FAQs

Sustainable finance redirects financial flows to long-term, sustainable, and equitable growth, enhancing the resilience of financial systems and ensuring financial stability by addressing key environmental, social, and governance (ESG) issues (see German Sustainable Finance Strategy). Market innovation has played a defining role in the development of sustainable finance. While innovation will continue to be vital in structuring effective financial instruments, market measures alone will not be sufficient to meet the United Nations Sustainable Development Goals (SDGs) and the climate targets set out in the Paris Agreement. Information asymmetries, unbalanced incentives, inadequate financing, stifled innovation, and financial instability are all examples of market barriers that prevent the widespread adoption of ESG-oriented investments.

Governments must intervene to create an enabling environment that sends a long-term signal to markets to attract investments that deliver not only financial, but also social and environmental returns. This can include the development of targeted financial incentives, transparent disclosure and reporting, the development of sustainable finance strategies, the adoption of taxonomies that enable interoperability and harmonisation of ESG definitions, and access to adequate finance to create policy and regulatory frameworks that align the practices of financial institutions with key sustainability goals to harness the full power of markets.

ESG stands for Environmental, Social, and Governance. It is a framework used to evaluate the sustainability of an investment or company and to identify potential risks and opportunities. The “E” refers to environmental aspects such as carbon emissions. The “S” refers to social factors such as labour practices or diversity policies. The “G” refers to governance aspects such as transparency in financial reporting or the structure of the board of directors. Various actors in the investment value chain, including investors, banks, and companies, have increasingly been including ESG information in their reporting processes. Existing ESG efforts are consistent with the Sustainable Development Goals (SDGs) but need to be leveraged further (see Invest in Sustainable Development | UN Global Compact)

Just transition is the transition to a necessary, climate-neutral economy that is fair and leaves no one behind. In a just transition, the impact is alleviated by financing the diversification and modernisation of economies and by mitigating negative repercussions on employment. This may include supporting investments in areas such as clean energy technologies and digital connectivity, research and innovation, environmental rehabilitation, upskilling and reskilling workers, and technical assistance.
Just transition is an integral part of BMZ’s approach to development. In other words, a transition can only be just if it is undertaken in an equitable way and together with developing and emerging economies (see Just Transition | BMZ). Just transition is also part of the European Green Deal, which aims to make the EU climate-neutral by 2050 (see European Green Deal).

Sustainable economic transformation refers to the sustainable restructuring of the economy and lifestyles. This includes the restructuring of the financial sector since the redirection of financial flows is vital to achieving the sustainability goals of the Paris Agreement and the 2030 Agenda.

The 2030 Agenda for Sustainable Development is a global action plan for “people, planet and prosperity” adopted by the United Nations General Assembly in 2015. It contains 17 integrated Sustainable Development Goals (SDGs) covering economic, social, and environmental dimensions of sustainable development. Its underlying principle is to “Leave No One Behind” (see Transforming our world: the 2030 Agenda for Sustainable Development | UN). The annual financing gap to reach the SDGs is immense, estimated at USD 3.9 trillion in 2021 (see Global Outlook on Financing for Sustainable Development 2023: No Sustainability Without Equity | OECD). In comparison, official development assistance (ODA) accounted for just USD 179 billion in 2021. The private financial sector is therefore crucial to closing this financing gap, with international pension funds and insurance companies managing more than USD 100 trillion in 2019 (see Mobilising investors for financing sustainable development | OECD).

The Paris Agreement is a legally binding international treaty on climate change. It was adopted by 196 Parties at the UN Climate Change Conference (COP21) in Paris, France, on 12 December 2015. Its overarching goal is to limit “the increase in the global average temperature to well below 2°C above pre-industrial levels” and to pursue efforts “to limit the temperature increase to 1.5°C above pre-industrial levels.” Finance plays an important role in the Paris Agreement. Article 2.1c states that Parties should aim to make finance flows “consistent with a pathway towards low greenhouse gas emissions and climate-resilient development”. This includes not only mitigation, but also adaptation finance. The Paris Agreement also reaffirms that developed countries should take the lead in providing financial assistance to countries that are less endowed and more vulnerable, in line with the equity principle of common but differentiated responsibilities and respective capabilities (see Paris Agreement).

According to the latest Intergovernmental Panel on Climate Change (IPCC) report, insufficient financing and a lack of political frameworks and incentives for finance are key barriers to climate action. Public and private finance flows for fossil fuels, for instance, are still greater than those for climate adaptation and mitigation. The overwhelming majority of existing climate finance is directed towards mitigation, with a much smaller share of public and private finance going towards adaptation, especially in developing countries where estimated costs of adaptation are rising ever further.
The IPCC identifies several barriers to redirecting capital within the global financial sector, including inadequate assessment of climate-related risks and investment opportunities; regional mismatch between available capital and investment needs; home bias; country indebtedness; economic vulnerability; and limited institutional capacities. Other external challenges include limited local capital markets, unattractive risk-return profiles (due to weak regulatory environments being inconsistent with ambition levels), and limited institutional capacity to ensure safeguards (see IPCC Report).

