New trade deals could boost climate finance for developing nations, but capital costs must be lowered to mobilise private capital flows.
Closer cooperation among so-called ‘middle power’ countries is set to reshape established trade routes, bringing greater economic opportunities for emerging markets. This geopolitical repositioning is boosting both GDP growth and energy demand in many developing nations. But experts remain doubtful whether it can also unlock private capital to fund these countries’ energy transitions.
London-based think tank the Energy Transitions Commission (ETC) estimates that, to reach net zero by or soon after 2050, approximately US$900 billion per year must be directed to clean energy investment in middle- and low-income countries by 2030. “At present, investment remains heavily concentrated in mature economies, particularly China and Europe, as investors continue to face policy uncertainty, currency risk, and weak project pipelines across many emerging markets,” says ETC Director Ita Kettleborough.
Could the creation of new trading blocks, such as the EU and Mercosur or the EU and India, then give a boost to the energy transition in emerging markets now that US economic policies are repealing clean energy incentives and imposing tariffs on most nations?
“The new free trade agreements are a lifeline for climate finance in emerging markets,” says David Carlin, Founder of consultancy D A Carlin and former head of climate risk at the UN Environment Programme Finance Initiative. “What they do is open up the opportunity for these markets to bring in established technologies and begin scaling its deployment more rapidly than we’ve seen.”
At present, governments and development banks remain the largest source of international climate finance, with private capital only representing a tiny amount.
Carlin argues the flows of goods and capital may help contribute to the accelerated maturation of green finance in those countries that are seeing trade barriers come down.
Cost of capital
Europe’s Mercosur and India trade agreements both have dedicated trade and sustainable development chapters, which include provisions related to renewable energy and climate change. “The impact of these provisions is yet to fully materialise but we are optimistic about its potential,” says Roland Janssens, Managing Director at investment firm Ninety One.
The EU-India trade deal contains technology and capital exchange provisions and commits €500 million to support India’s green transition, promoting cooperation in solar, hydrogen, and smart grids.
But Janssens also argues that, despite support or financial aid, trade agreements are not the “end-all solution” for high costs of capital. To advance energy transition financing, he says developing countries need to develop their own domestic capital markets to attract local institutional investors and create standardised power purchase agreements that have transparent bidding processes.
Emerging markets and developing economies (EMDEs) often face borrowing costs three to five times higher than advanced economies, according to Columbia University’s Center on Sustainable Development. Christina Ng, Managing Director at think tank the Energy Shift Institute, says that while free trade agreements can support the energy transition, they are unlikely to be a driver.
The cost of capital in emerging markets is unlikely to change materially as trade architecture does not automatically change fundamentals, she says, adding that the more likely impact is industrial rather than financial. For instance, in the case of the EU and India, the trade deal could reduce clean tech input costs, strengthen supply chain resilience and improve geopolitical alignment.
While this improves project economics – and even investor comfort – it does not improve domestic power sector reform or payment discipline, which are structural drivers of financing risk. As such, trade agreements are helpful at the margin rather than transformative.
Another issue pointed out by Ng is whether geopolitical repositioning can translate into a durable policy architecture that institutional investors can underwrite over a 20-to-30-year horizon.
“Capital only moves when there are bankable pipelines and credible frameworks. If it [the repositioning of middle powers] remains largely diplomatic signalling, I expect its impact on energy transition capital flows will be limited.”
For closer cooperation to have real financial consequences it needs to lead to shared standards, more coordinated grid investment, or clearer and interoperable taxonomies, she says. This can then reduce regulatory fragmentation and makes cross-border investment easier.
Taxonomies and energy demand
Energy supply chains have seen a renewed focus since the invasion of Ukraine and the rise of AI is expected to further increase energy demand.
These dynamics add further complexity to the question of how emerging economies intend to balance their energy needs and climate goals, while trying to attract foreign investment to increase their energy production.
“In the West, we massively underestimate where energy demand is coming from,” claims Carlin. “We look at data centres, but the overwhelming majority of energy demand increase is coming from developing nations as they industrialise,” he says.
The greenhouse gas (GHG) emissions that come with increased energy generation means than a delayed EMDE transition could pose a significant risk to global financial stability, according to a recent paper commissioned by the UK’s Department for Energy Security and Net Zero (DESNZ).
“GHG emissions from EMDEs are now a pivotal factor in the global carbon budget and, with over 50% of emissions forecast to be emitted by EMDEs other than China by 2030, raise the risk of breaching critical climate thresholds outlined in the Paris Agreement,” it said.
Ng from the Energy Shift Institute notes that, in the case of Asian emerging economies, governments must tackle rising electricity demand, economic development and decarbonisation commitments simultaneously. With energy security top of the agenda, governments are reluctant to move away too quickly from dispatchable fossil fuel generation.
Indeed, environmental groups have been sounding the alarm about a rise in coal projects in countries such as India, Indonesia and the Philippines, which they say could threaten the energy transition.
