The 3 key challenges to financing the climate transition — and what to do about them

Despite ambitious commitments, the global financial system has fallen short of providing the estimated $125 trillion needed to finance the climate transition to net zero by 2050.

Breakthrough technologies like hydrogen and biofuels remain severely underfunded. Their high costs and associated risks significantly deter the mobilization of capital at the scale and speed needed — but their commercialization is crucial for the post-2030 emissions abatement.

Transition climate finance will play a crucial role in facilitating the climate transition to net zero carbon emissions by 2050, offering a range of financial instruments and institutional arrangements to support economic activities and enterprises in high carbon-emitting sectors. By allocating financial resources, mitigating transition risks and pricing associated costs, climate transition finance enables organized transformations within industries and regions.

To outline which key dimensions affect the mobilization of transition climate finance, the World Economic Forum has partnered with the International Institute of Green Finance (IIGF) of the Central University of Finance and Economics in China to publish the Transition Finance Transformation Map.

The Transition Finance Transformation Map aims to serve as an informative tool for policy-makers, investors and financiers as well as corporations, to better understand the engagement in the mobilization of capital necessary to turn ambitious climate goals into tangible outcomes. It provides a detailed overview of the numerous financial instruments, reporting and planning mechanisms, and policy programmes needed to scale climate transition finance, and it also explains ways to ensure a just and inclusive net zero transition.

While the Transformation Map outlines 9 key dimensions, three challenges in particular represent key focus areas that industries, policymakers and financiers must address collaboratively to finance a net zero future.

Green premiums denote the additional costs associated with green technologies and products compared to fossil-fuel-based alternatives. In today’s economy, investing in breakthrough decarbonization technologies such as hydrogen, Sustainable Aviation Fuels (SAF) and carbon capture, utilization and storage (CCUS) is more expensive than in high-emitting solutions. But there are ways to address this market failure.

Innovative transition finance mechanisms.

Multilateral Development Banks (MDBs) and public finance can help de-risk net zero opportunities. The Forum published four financing blueprints that demonstrate how to blend public and private capital most effectively to enhance the bankability of decarbonization projects. Projects such as H2 Green Steel demonstrate how powerful collaboration across public and private financiers can be to transform decarbonization technologies into bankable opportunities.

Demand commitments.

Buyers’ commitments allow for the creation of new markets for decarbonization. For example, the First Movers Coalition enabled the creation of a $16 billion market in commitments for zero-carbon products and technologies.

Robust and credible offtake agreements.

For hydrogen and SAF projects banks require the offtake agreement to cover the majority – 75-80% minimum, in certain cases even more – of the production capacity, with sufficient revenue to support the existing costs for the duration of the financing tenure. Offtake agreements therefore determine the commercial viability of the decarbonization project.

The massive mobilization of climate finance capital — $125 trillion — cannot be reached without an environment for investments that allows projects to be financed quickly and at scale. Analysis underscores the importance of strategic policy action. Governments that have adopted programmes including tax incentives and the provision of public funds to de-risk net zero solutions have witnessed an uptake in transition finance. Through supportive policy frameworks, clear long-term commitments to green transition, risk mitigation measures and enabling active involvement of private market participants, governments can play a key role in driving the climate transition toward a sustainable economy.

Examples include the EU’s Fit for 55 climate package, the REPowerEU plan and InvestEU programme which accelerate lending and blending of capital towards energy projects. The US’ Inflation Reduction Act (IRA) allocates $370 billion over a period of 10 years to support clean energy and climate initiatives through a combination of grants, loans, rebates, incentives and other investments. Among developing countries, Brazil announced this January its new industrial policy, committing BRL 300 billion in public finance to support industrial modernization.

Another way for governments to encourage private capital mobilization is through the establishment of taxonomies. Taxonomies function as a classification system to indicate which economic activities support the transition to a low-carbon economy.

To align definitions globally, G20's Sustainable Finance Working Group is focused on promoting the cross-comparison of taxonomies and the establishment of a consensus on transition finance standards.

The EU’s taxonomy was launched in 2020 and amended in 2023. It defines technical screening criteria for economic activities to ensure alignment with net zero goals and to avoid greenwashing. In Asia, the ASEAN Taxonomy Board was established to create a science-based and inclusive classification system for activities in the region. Singapore also released its own taxonomy, and with the release of the updated Green and Low-Carbon Transition Industry Guidance Catalogue, China has incorporated transition elements into green taxonomy for the first time in 2024.

Transition pathways aim to provide a reliable direction for industry transformation, thereby delivering information to market participants regarding the net zero journey’s objectives and milestones and enabling faster deployment of transition finance.

The Carbon Neutral Vision and Low-Carbon Technology Roadmap for the Steel Industry released by the China Iron and Steel Association delineates the technological transition pathways for the steel sector to meet dual-carbon goals.

In 2023, IIGF and CBI jointly released the Guidelines for Financial Application in the Transformation of the Steel Industry. These guidelines detail the historical development, market situation and precise objectives of transitioning to low-carbon practices in the steel sector. They offer actionable recommendations for steel companies and financial entities to cooperate in employing financial mechanisms for transformation, with the goal of enhancing communication and assistance between the steel industry and financial markets.

On the industrial side, the Mission Possible Partnership has defined the net zero journeys for seven heavy-industrial and heavy-mobility sectors: aluminium, cement and concrete, chemicals (ammonia), steel, aviation, shipping and trucking.

Financial institutions have focused on mainstreaming transition planning. Corporations that outline their transition plans and strategies enable financial institutions to understand their objectives and manage associated risks appropriately. Transition plans represent a tool that companies can use to demonstrate to capital markets and investors that their business is aligned with net zero and that their activities will contribute to that net zero future.