Bridging the Gap: Climate Finance and the Challenges of a Global Energy Transition

Introduction

Two of the most frequently invoked terms in today’s global climate discourse—"climate finance" and "global energy transition"—remain conceptually underdeveloped and poorly harmonized. This article explores the gaps in the understanding of these two concepts and the consequences of these gaps. It also attempts to unfold the linkages between the two and suggest the way forward on climate finance. Currently, there is no consensus over what climate finance constitutes, leading to a lack of trust among developed and developing country parties and varying estimates of existing climate finance flows. Further, while the countries are striving to usher in a global energy transition in line with the Paris Agreement’s temperature goal, there is no clarity on what this transition constitutes. Past decisions guide that such a transition be informed by different national circumstances and approaches. Moreover, for this transition to be just and equitable, climate finance must be delivered to developing countries at the required scale, scope, and quality. This paper establishes that, the latest New Collective Quantified Goal (NCQG) decision represents a missed opportunity on both fronts — quantity and quality of funds. To amend this, parties need to arrive at a common definition of climate finance, and developed countries must commit to providing affordable funds at the required scale to developing countries. These will be the preconditions for transitions in developing countries at required pace.

Gaps in understanding of what climate finance means and constitutes

Despite its centrality to multilateral negotiations, climate finance lacks a universally accepted definition. The United Nations Framework Convention on Climate Change (UNFCCC)  climate finance as local, national or transnational financing—drawn from public, private, and alternative sources of financing—that seeks to support mitigation and adaptation actions that will address climate change. However, this is not an agreed-upon definition. The developing countries, particularly from the Global South, interpret climate finance primarily as concessional flows from developed countries, honoring historical responsibility under the UNFCCC and its Paris Agreement. These countries emphasize the need for grants and low-cost financing, particularly for adaptation efforts that do not yield adequate commercial returns. They also argue about what should not be considered a part of climate finance – loans at market rate and non-climate specific flows. Their ask is to create a suitable definition of climate finance incorporating these elements.

Conversely, developed countries advocate for either no single definition or a broader definition which includes private sector participation and expect emerging economies to contribute. They emphasize enabling policy environments in developing countries to attract global capital flows. This discord between the parties and lack of a common definition have led to varying accounting methodologies, inflating perceived support, and masking the gap in actual delivery.

Estimates from the Standing Committee on Finance suggest that while average global climate finance flows in 2021-22 reached USD 1.3 trillion, most of this comprised "North-North" flows. Climate-specific flows to developing countries averaged just USD 58.3 billion per year. Oxfam’s grant-equivalent approach (grant equivalent represents the true value of the loans once repayments and interest are deducted) pegged actual support between USD 28 billion and USD 35 billion in 2022. Oxfam computes grant equivalent values of funds from developed to developing countries while considering the climate specificity of funds. It has to be noted that these numbers are far below the USD 100 billion annual target committed by developed countries back in 2010. Further, these figures illustrate wide divergences in various climate finance estimates. This divergence then breeds mistrust among parties and has been a hurdle to negotiations for many years now.

While the analysis above highlights the significant divergence in the understanding of climate finance, it is clear that the actual flows to developing countries, regardless of the estimate used, remain minuscule compared to their needs. To meet their Nationally Determined Contributions (NDCs), developing countries will require between USD 5 trillion and USD 6.9 trillion by 2030 (or more than USD 1 trillion per year). Over 60% of this requirement is concentrated in the energy sector. Given the limited financial flows to date, this substantial shortfall poses a major barrier to achieving these targets. It hampers the ability of developing countries to pursue energy transitions aligned with their national priorities and development contexts. 

Global energy transition: a slow-moving imperative

The term “global energy transition” also remains poorly understood. The term is not explicitly defined under the UNFCCC framework, but its dimensions are shaped by various decisions adopted within the regime. Conceptually, Smil (2017) defines it as a structural change in the composition of the global primary energy supply. Interestingly, the ongoing transition is not the first one. As Smil (2017) details, historical transitions, from wood to coal, then oil and gas, have unfolded over centuries.[i]

However, the current transition is fundamentally different from the previous transitions, as it has at its heart the objective of keeping the global surface temperature below the internationally agreed threshold (Article 2.1.a of the Paris Agreement). This is a major complexity associated with the current transition. The earlier transitions were driven primarily by the economic objectives of individual agents and countries. However, tracking the temperature goal requires integrating externalities associated with energy systems, thereby complicating the decision-making and requiring global cooperation. 

Further, this transition must happen at an unprecedented pace. This can be discerned from the target of tripling renewable energy capacity and a doubling of energy efficiency improvement by 2030 (Global Stock Take decision, COP29). However, the current pace is not in line with this target, and the reliance on fossil fuels remains deeply embedded: fossil fuels still account for over 80% of global primary energy use in 2023 (Smil, 2017).[i]

Smil (2016) explores reasons for this slow pace. He argues that the durability of fossil infrastructure in the context of the existing system—spanning pipelines, power plants, and transportation networks—is the largest anthropogenic construct ever created and cannot be rapidly dismantled or replaced.[ii] Also, the replacement of fossil fuels – variable renewables like solar and wind are inherently intermittent, requiring backup from dispatchable sources such as hydro, nuclear, or fossil fuels. The IEA’s Integrating Solar and Wind report makes clear that achieving high penetration of these technologies demands grid modernization, storage deployment, and regional balancing, none of which negate the need for other generation types. 

