Pineapple farming MSME, Indonesia/Shutterstock
2020-05-18

Mainstreaming Inclusive Green Finance policies for MSMEs

By Sulita Levaux, Working Group Policy Analyst & Nik Kamarun, Policy Manager, SME Finance, AFI

Making up 90 percent of businesses and more than 50 percent of employment in developing economies, micro, small and medium enterprises (MSMEs) can become active players in climate change strategy, adaptation and mitigation by adopting measures that adjust to its effects and help limit the magnitude and extent of damage.

AFI member institutions have been making strides by addressing these challenges head on. Inclusive Green Finance (IGF), which aims to advance financial inclusion among the most vulnerable by building resilience and enabling mitigation to climate change, has quickly gained momentum across the network. 

While MSMEs are often most exposed to the negative impacts of climate change, they also contribute to the problem if using practices that are harmful to the environment. Recognizing the urgent need for climate action for MSMEs, the IGF subgroup within AFI’s SME Finance Working Group (SMEFWG) recently published a survey report that takes stock of policies that AFI members have enacted for MSMEs in the context of climate change. 

The survey found that financial regulators and policymakers are beginning to link MSME financial inclusion and climate change in their national financial inclusion strategies (NFIS). Among notable examples are Central Bank of Jordan’s NFIS Microfinance Action Plan and the Reserve Bank of Fiji’s NFIS Plan, both of which explicitly include MSMEs in their respective sections on green financial services and products.

Additionally, Eswatini’s Ministry of Finance has prioritized financial services for climate-smart technologies to build resilience in agricultural supply chains, a point underscored by AFI experts during discussions on the role of financial systems and responses to the climate emergency at the Eswatini SME Finance Forum 2019.

IGF policies for MSMEs

At the center of the SMEF-IGF survey report is a set of concrete policies from the 4Ps framework that are viewed through an MSME lens:

  • Provision policies help governments ensure that financial services are offered to qualified beneficiaries. They can target MSMEs by supporting mandated lending or specific disbursement of funds that are delivered directly or indirectly to MSMEs through financial institutions (e.g. refinancing facilities, refinancing adaptation and reconstruction of MSMEs). While switching to renewable energy or alternative machinery could have positive long-term environmental impacts, many MSMEs suffer from limited access to credit. This is where financial regulators and policymakers have stepped in with green and affordable options such as green lending quotas by Nepal Rastra Bank and refinancing green lending by Bangladesh Bank. These initiatives enable MSMEs to offer sustainable energy to customers (e.g. providing access to mini-grids or pay-as-you-go solar power) or reduce energy consumption by turning to renewable sources (e.g. biomass energy).
  • Promotion policies and initiatives allow governments to create incentives for the private sector to offer financial services to qualified beneficiaries. Incentives for MSMEs may be non-financial or relate to specific events and often include capacity building, knowledge sharing and other forms of cooperation (e.g. innovation investment funds). As an example of capacity building initiative, Bank Al-Maghrib collaborated with AFI on its first IGF member training, which was aimed at providing skills to identify nationally relevant IGF policies and link them with existing financial inclusion strategies, including MSMEs.
  • Protection policies reduce financial risks by compensating for losses and sharing risks for investments in resilience building (also known as “socializing”) through insurance or social payments, or by giving exceptional access to an individual's assets. While damage to machinery and business disruptions are becoming commonplace, these policies enable the adoption of adaptative measures for MSMEs, either as long-term measures following an extreme event or in preparation for adverse weather impacts. Such policies include credit guarantees or risk sharing, climate risk insurance and disaster contingency mechanisms. 
  • Prevention policies aim to avoid undesirable outcomes rather than address them after the fact. In the case of MSMEs, they address the internalization and management of long- and short-term socio-environmental risks to or by MSMEs through risk reduction measures encouraged by policymakers, regulators or the private sector. This is most commonly seen in environmental and social risk management guidelines. Recognizing the importance of collecting IGF data, AFI’s Financial Inclusion Data Working Group created a IGF subgroup to boost data collection on the impact of climate change on individuals and MSMEs starting with efforts to develop IGF questions for demand-side surveys.

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While most developing countries are in the early stages of assessing and identifying interventions in inclusive green finance for MSMEs, there is avid interest among regulators in creating capacity and knowledge to develop data collection and incorporate environmental assessments in their financial risk management strategies. These approaches will lead to better adaptation and mitigation policies, some of which have already been identified by applying an MSME lens to the 4P framework.

AFIs Inclusive Green Finance (IGF) workstream is part of the International Climate Initiative (IKI)  supported by the German Federal Ministry for the Environment, Nature Conservation and Nuclear Safety (BMU), based on a decision of the German Bundestag.