce the costs associated with creating new instruments. 

Download report here: http://www.citifoundation.com/citi/foundation/pdf/innovative_financing_…