Given the inertia of the existing systems and limitations of renewable resources, it can well be argued that the world will require a diversified mix of energy sources and no single source may dominate the future supplies again. A crude but interesting indicator to gauge the diversity is the Herfindahl-Hirsschman Index (HHI). The index is computed using the share of various sources in the overall primary energy generation. All major sources have been considered to compute the index. Figure 1 shows that the HHI has been declining over time, reflecting a movement towards a more diversified global energy mix.  

Figure 1: Herfindahl-Hirschman Index representing a diversifying energy mix over time

Data source: Our World in Data

Also, the current transition must take into consideration equity and national circumstances (Article 2.2 of the Paris Agreement). Developing countries will have different transition stories compared to those of developed countries, as the latter are richer and have better access to resources, finance, and technology. Developing countries will require access to adequate and affordable financial support from developed countries to achieve their ambitious climate commitments within the required timeframes.

As discussed previously, developing countries require trillions of dollars to meet their Nationally Determined Contributions (NDCs), with the bulk of this need concentrated in the energy sector. According to the International Energy Agency (IEA (2024)), global clean energy investment stood at USD 1.8 trillion in 2023. However, more than 80% of current investments are concentrated in a limited group of advanced and emerging economies, highlighting a significant geographic imbalance which undermines the prospects for a just and inclusive energy transition across the globe. 

An opportunity missed: the case of New Collective Quantified Goal (NCQG)

The NCQG decision, as adopted during COP29 in 2024, could have been an inflection point shifting the trajectory of climate finance towards the scale and predictability commensurate with the requirements of developing countries. It could have specified the target of public fund flow from developed to developing countries. While providing direct support, a part of the public funds could have been used to catalyze private finance flows into developing country clean energy sectors. However, the NCQG decision by COP29 failed on both fronts – quantum and quality. 

World leaders at COP29

Source: Wikimedia Commons

The decision set a target of at least USD 300 billion per year by 2035 to support climate action in developing countries – vastly insufficient to meet the needs of the latter. For instance, major developing country groupings (Like Minded Developing Countries and African Group of Negotiators) demanded a quantum of at least USD 1.3 trillion per year. Moreover, the decision lacks clarity on the nature of the funds, leaving open the possibility of relying heavily on loan-based instruments. It also fails to establish mechanisms for addressing shortfalls—there is no provision to carry forward unmet targets to subsequent years. As with the previous USD 100 billion goal, this opens the door for developed countries to claim compliance close to the target year. Additionally, in the absence of a common definition of climate finance, disputes are likely to persist over what constitutes genuine financial support, leading to competing claims and continued ambiguity in tracking progress.

The relevance of policy support especially in the initial stages of technology development can be understood using the case of Carbon Capture and Storage (CCS) deployment. As discussed earlier, fossil fuels remain the dominant source of energy today and will remain critical for energy security over the long term as well. In this context, CCS will be important in ensuring lower net emissions from their usage allowing countries to fulfil their climate commitments. 

Case study: the role of policy support in the promotion of Carbon Capture and Storage (CCS) 

One example showing the importance of financial support is the deployment of CCS technologies, which will be an important part of the ongoing global energy transition. The CCS is strongly influenced by two factors: the availability of concentrated point sources of CO₂ and robust policy support. According to the Global CCS Institute’s 2024 Status Report, while CCS project development has increased globally, the United States stands out as the clear leader in terms of both operational projects and pipeline capacity. A major reason is the comprehensive support provided under the U.S. Internal Revenue Code Section 45Q.

Under 45Q, eligible projects receive a tax credit of USD 85 per tonne of CO₂ captured from point sources and stored geologically. Even more generous, the credit increases to USD 180 per tonne for CO₂ captured directly from the air via direct air capture (DAC) and permanently stored (Global CCS Institute, 2024). These incentives have catalyzed an unprecedented expansion of both CCS and DAC hubs.

However, this policy-induced locational bias raises questions about equitable deployment. Many developing countries host industrial clusters and power plants that emit concentrated CO₂, often in proximity to viable geological storage basins. With the right policy instruments and concessional finance, CCS projects could be deployed in these regions offering climate mitigation, local job creation, and capacity-building opportunities.

The fact that such high-value incentives are overwhelmingly tied to U.S. jurisdiction reflects a broader issue in global climate finance: the concentration of policy tools and capital in the Global North. A more equitable international effort would involve adapting similar fiscal mechanisms to enable CCS deployment in developing countries. This would enhance the global distribution of climate technologies and better align with the principles of fairness embedded in the Paris Agreement.

Conclusion

In sum, a just global energy transition calls for recognizing national context and current levels of development across countries. It will also require providing access to an adequate and affordable level of climate finance to developing countries. Given the massive requirement of financial resources, funds at such a scale and terms will be important for fiscally sustainable transitions in developing countries. Financial innovations like blended finance and sovereign guarantees can help crowd in private investment. Yet without a public finance backbone and clarity on obligations, such instruments cannot scale. 

The missed opportunity of the NCQG should serve as a wake-up call. Future climate finance architecture must be rooted in accountability, equity, and ambition. This cannot be accomplished without arriving at a common definition of climate finance rooted in the principles of the UNFCCC and its Paris Agreement and building trust among the parties.  Only then can we bridge the divide between global climate commitments and national realities, ensuring a transition that is not only green but also just.

References

[i]  Smil, V. (2017). Energy Transitions: Global and National Perspectives. 2nd ed.

[ii] Smil, V. (2016). Energy and Civilization: A History. Cambridge: MIT Press.

The views expressed in this article are those of the author and do not represent those of any previous or current employers, the editorial body of SIPR, the Freeman Spogli Institute, or Stanford University.