Port de Pointe-Noire in the Republic of the Congo (Brazzaville), supported by a €328m blended finance package. (Photo: Congo Terminal Pointe-Noire)

Efforts to engage the private sector need to pay close attention to accepted development effectiveness principles.

It’s widely recognized that traditional development aid isn’t going to provide the money needed to meet the Sustainable Development Goals (SDGs). The UN estimates that there is currently an annual funding gap of $2.5 trillion (yes, with a “t”) on fulfilling that global development agenda by the target year of 2030. And aid donor governments are not in the mood for huge increases in their development assistance budgets.

The current narrative on Financing for Development identifies the private sector as one key source of the needed additional funds. Aid donors are increasingly hoping to mobilize private sector resources and expertise for development by using aid funds to “leverage” private finance, by “blending” the two together. The aid component can help overcome private companies’ risk aversion to investing in the Global South.

Proponents characterize blending as a “win-win-win” proposition, since most developing country governments eagerly seek private investment—both domestic and foreign—to create jobs and grow their economies and donors would conceivably get more for their money. Blending could fund projects where private sector engagement can make a difference for poor people, such as investments in generic medicines. And, in the best-case scenario, companies will pay taxes, offering governments additional development resources.

Unfortunately, the picture is not altogether rosy when it comes to blended development finance. First of all, we have very imperfect knowledge about how much aid is going into blending ventures. Research by Oxfam and Eurodad suggests that the figure is pretty low—maybe 1 percent of aid worldwide. But the available data are incomplete. In any event, enthusiastic donor rhetoric may lead to dramatic increases soon enough.

Evidence on the development impact of blended finance is likewise scarce. Oxfam and Eurodad found that blending projects often don’t jibe with development effectiveness principles, and aren’t aimed at cutting poverty, advancing women’s rights, or sustainable natural resource management. On the positive side, some donors’ blending facilities, such as one arm of the Dutch Good Growth Fund, target resources to small and medium-sized enterprises in developing countries—a good model. But this same Fund has two other funding “windows” that only provide finance to Dutch firms, which aligns with another primary risk of blending: that donors will use it mainly to help their own companies.

Blending also involves what economists call “opportunity costs.” Without increases in aid budgets, if the volume of blending goes up, that means less aid available for health, education, supporting small farmers, and other poverty-fighting programs. Research has shown that these kinds of public investments are essential to create the enabling environment necessary for private investment.

Probably the biggest unanswered question is this: do private companies really need subsidies from development aid? The European Union says that in 2015, its blending facility for Latin America leveraged an average of €36 in private funds for every euro of aid provided. But that suggests that a lot of the private investment would most likely have happened without the public funds.

In order to make sure that blending contributes to sustainable development, donors need to ensure that four things happen.

First, they should only provide public funds in support of private investment if the venture conforms with the principles of development effectiveness, particularly country ownership, transparency, and accountability.

Second, donors need to make sure that blending goes to where it helps eradicate poverty and adheres to other essential elements of sustainable development like protecting the environment and promoting gender equality.

Third, blending projects must include strong monitoring and evaluation systems and should only involve companies that respect human rights.

Finally, blending should emphasize support of domestic industry in developing countries, particularly micro-, small, and medium-sized enterprises.

There’s no doubt that the private sector can do a lot to get us to the SDGs on time. But as with all development projects we need to make sure we don’t lose sight of helping the poor in the process.