The cost of capital is a climate issue: Four lessons for COP31 

This post was co-authored by Andrew Howell, CFA and Zach Cohen 

As climate leaders gather in Antalya for COP31 this week, finance is again central to the agenda, for good reason. The challenge is increasingly one of implementation: how do we translate climate targets into real projects that address environmental harms? Whether we are talking about clean energy, lower-carbon fuels or resilient infrastructure, all these projects need financing. 

But the climate finance conversation often starts in the wrong place. It asks how much additional capital is needed before asking why commercially promising investments, especially in emerging economies, struggle to attract capital in the first place. 

One important answer is that the cost of capital remains too high in many parts of the world. A project that is competitive when financed at rates available in a wealthy country can become uneconomic when financing costs rise sharply simply because it is located in a developing country. 

Over the past year, Environmental Defense Fund has supported research by the Columbia Center on Sustainable Investment (CCSI) into two parts of this problem: sovereign risk ceilings, which can constrain the credit ratings of otherwise strong projects in emerging economies, and guarantees, one of the principal tools used by governments and development finance institutions to reduce risk for private investors. As participants  unpack their bags and begin talks in Antalya, both facets of this work deserve consideration. 

1. Sovereign risk is real, but it should not substitute for project-level analysis 

Credit-rating agencies have good reason to consider sovereign risk. Currency crises, capital controls, regulatory intervention and sovereign defaults can all affect private borrowers. 

But a problem arises when the sovereign becomes too strong an analytical anchor. CCSI’s research argues that conventional approaches to sovereign risk can compress meaningful differences among borrowers by assuming that sovereign stress transmits relatively uniformly across domestic entities. Instead, sovereign risk should be broken into the specific channels through which stress could reach a company or project. 

Consider a clean energy infrastructure project whose revenues and debt are both in local currency, with long-term financing and a durable contractual revenue stream. Currency mismatch may be minimal. Transfer and convertibility risk may be limited if debt service stays within the country. Refinancing risk may be reduced by matched tenor. Regulatory and counterparty risks remain, but these can be assessed directly. Under current approaches, such a project would be out of reach for most investors. 

At an EDF-hosted discussion during New York Climate Week in September, CCSI’s Igor Zelezetskii highlighted historical evidence showing that defaults rise during sovereign crises, but by very different amounts across sectors. That raises an important question: should borrowers with very different exposure to sovereign stress face similar rating constraints? As matters stand today, they often do. That should change. 

2. We need guarantees in the right places 

Guarantees are an important tool for reducing financing costs. A highly rated multilateral development bank or other institution can assume specified risks, improve the credit quality of a transaction and make it accessible to investors that otherwise could not participate. 

But CCSI’s companion research points to a mismatch: guarantees can be easiest to deploy where they are needed least. They tend to work most readily in relatively predictable, hard-currency and shorter-tenor transactions. Yet some of the biggest financing barriers arise with long-lived infrastructure, local-currency financing and projects exposed to policy or regulatory uncertainty. 

Instead of asking simply, “How can we issue more guarantees?”, we should ask: which risk is preventing this investment, who is best placed to bear it, and what is the smallest amount of public risk-bearing needed to change the outcome? 

Guarantees consume public balance-sheet capacity and add cost and complexity. If a fundamentally strong project needs an expensive guarantee simply because its underlying creditworthiness is not being fully recognized, the guarantee may solve one transaction without fixing the underlying problem. Public risk-bearing should focus on risks the private market genuinely cannot efficiently absorb. 

3. Cost of capital cuts across the climate agenda 

The implications of these findings are not simply theoretical. High capital costs touch nearly every aspect of the energy transition alongside adaptation needs, and addressing them could unlock action where it is needed. A few examples: 

Methane: Investments in oil and gas methane capture, equipment replacement and emissions-control infrastructure can deliver large environmental benefits while conserving valuable natural gas. But they still compete for capital, particularly at smaller operators, national oil companies and infrastructure providers. 

Sustainable agriculture: Farm and supply-chain investments often combine high upfront costs with fragmented borrowers and uncertain revenue streams. Aggregation, concessional capital or targeted guarantees can help finance manure management, resource efficiency and lower-emissions production. 

Climate resilience: Resilience is particularly difficult to finance because much of its value appears as a loss that never occurs. Stronger buildings, flood protection and water infrastructure can reduce future damages and insurance losses, but those benefits do not always create a conventional revenue stream. Better recognition of avoided losses and value created from investing in adaptation and resilience projects could materially improve project economics. 

Across these sectors, the question is the same: what is preventing a worthwhile investment from going forward, and who is best equipped to manage that risk? 

4. Move from individual transactions to a better financing system 

This work suggests a few important priorities for climate finance. First, improve credit-risk differentiation by assessing the specific channels through which sovereign risk reaches individual projects. Second, build the evidence base by examining how companies and infrastructure projects actually performed through past sovereign crises, including which protections and risk mitigants worked. Third, deploy guarantees more strategically, particularly against local-currency, long-tenor and policy risks that genuinely prevent viable projects from attracting capital. 

And finally, address the broader system that determines the price of capital. Credit ratings, prudential regulation, investor mandates, local capital markets, currency risk and development-finance practices all interact. De-risking transactions one at a time cannot substitute for addressing structural constraints. 

The objective is not to pretend investments in emerging markets are risk-free. It is to ensure that financing reflects the risks that are actually there, recognizes risks that have genuinely been mitigated, and directs scarce public resources toward risks the private sector cannot efficiently bear. 

Delivering real action at COP31 

The high cost of capital remains a systemic, underlying barrier to climate action that no single institution can address alone. For COP31 to live up to its implementation aspirations, countries and international institutions must focus on enabling practical solutions that lower financing costs. Doing so will be essential to scaling global climate finance flows towards the target of $1.3 trillion per year by 2035, which was agreed to at COP29 in 2024. 

This direction is reinforced by a new report from the Brazil COP30 Presidency on implementing the $1.3T finance goal, which offers complementary recommendations to reduce the cost of capital. At this stage, much of the work of implementation will rely on country-led planning, but strong international cooperation is still key. Accordingly, rather than rehashing the same finance debates, COP31 should focus on how the UNFCCC can align efforts, facilitate learnings and best practices, and track progress on reforms to reduce cost of capital.  

Getting these elements right can help direct more capital toward projects that strengthen energy security, build resilience, reduce environmental harms, and improve public welfare, especially in countries where high financing costs remain a major barrier to investment.