Crowdfunding channeled through Microfinance gives urban and rural poor access to renewable energy to transform lives.
An estimated 1.5 billion urban and rural poor (sometimes referred to as the base of the pyramid) have no access to modern energy. Tested RE (renewable energy) solutions are available. Their life-cycle costs are lower than diesel generated electricity, the typical solution for the off-grid and for back-up where the grid is unreliable. One serious barrier is lack of access to affordable financing by the poor to pay for the higher upfront costs of RE investments. This proposal aims to overcome this barrier by boosting crowdfunding for climate change (CF4CC) and channeling it through micro-finance institutions (MFIs) or similar intermediaries to the urban and rural poor for RE investments, such as solar home systems, energy efficient products, or mini-grids serving communities and small towns.
Concrete actions include:
- Enhance Credibility of Crowdfunding for Climate Change by establishing a Portal which provides an independent overview of the different crowd funding platforms (CFPs) and their different products, with a standardized reporting format for better comparability among CFPs.
- Reduce the risk that CFPs face when they enter new RE markets through creating a first-loss guarantee facility that would initially be funded from grants and later from a surcharge.
- Mainstream CF4CC beyond the circle of the ‘socially motivated ’ to a much larger group of financially more conservative small funders by offering them CF4CC products with competitive interest rates.
Expected benefits include increased flows of crowdfunds for RE investments, leading to improved access to energy by the urban and rural poor while at the same time reducing greenhouse gas emissions. It is also one step towards a greater vision of a new bottom up climate finance stream from the Crowd to the Base (of the Pyramid) to complement the (still necessary) official from the top to the top climate finance.
Last not least: crowdfunding is a personal and fun way to support people!
Category of the action
Decarbonizing energy supply
What actions do you propose?
Brief Introduction to Crowdfunding. Before going into the details of the proposed actions, here a quick intro how crowdfunding works.
Crowdfunding describes the process of several individuals pooling their financial resources to support efforts, projects or campaigns initiated by other people, typically via an internet-based online platform, also known as crowdfunding platform.
Crowdfunding exists for a variety of funding modalities including donations, in-kind rewards, lending, and equity investments. The link between the individual crowd-funder and the recipient can be direct as Person-to-Person (P2P) or in-direct, e.g. through an investment fund. The motivation of the funders can range from pure philanthropic to pure financial, with the majority finding themselves in the middle expecting a ‘dual return’, i.e. some combination of a social and financial benefits. Contributions of individual funders are typically too small to finance the entire project; hence a need to pool resources of several individuals, i.e. the ‘crowd’.
We are looking here only at the segment of crowdfunding which is directed towards international development, with a focus on microfinance for poverty reduction. The perhaps best known crowdfunding platform in this field is KIVA.org which started operations in 2005.
A typical example could look like as follows: Juan in Colombia seeks a credit of US$ 385 to invest in a bicycle with a cart to sell his products. He is confident that he will be better off owning such bike, even considering the cost of the credit, than continue renting it. His local Microfinance Institution (MFI), which is an official KIVA field partner, posts his request on the KIVA website. Five individuals in four countries read the post, like it and transfer via paypal small loan amounts ranging from US$ 25 to $100 to Kiva, always at a 0% interest rate. Once $385 have been reached, Kiva transfers the loan to the MFI, which disburses the credit to Juan and also collects his repayments, which are passed through KIVA back to the original lenders. Juan pays the usual interest to his MFI. KIVA.org does not charge any commission, i.e. 100 percent of the microcredit goes to Juan. Kiva finances itself through voluntary donations of about 15 percent which the micro-lenders can add on top of their microloan.
The local micro-finance institution plays a crucial role in this mechanism, as it is at the front inter-acting directly with the micro-borrower, assessing the credit-worthiness of the person and the merits of the proposed investment, and ensuring a proper fund flow and repayment. The quality of the MIF is ultimately responsible for keeping default rates low, as the micro-lender has typically no way to enforce his claim cross-border. Transaction costs for this due diligence are high, justifying higher interests than are being charged in regular commercial banks for larger size credits, but still substantially lower than those charged be informal lenders. Recent innovations like mobile banking will bring costs down. CALA, an initiative to scale up microfinance in Tanzania, plans to use M-PESA, a mobile fone money transfer organization to serve rural areas more cost-effectively.www.calasocialcapital.com
KIVA is transparent about the fact that the transaction may not be strictly person-to-person, but that the MFI might have already disbursed the microloan to Juan in the above example – in other words, that it uses KIVA as a source of re-financing its portfolio at a zero interest rate.
This way, KIVA has already channeled over US$ 400 million in loans from about 900,000 micro-lenders mostly in OECD countries through about 190 affiliated microfinance institutions to over 1 million micro-borrowers in developing countries. The individual micro-lender, and not KIVA, carries the loan risk, which is moderate with an overall repayment rate of over 99%.
By not paying any interest to the micro-lender, Kiva is not subject to SEC regulations. This is different for some of the other crowdfunding platforms which do offer products that pay an interest to the crowd-lender or investor. For instance, Microplace.com is a SEC registered broker-dealer in impact investment which offers an interest of 1-2 percent per annum on bonds dedicated to microfinance investments and issued by established companies such as Calvert or FINCA.
