Authors: Andreas Beavor, Urban Emerge; Laura Jungman, Urban Emerge (Affiliated); Federica Chiappe, Urban Emerge (Affiliated); Samia Khan, Urban Emerge; John Michael LaSalle, Climate Policy Initiative
Cities with fewer than 1 million inhabitants accounted for 58% of the urban population in low- and middle-income countries (LMICs) in 2020 (OECD & UN Habitat, 2022). Furthermore, estimates show that small and intermediary cities will account for much of the future urban growth in the coming decades1. There is an urgent need to implement low-carbon development and facilitate adaptation to climate change impacts across a wide range of sectors, such as energy, transport, the built environment, urban ecosystem services, and water management in small and intermediary cities. However, often there are capacity and resource limitations in smaller municipal governments, and such cities struggle to compete with larger cities in similar contexts to access project preparation assistance and project financing for climate action. It is also important to highlight that fewer than 20% of the 500 largest cities in LMICs, and hardly any of the smaller cities, are considered creditworthy by international or national ratings, restricting their access to commercial finance.
Therefore, this guide focuses on the role of Project Preparation Facilities (PPFs)
in helping municipal governments and other public sector entities in small and intermediary cities unlock greater access to finance for climate infrastructure projects. PPFs active in the urban climate finance space are well positioned to help these cities prepare sustainable projects and access finance – whether private or public, domestic or international. To do so, PPFs often need to tailor their support to best target the needs of small and intermediary cities. This guide divides both barriers and recommendations into three themes, which capture the most severe barriers to financing infrastructure projects: i) Addressing Municipal capacity and skills gaps and access to PPF support; ii) Addressing city and project size constraints; and iii) Addressing poor municipal creditworthiness, summarized below. PPFs can support each other in implementing strategies to support small and intermediary cities through knowledge sharing and collaboration.
Figure 1: Themes and recommendations to support bankable projects in small and intermediary cities
THEME 1: ADDRESSING GAPS IN MUNICIPAL CAPACITY, SKILLS, AND ACCESS TO PPF SUPPORT
The first theme addresses limited human resources and budget for training and
skill development of typically small and intermediary city governments in LMICs. Municipalities often need a higher capacity to define and prioritize projects that can maximize climate impact within a specific context. They also experience a severe lack of access to support from PPFs. Strategies to overcome these barriers include, 1) creating PPF calls for proposals specifically for small and intermediary cities, 2) providing early-stage support to define and prioritize high-impact and feasible climate action projects, and 3) using existing contextual knowledge that was previously acquired by the PPF to provide support to other cities in the same country.
THEME 2: ADDRESSING CITY AND PROJECT SIZE CONSTRAINTS
The smaller size and the limited scalability options of green infrastructure projects in small and intermediary cities often present a challenge for financing, particularly where transaction costs for each project tend to be high. There is also typically a need for coordination within and between cities to identify synergies and priority actions that can be jointly financed. To overcome this, PPFs can focus on 1) designing aggregation models that provide more viable financing opportunities for projects in small and intermediary cities and 2) facilitate partnerships and identify synergies between municipalities, municipal companies, and/or other entities.
THEME 3: ADDRESSING POOR CREDITWORTHINESS
Poor creditworthiness of a small or intermediary city severely restricts access to finance options for municipal governments and public entities by preventing borrowing on commercial terms. Poor creditworthiness of a municipality is usually consistent with poor public financial management processes and a very limited municipal ability to raise its own source revenue (OSR), from taxes and other sources.
PPFs are well positioned to support smaller cities by 1) designing blended finance and risk mitigation tools for specific projects, 2) supporting the design of PPP projects that do not require municipal borrowing, and 3) helping cities to borrow from national or regional development banks. PPFs can also explore land value capture as a mechanism for cities to fund infrastructure projects and focus on designing and implementing community-based finance (CBF) instruments.