Reflections on the future of financing for development in the countries with the greatest needs

Three key takeaways from the LCD5 discussions that could inform greater progress towards the Sustainable Development Goals

With only seven years until the Sustainable Development Goals (SDGs’) 2030 target, focusing on three key areas could contribute to reshaping the remaining time and the future beyond 2030.

By now, we know that the world is not on track to meet the SDGs, due in part to the Covid-19 pandemic, climate change and conflict. We also know that around 60% of least developed and other low-income countries are in or at high risk of debt distress – a key area of concern in the current financing discourse. Nevertheless, there is still time to make more effective headway if we look at ways to improve current international cooperation.

This was made clear at the UN Conference on the Least Developed Countries (LDC5) last month. Around 5,000 participants, including 47 Heads of State/Government and 130 Ministers and Vice-Ministers, along with parliamentarians, representatives from civil society, the private sector and youth, gathered in Doha specifically to discuss what more could be done to meet the SDGs.

Development Initiatives identified three key takeaways, particularly from the sessions around financing for development, which are explored in this blog:

1) It is unclear how countries can sustain progress once they graduate from the LDC category

2) Stemming illicit financial flows could help finance the SDGs, particularly in Africa

3) There are repeated calls for a paradigm shift, despite the critical role played by ODA in the short-term.

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It is unclear how countries can sustain progress once they graduate from the LDC category

Graduation from the LDC category may not be easy^[1], but doing so can further hamper development efforts. Four countries are preparing to graduate from the LDC category in 2023–2024, while another five more countries are up for review in 2024 since they have met at least one of the three criteria for graduation. Concerns abound around the graduation indicators and how to sustain progress afterwards. Once countries graduate, they stop receiving preferential treatment in terms of debt management flexibility, official development assistance (ODA), trade preferences, technical assistance and other forms of support. But they also graduate with fundamental structural problems, vulnerability and exposure to the impacts of climate change, and inequalities. The fiscal policy space will likely be further strained by mounting debts and soaring inflation in some least developed and low-income countries where according to IMF’s 2022 report, borrowing costs could rise significantly. Shrinking fiscal space is a real danger for countries that are increasingly using – or about to move to using – non-ODA financing instruments as the primary means of financing development from external sources.

Stemming illicit financial flows could help finance the SDGs, particularly in Africa

It is generally agreed that low-income countries need fresh, non-repurposed money to finance national and transboundary priorities, and to meet the SDGs. The responsibility to mobilise resources to finance development priorities lies primarily with national governments. Notwithstanding narrow tax bases and persistent low taxation rates, efforts to raise domestic resources are frustrated by legal and illegal tax abuses. According to UNCTAD’s 2020 report, Africa (where 33 of the 46 LDCs are located) loses US$88.6 billion in annual capital flight, which could bridge half of the continent’s financing gap. In the same report, of the 19 African countries listed with relatively high estimates of capital flight (greater than 5% GDP), we note that close to three-quarters (14 countries) are LDCs. Leaks also come in legal form when multinational corporations avoid paying taxes. This is a big problem in sub-Saharan African countries – particularly in the mining sector – where some multinational companies shift profits.^[2] Political commitment is needed, particularly from the Global North, to deter illicit capital flows and to agree on a global monitoring mechanism to stop profit-shifting, tax evasion and other tax abuses.

Repeated calls for a paradigm shift

In Doha, international cooperation discussions were dominated by the repeated call for a paradigm shift to meet the SDGs and realise the New Doha Programme of Action for the Least Developed Countries for the Decade 2022-2031, while acknowledging the critical role of ODA in the short term.

ODA still has a critical role to play in the short-term as part of the package to end poverty

ODA – and grant financing in particular – has a comparative advantage in places where other sources of finance are hard to raise, and will be essential for meeting the SDGs in these countries. In practice, this means the countries of greatest poverty, especially LDCs. ODA was the largest source of external finance in 2020 in LDCs: ODA disbursements to LDCs from DAC countries and multilaterals totalled US$66 billion, compared to private flows worth US$61 billion (including foreign direct investment, portfolio investment and other types of debt). While commercial flows are similar in magnitude to ODA, in sub-Saharan Africa (home to 33 out of 46 LDCs), only a quarter of foreign direct investment (FDI) was in SDG-related sectors.

In countries where poverty is deepest and domestic resources lowest, ODA supports investments in key sectors for poverty reduction such as agriculture, education and health. Similarly, ODA has a critical role to play as a key international public resource that targets climate adaptation in countries especially vulnerable to the impacts of climate change. However, while the share of the world’s people living in extreme poverty in LDCs has risen from 35% in 2011 to 53% in 2021, and is estimated to increase to nearly 60% by 2025, bilateral ODA has moved in the other direction. As Development Initiatives’ recent report shows, the share of bilateral aid given to LDCs has fallen from 31% to 24% over the same period , showing that ODA is not responding to the shift in overall poverty.

While ODA has a critical role to play, particularly in the most challenging contexts, it is also a limited resource. The additional financing needed in low- and middle-income countries to meet the SDGs is far higher than can be achieved with ODA alone. Estimates vary, but all are in the trillions of US dollars. Bhattacharya et al. (2022) estimate that by 2030, an additional US$3.5 trillion in finance a year will be needed compared to 2019 levels. Similarly, the United Nations Conference on Trade and Development (UNCTAD) estimates that the investment gap is around US$4 trillion a year. Progress towards meeting financing needs has been thrown off track and worsened by the Covid-19 pandemic. The progress LDCs have made so far will fall short of meeting the Sustainable Development Goals by 2030 unless we act sooner and faster while embracing innovative approaches.

What the future holds: a call for paradigm shift

Many stakeholders, including governments and the civil society, are currently discussing important reform efforts to the multilateral development bank (MDB) system. These reforms would allow greater leverage of MDB balance sheets to unlock hundreds of billions of dollars of additional development finance. However, this additional finance is likely to be directed towards middle-income countries (currently, only 16% of disbursements from MDBs are to LDCs) and will be provided largely in the form of loans. Given that the majority of LDCs are currently at ‘moderate’ or higher risk of debt distress, there are question marks over the extent to which they can significantly scale up even concessional borrowing. For these countries, using loans as an instrument to respond to crises – whether climate change or pandemics – is fiscally unsustainable.

It is essential that there is a mechanism that no longer sees international finance as a last resort that quickly disappears until the next crisis hits; or, in terms of development aid, a mechanism that merely addresses the effects of under-development rather than its underlying causes. As Jean Victor Geneus, Haiti’s Minister of Foreign Affairs, put it: fragile and vulnerable countries need “more investment rather than more humanitarian aid”. LDCs should not be expected to meet the many, increasingly global challenges on their own. Transboundary issues such as climate change adaptation and pandemic preparedness require significant investment that go beyond what ODA can (or should) deliver on.

To meet these challenges, a more sophisticated, multi-faceted approach is needed; guided by principles that are universally agreed. The call for a paradigm shift is timely: we need to reimagine the current fiscal cooperation architecture and wider global development cooperation to effectively address fundamental structural constraints and common global challenges. This means having meaningful discussions that consider a global – and preferably statutory – mechanism where all governments contribute to a fund according to their means, benefit according to their needs, and decide equally.^[3]

Echoing the call from Doha, if we are serious about scaling up financing in LDCs beyond the critical short-term value of ODA , we need to move beyond the narrow donor-recipient relationship to a true partnership framework that will restructure global rules based on equity, solidarity and justice.