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Balancing act: can the World Bank tackle the climate crisis and poverty reduction?

Published 12 October 2023 in Finance • 6 min read

To achieve this delicate equilibrium, the bank should be implementing governance reforms, carefully managing the transition to cleaner energy sources, and adopting a market-driven approach to financing and investment.

The recent G20 summit witnessed Ajay Banga, the newly appointed President of the World Bank by US President Joe Biden, expressing the institution’s commitment to “stretch every dollar” and optimize resources for combating climate change and pandemics while staying true to its traditional goal of poverty alleviation.

“We cannot endure another period of emission-intensive growth,” Banga said. “We must find a way to finance a different world, one where climate [is] resilient, pandemics are manageable, food is abundant, and poverty is defeated.”

This speech highlights how multinational development banks are grappling with increased scrutiny over their approach to addressing the global climate crisis while adhering to their core mission. The World Bank, in particular, has been under pressure to reconsider its project financing and to adopt a more climate-friendly stance.

For instance, the bank’s former President David Malpass recently stepped down from his position almost a year ahead of schedule, following pressure stemming from his reluctance to affirm whether human activity was responsible for climate change (subsequently, he clarified that his statements had been misconstrued).

Funding the climate transition: a monumental task  

Expanding the World Bank’s development mission to include climate change is crucial, yet balancing traditional poverty alleviation efforts with climate action is a formidable challenge.Finance is at the heart of the problem, with UN-commissioned research suggesting that a staggering $125 trillion in climate investments will be required by 2050 to achieve the emission reductions necessary to meet the objectives of the Paris Agreement.

The World Bank is funded from several sources, including contributions made by its member countries (especially the richer nations), based on their economic size and capacity.While the primary mission of the World Bank is to accelerate sustainable development and inclusive economic growth, it also works with the private sector to leverage additional resources and expertise to tackle development challenges.

However, this approach may not adequately incentivize genuine innovation in sustainability. Some of the world’s largest private investors collaborating with the World Bank, such as sovereign wealth funds, prioritize achieving the highest possible long-term financial returns for their citizens.

Sustainability objectives are often introduced as secondary goals, pursued after financial gains have been achieved. This prioritization of financial returns over social impact can hinder innovation in sustainability, undermining the World Bank’s efforts in this area.

To address these challenges, there is a need for financing and investment models that benefit all stakeholders, which are currently scarce. The key lies in acknowledging that sustainability doesn’t always lead to increased financial returns; there is a significant trade-off involved. Investors must acknowledge and accept this trade-off.

world bankWhile the primary mission of the World Bank is to accelerate sustainable development and inclusive economic growth, it also works with the private sector to leverage additional resources and expertise to tackle development challenges

These models would also need to effectively address a spectrum of issues, spanning from climate change and inequality to pandemics and fragility, all while upholding the World Bank’s triple-A credit rating, denoting the highest creditworthiness. This credit rating enables the bank to access capital at favorable terms, ensuring it can finance its projects and programs efficiently.

Multilateral complexities: a changing geopolitical landscape  

There are other challenges too.The time of strong multilateralism that is primarily associated with the post-World War II era has waned,particularly following the COVID-19 pandemic. Countries like China are emphasizing their geopolitical interests, while the US seeks to exert greater influence.

This changing landscape has led to countries using funds unilaterally, potentially weakening international institutions like the World Bank and even leading to competition between them and other major players, including China’s Belt and Road Initiative, which makes colossal infrastructure investments.

Other complexities arise as developing nations are wary of shifting the World Bank’s focus entirely from poverty reduction to climate change. They fear that other essential priorities, such as healthcare and education, might be sacrificed in this shift, potentially leaving the poorest populations with fewer resources.

It is true that decarbonization can significantly impact economies heavily reliant on fossil fuels, potentially causing economic disruption in the developing world, particularly when these industries are major sources of employment and government revenue.

Moreover, in numerous developing countries, a significant segment of the population lacks access to reliable and affordable energy sources. Decarbonization may inadvertently lead to heightened energy costs for these vulnerable populations, exacerbating poverty and social inequality.

Therefore, it is essential not to abruptly end the World Bank’s funding, guarantees, and policy support for fossil fuels, as some have called for. A managed energy transition that considers social and economic impacts is crucial.

To ensure an equitable transition and provide financial assistance to poorer nations grappling with climate change, a market-driven approach is favored. International organizations sometimes distort market dynamics.

Hence, the International Finance Corporation (IFC), an arm of the World Bank, plays a valuable role in facilitating, advising, and promoting private-sector solutions for developing countries. Consequently, the private sector should be the primary financing system due to its efficiency.

Governance reform: adapting to a changing world

To unlock additional resources for addressing 21st-century challenges, such as climate change, pandemic control, and crisis prevention, the current governance framework must adapt to the evolving global economy as well.The World Bank operates like a cooperative, with countries’ voting power determined by the size of their economies.

developped countryThe predominance of certain countries in terms of financial contributions raises concerns that the World Bank might prioritize their political objectives

The US holds the biggest stake, with Japan, Germany, the UK, and France following closely behind in terms of shareholding. As a result, they hold significant influence within the institution. Reforms to the governance structure to better reflect the changing global economic landscape and provide more representation or voting power to emerging economies, including India, Brazil, and Saudi Arabia, should be considered.

A potential model for the governance system could resemble that of the G20, a forum dedicated to discussing economic issues. In the G20, leadership rotates on an annual basis among its members, and decisions are made through consensus.

Lastly, the World Bank’s support for developing nations could be improved through a new system to examine the business and investment climate of individual countries. The bank’s previous effort, the Doing Business project, was disbanded in 2021. While valuable, the project encountered criticism for being self-serving and susceptible to corruption.

One potential solution is to separate the World Bank’s advisory and financial roles to prevent conflicts of interest and political influence, with stricter enforcement rules to deter corruption. The predominance of certain countries in terms of financial contributions raises concerns that the World Bank might prioritize their political objectives. Another issue is the possibility of aid and financing falling into the hands of corrupt politicians. So, a stronger division, akin to “Chinese walls”, is necessary.

Ultimately, the World Bank finds itself at the crossroads of addressing poverty reduction and climate change simultaneously. Achieving this equilibrium is challenging, given the inherent complexities. Reforms to the governance structure, a managed energy transition, and a market-driven approach are essential components of a sustainable strategy. 

Authors

Arturo Bris - IMD Professor

Arturo Bris

Professor of Finance at IMD

Arturo Bris is Professor of Finance at IMD. Since January 2014, he has led the world-renowned IMD World Competitiveness Center. At IMD, Bris directs the Strategic Finance and Navigating Fintech Innovation and Disruption programs. He also previously directed the flagship Advanced Strategic Management program between 2009 and 2013.

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