The Kunming-Montreal Global Biodiversity Framework (GBF) is a framework that was agreed to at the 2022 United Nations Biodiversity Conference (COP15). In the face of unprecedented biodiversity loss, the GBF provides a framework to achieve its overarching aim to halt and reverse nature loss by 2030, setting out an ambitious pathway to reach the global vision of a world living in harmony with nature by 2050. Simultaneously, the GBF supports the achievement of the Sustainable Development Goals (SDGs) and builds on the Convention’s previous Strategic Plans.

The alignment of financial flows with the GBF and the scaling up of biodiversity finance plays an important role in the document. Target 15 specifies that “legal, administrative or policy measures” are asked to “encourage and enable business…in particular…financial institutions” to assess and disclose biodiversity “risks, dependencies and impacts”. Target 19 states that flows should be increased by “leveraging private finance, promoting blended finance, implementing strategies for raising new and additional resources, and encouraging the private sector to invest in biodiversity, including through impact funds and other instruments” (see Kunming-Montreal Global Biodiversity Framework).

An enabling environment refers to the development of legal and regulatory frameworks that contribute to the design, financing, and implementation of sustainable projects. It refers to both removing barriers to sustainable finance and to creating conducive conditions for sustainable financial flows. Enabling environments in the context of sustainable finance may be sustainable finance strategies and roadmaps, green or sustainable taxonomies, sustainability-related disclosure and reporting requirements, standards and guidelines for green and sustainable financial products, and the inclusion of sustainability-related aspects in prudential regulation, supervision, and monetary policy (see Outcome evaluation report 2008 | UNDP).

Sustainable finance strategies and roadmaps are documents outlining the long-term strategic direction to make the overall financial system more sustainable and advancing a country’s sustainable finance agenda. They are meant to provide a strategic framework to enable or accelerate a country’s ability to deliver on its climate and sustainable development goals, while enhancing economic resilience. A roadmap can help prioritise actions and coordinate activities across different stakeholders, including financial and environmental policymakers at the national and regional level, supervisors, regulators, and private sector participants (see Toolkits for Policymakers to Green the Financial System | WBG).

Sustainable or green taxonomies provide clear definitions and classifications of sustainable economic activities. They can be used to assess whether or to what extent an economic activity is aligned with sustainability. Taxonomies typically contain a detailed list of economic sectors and activities and a corresponding set of qualitative or quantitative criteria for determining the alignment of activities with the objective(s) of the taxonomy. They support financial actors in making informed decisions, help protect against “greenwashing”, and provide a consistent starting point for standard setters and product developers (see EU Taxonomy Navigator).

Sustainability-related disclosure and reporting regulations are standards that define a supervised entity’s obligations to disclose current and forward-looking data and analysis relevant to their corporate strategy, operations, and performance on relevant climate, environmental, or social issues. Investors and lenders need adequate information on sustainability-related risks and opportunities to understand, price, and manage the risk in their portfolios and operations. Sustainability- or climate-related financial disclosure of financial institutions and corporates in the real economy is imperative to providing financial market actors with the information they need to consider sustainability-related risks and opportunities and align their capital accordingly.

The goal of these disclosure and reporting regulations is to enhance market transparency and understanding of sustainability-related risks and opportunities in order to inform investment processes and facilitate communication. This contributes to the ultimate goal of aligning financial flows with sustainable development and environmental goals (see Toolkits for Policymakers to Green the Financial System | WBG).

Sustainability, climate, or biodiversity risk management involves considering ESG, climate-, or biodiversity-related factors when identifying, assessing, and managing risks. This may take different forms. Sustainability, climate, or biodiversity risk management may be incorporated into a country’s policy and regulatory frameworks through prudential regulation, supervision, or monetary policy. It may also be incorporated into a financial institution’s own risk management, changing the long-term sustainability of an organisation or investment portfolio (see Supervisory and Regulatory Approaches to Climate-related Risks: Final report | FSB).

Green or sustainable financial products refer to any financial product whose proceeds are used for environmentally sustainable projects and initiatives, environmental products, and policies to promote a green economic transformation toward low-carbon, sustainable, and inclusive pathways (see Explore Green & Sustainable Finance | Green Finance Platform). They may take various forms, including green, social, sustainable or sustainability-linked bonds, green insurance products, and socially responsible investment funds.

Capacity development refers to a process through which people, organisations, and societies unleash, strengthen, create, adapt, and maintain capacity over time and continuously realign it with changing conditions. Support for capacity development by external partners is an important part of development cooperation because it enables people, organisations, and societies to expand their ability for proactive management (see Technical Co-operation – its role in Capacity Development | OECD).

Technical assistance refers to the task of increasing the capacities of people, organisations, and societies in partner countries. It primarily entails advisory services and, to a limited extent, the supply of material goods and the compiling of studies and reports.

Official development assistance, or ODA, is defined by the Organisation for Economic Cooperation and Development (OECD) as government aid that promotes and specifically targets the economic development and welfare of developing countries (see Official development assistance (ODA) | OECD). ODA may be used to mobilise private finance for sustainable development via official development finance interventions, mostly through direct investment in companies and special purpose vehicles (SPVs) as well as guarantees (see Private finance mobilised by official development finance interventions | OECD).