FEATURE: Blended finance for climate and food security – The potential of the farm sector
CDKN’s Aditi Paul explores how blended finance approaches in the agriculture sector could provide small producers with the much-needed livelihood security they need, as well as climate resilience and food security.
Reducing poverty in Asia, even in countries like India, Indonesia or others with relatively high per capita income, remains a challenge. Key priority areas like food and water security, gender equality, tackling climate change, and making cities more liveable can help eradicate poverty.
The Asian Development Banks’s most current estimates suggest that Asia will need investments to the tune of $1.7 trillion per year from 2016 to 2030 to maintain its growth momentum, eradicate poverty, and respond to climate change. Investment in agricultural development that helps the poorest and tackles Sustainable Development Goal 2 on ‘Zero Hunger’ will be especially critical. While it is known that the combined efforts of governments, development banks and philanthropic institutions fall far short of the need, there is an essential and immediate necessity to mobilise private capital in agriculture and allied sectors.
Unstructured market with a high volume of dispersed producers makes agriculture a risky sector
Despite growing evidence showing significant business opportunities in the farm sector, current levels of private investment in the entire value chain are critically low. There are two reasons for this:
- private players perceive the sector to be risky and unstructured with a high volume of dispersed smallholders and small and medium-sized enterprises (SMEs) (collectively referred to as ‘small producers’ in this article) who lack financial, technological and market position; and
- because the small producers are highly fragmented, there are farm-aggregators, or ‘middle-men’, in the value chain, who add transaction costs and discourage large investors from investing in such activities as food packaging and marketing.
In short, while there are many players in the value chain of food supply, there is no access to capital for the smallholder farmers and SMEs. The lack of capital at favourable terms may result in farmers entering into heavy debt and at times resorting to drastic measures such as selling their land to survive.
Governments across the region have taken some steps to address these problems. Subsidy support, price support, crop insurance support and even loan waiver schemes are offered year after year. Such mechanisms have worked in eradicating poverty while the support lasted – signifying that the measures are unsustainable. In one recent dialogue on India’s agricultural sector, while making a case for blended finance, India’s finance minister, Mr. Arun Jaitley said “I do see a point in blending the subsidy support with the investment, to have a model which sustains indefinitely. Investments will make the farm sector and farmer self-sufficient on the ground”.
Blended approaches can extend finance to under-served smallholders and small enterprises
Blended finance is seen to have the potential and flexibility of meeting the needs of the farm sector while widening the pool of finance available. CDKN has run a range of features and articles on what blended finance means and covers (see the article by Virginie Fayolle and Serena Odianose; and working paper by Charlotte Ellis and Kamleshan Pillay). This complementary article focuses on blended finance for the farm sector only, in the context of weather and climate-related shocks.
Typical blended finance is structured around four approaches for raising private capital; i.e., grants at project design stage, technical assistance funds, guarantee/risk insurance, and concessional loans. For the farm sector, each of these has an important role to play in combination with the others, as well as each having its own objectives.
As the farm sector is known for its disorganised characteristics and a disconnect between high-level decision-making and realities on the ground, grants and technical assistance funding can support in generating the missing narratives: articulating when small producers need finance and how they need it. For instance, a small producer’s need for finance could be influenced by externalities such as lack of health services or energy facilities, which is beyond the purview of any private venture to resolve alone. With grant funding, these interdependencies can be pragmatically identified and resolved.
Similarly, guarantee/risk insurance instruments can work wonders when a producer is ready to take the capital risk but requires additional support to cover insurance. A weather index-based guarantee/ insurance fund that underwrites based on weather variability, rather than on crop damage, can offer major benefit. Index-based insurance products offer speedy pay-outs. Since losses are based on thresholds that have been reached, post-disaster economic loss assessments are not required.
Equally, the presence of concessional finance gives the private sector the assurance of having the necessary risk mitigation framework in place and provides the comfort of first-loss guarantees.
Blended facilities working solely for the farm sector: some early examples
A recent example of blended finance is the Global Agriculture and Food Security Program (GAFSP) Private Sector Window managed by the International Finance Corporation (IFC). GAFSP funding is co-invested alongside IFC’s own commercial funding, leveraging private investment of US$8 per US$1 of public investment, while investing in the entire food supply chain. To date, the fund has supported 61 agribusiness/ agro-based projects in 27 countries, deploying approximately US$332 million. In parallel, the GAFSP has also supported 67 IFC Advisory Services projects across 30 countries for an amount of over US$13 million. The fund is being supported by Australia, Canada, Japan, Netherlands, UK, and the US in form of grants and risk guarantees.
Similarly, The Agricultural Supply Chain Adaptation Facility (ASCAF) works through Multilateral Development Banks, who partner with agribusiness corporations and work through their supply chains to reach small to medium-sized farmers in Latin America and the Caribbean islands.
The Africa and Asian Resilience Disaster Insurance Scheme (ARDIS) aims to help smallholder farmers – especially women – and their families living below the poverty line, to recover after a disaster (i.e., drought) by providing access to small loans on special terms. ARDIS is co-funded by KfW’s InsuResilience Investment Fund and the UK’s Department for International Development (DfID), while the initial design-stage grants came from the Rockefeller Foundation and FMO, the Dutch development bank.
How to find the missing pieces and scale up
There is no doubt that these examples have removed otherwise overwhelming barriers, with which many financial institutions are still struggling. But they are few, and greater effort is needed to scale up. Additionally, there is scepticism around the time-bound objectives of donor agencies and development finance institutions, in contrast to the long-term need for these facilities.
Governments can play a crucial role in response to these limitations. Government and their allied agencies, such as agricultural banks, not only have knowledge and expertise of the sector but also the mandate to make the sector financially all-inclusive. However, what is striking is the missing participation of national governments among the blended finance facilities. Either there is no presence of any form of government in these initiatives or they are at the arms-length, limiting their participation to ‘papers only’.
For instance, in India, the Government of India formed the National Bank for Agriculture and Rural Development (NABARD), which provides direct loans, credit facilities, short and long-term refinancing support, development funds and many other instruments, touching millions of rural lives across the country. It has the required capacity of a development agency with an intrinsic understanding of farm and off-farm sectors, as well climate knowledge. However, the Bank’s role in the landscape of blended finance in India’s farm sector is yet to be explored.
Banks such as NABARD in developing countries with a growing farm sector can actually help realise financial inclusion of poorest of the poor, create pipelines of bankable projects, lower the high transaction costs to reach remote rural populations, help design appropriate blended instruments through true utilisation of their institution – in terms of knowledge, expertise as well as field networks. Thus, an enhanced role for institutions such as these within blended climate finance for agricultural development is essential.
Another set of missing actors are technology companies and vendors, such as drip-irrigation equipment providers, or solar pump manufacturers, etc. Presence of technology companies and distributors can help create secondary markets of farm equipment, giving direct access to state-of-the-art technologies to the producers and mechanising the farms while conserving natural resources.
Other than this, knowledge management and the creation of Communities of Practice, informing and sharing real-time learning between existing and upcoming blended facilities is of equal importance. South-South exchange among Latin, Africa and Asia regions can help support global development by sharing first-hand experiences, innovations and perspectives. Currently, blended finance is more active in African farm sector servicing short, medium and long-term loans, leasing and providing insurance coverage. Other countries and regions could learn well from this experience.