Carlin acknowledges energy needs precede climate goals and says the challenge for governments and financial institutions is to provide necessary power today while avoiding fossil fuel lock-in.
This is where green taxonomies should come in handy, but their effectiveness has been questioned.
“A lot of jurisdictions are developing taxonomies but only a few are applying them so far – and they are largely voluntary,” says Paul Schreiber, Senior Policy Advisor at non-profit Reclaim Finance. He also criticises many taxonomies, such as those adopted in the European Union and the Association of Southeast Asian Nations, for including some fossil fuel activities as “transitional”.
“So far, it is hard to see any impact on financial flows. Even if taxonomies were robust and science-based – and this is not a given today – they would not trigger a change on their own,” he says. To have real impact, taxonomies need to be paired with mandatory transition plans for financial institutions, exclusion of fossil fuel development from all funds making sustainability claims and minimum expectations on financing taxonomy aligned activities, he adds.
Ng agrees that, if taxonomies are loosely defined or lack time-bound emission trajectories, capital can continue flowing to fossil-linked assets under a ‘transition’ label. “Ultimately, taxonomies do not automatically redirect capital,” she says, but they influence how risk is interpreted, which in turn shapes capital allocation strategies.
Investor appetite
A major hurdle for developing countries is that, while many renewable energy technologies are commercially proven, the markets in which they are needed are still perceived as risky by most investors, says Jarredine Morris, Co-head of Africa at Carbon Trust, a climate consultancy.
In addition to high costs of capital and unfavourable risk ratings, access to finance is often hindered by a lack of skills, capacity and experience in developing applications that comply with the requirements of many funders, both public and private.
To increase investors’ visibility and understanding of emerging markets, project preparation support should be strengthened and combined with data collection on the ground, so that projects can be proven to perform, says Toby Kwan, Senior Manager, Sustainable Finance at the Carbon Trust.
“Instead of looking to and relying on concessional and blended finance — although they do play a critical role — the priority should be to reduce uncertainty, improve comparability, and showcase successful models that will build trust and catalyse private capital at scale,” Kwan adds.
Others also warn the urgency of the climate crisis does not give emerging markets the luxury of time to experiment with new, unproven financial structures. Instead, predictability can overcome long-standing risk perceptions in emerging markets. “Ultimately, the key to closing the infrastructure funding gap in emerging markets lies in scaling up proven, repeatable financial models rather than constantly seeking novel solutions,” says Ninety One’s Janssens.
Across the board, investors always prefer bankable solutions that have a track record of success. Funders and project developers must collaborate on refining and scaling existing models that have already proven they can mitigate risk and attract private debt, Janssens says. Trying to create new complex solutions usually scares off private investors who are already wary of emerging markets, he adds.
Capital will scale quickly when there is coherence between transition ambition, incentivised energy policies and financial frameworks, says Ng. While blended finance can absorb early-stage risks, it cannot fix weak power utility balance sheets, unclear tariff regimes or policy reversals, she says, adding that institutional investors deploy capital at scale when they see predictable cash flows over 15 to 30 years.
FOMO on EMDE opportunities?
Despite the need to accelerate the transition, implementation by investors seems to be stalling. According to the 2025 Global State of Investor Climate Action report, which assesses how over 220 institutional investors are responding to climate change, 70% of investors have made climate solutions investments but only 30% have committed to increasing such investments. Canadian and US pension schemes have been called out for insufficient allocations to climate solutions.
When it comes to the flow of climate capital to emerging markets, the investor landscape is looking quite dry. In a recent report, the EMDEs Investor Taskforce stated that private market exposure of UK asset owners to EMDEs “remains minimal or non-existent within the overall portfolio” and is not forecast to change materially in the short-term without significant investment environment changes. On the public market side, investors were maintaining allocations of approximately 5-10% to EMDE equities and debt as part of globally diversified strategies.
The report suggests there is appetite for higher levels of EMDE investment, but there is a risk that investors in developed countries will miss out on opportunities if they do overcome persist barriers.
The DESNZ paper says the mobilisation of private capital for EMDE energy and climate transitions is being “hampered by persistent market factors and structural constraints”, Currency volatility, debt sustainability, EMDE governance, credit rating conservatism, and prudential rules are cited as sustaining a cost-of-capital gap that deters private investment.
“Credible transition pathways, investable pipelines, supportive policy environments and de-risking approaches are the levers to boost investment in the real economy,” the paper notes.
Paddy McCully, Senior Energy Transition Analyst at Reclaim Finance, looks at China as the main provider for clean energy infrastructure in EMDEs. Domestic overcapacity is leading China to increasingly export cheap solar panels and batteries to EMDEs to sell to households and small businesses. “Almost all clean energy sales and investments in manufacturing in EMDEs will come from China, with Brazil and Indonesia raking up demand for EVs and solar panels,” he says.