Cross-border transactions are being facilitated by online mechanism such as pay-pal which give easy access to micro-lenders as well as MFIs in different countries.
What motivated this proposal to the MIT Co-lab is the fact, that with few exceptions, crowdfunding platforms have so far paid only little attention to climate change issues in developing countries. There are, for instance, no search categories such as renewable or clean energy, low-carbon development or climate resilience oriented business, that would help potential lenders to find this type of micro-loans. (This does not mean that under the established categories, such as service, retail, manufacturing, agriculture, MFIs did not support climate relevant and friendly activities, but the crowdfunding platforms did not market them as such.
But some recent developments and innovations are promising and point to the potentially much larger role for crowdfunding in supporting climate actions at the base of the pyramid:
- Kiva has introduced a ‘Green Category’ under which some energy efficiency and renewable energy projects (e.g. biodigesters) are listed.
- New crowdfunding platforms are emerging which are explicitly focused on clean energy. Sunfunder, for instance, is a commercial crowdfunding platform with the purpose of connecting individual crowd investors with solar businesses that are working on the ground in developing countries to bring solar energy solutions to the BoP. (Sunfunder) Investors do not earn interest, but instead get ‘impact points’ which they can reinvest but not withdraw in cash.
- Larger amounts are being lent to non-MFIs, including private companies. For example, Martin, fundraised successfully through KIVA.org for a loan of US$ 49,525 for working capital to finance a stock of solar lighting kits to have them available during the short period after the harvest, when farmers have disposable income to pay for them.
This proposal to the MIT Co-Lab aims to help scaling up massively this type of positive developments to a level commensurate with the enormous challenge and opportunity of access to clean and affordable energy by the urban and rural poor.
The specific Actions of this Proposal are:
Action 1: Crowdfunding for Climate Change Portal. Establish a CF4CC Portal that would provide an independent overview of the different CF platforms and their products, using a standardized reporting format for better comparability among CFPs. For example, it would report on the financial return to the crowdfunder (grant, interest-free loan, fixed or variable interest, or equity share), the performance risk (default rate, allocation to crowdfunder of all/partial/no risk), transaction costs (charged by CFP, the MFI, financial agent like pay pal), the climate relevance of its portfolio (sector, gender, average size investments, climate relevance). Furthermore, it would provide a feedback and user rating facility to quickly surface performance or other issues with a specific CFP. After some initial testing, this may lead towards an independent rating scheme to guide investors with regard to the growing number of development oriented CFPs.
The Portal could build on existing reports, such as the Crowdfunding Industry Report by Crowdsourcing LLC (last out in 2012) which provides an industry wide overview, but would go beyond them by: a) focusing in depth on one sub-set of crowdfunding (CF4CC), and b) introducing a rating instrument.
Action 2: Risk-reduction Facility for CF4CC. CFPs will be more willing to expand into the renewable energy and climate field at the Base of the Pyramid, if the risk of engaging with new partners (MFIs or climate-related businesses such as solar companies) is reduced through a ‘first loss insurance’ or similar instrument for the first loan or investment with a new partner. After that, CFPs are in a better position to judge the partner risk themselves. The facility would cover only part of the loss to prevent irresponsible risk taking by the CFP or MFI.
Initially, such guarantee fund or insurance would need to be grant-funded and offered at a very modest price. Once pilot tested, this price would be raised to cover costs. CFP may pass on this cost to the borrowers who benefit from the cheap loans they get through the CFP.
Action 3: Mainstreaming CF4CC. In order to expand the circle of crowdfunders beyond the ‘social investor’ to include people with stronger financial return and security expectations, one option is to mainstream CF4CC into regular banking business and to offer CFP products with competitive returns.
Select financial institutions would want to attract new clients by offering them a ‘green account’ or a credit card which are set up to invest, on a regular basis, the idle balance on an account or a certain percentage into a CFP. The CFP would pass on these funds to micro-finance institutions for RE investments on behalf of, and as instructed by the crowd-funder. The Bank could offer a competitive interest rate (right now even a rate as low as 2% could be competitive) and a guarantee for the crowdfunder’s CF4CC investment. The interest and the premium for the guarantee (between 1 to 2% of the loan amount) could be funded through a share of the MFI margin (which typically is 15% or higher) in exchange for assuming the full credit risk.
Investments in Micro-finance are nothing new: there is a whole range of bonds and similar investment instruments specialized on micro-finance and annually assessed in MicroRate’s Annual Report. Crowdfunding would popularize the access to these funds, reduce the threshold for minimum investments, and thereby reach a wider audience of micro investors or lenders.
The flow of funds could be as follows:
- Micro-lender instructs her/his Bank to establish a ‘Green Account’ with the instruction to skim every amount exceeding $500 on her checking account and $5000 on her savings account, and to invest it into an interest paying crowdfunding platform with the special request to give priority to micro investments in renewable energy. The fund would have a large enough size and would be liquid enough (most of the micro-loans have a maturity of 1 to 2 years only), so that the Micro-lender could draw from his Green Account any time (not unsimilar to the flexibility of homequity lines of credit). Micro-lender would be advised to limit their overall exposure to crowdfunding/micro-finance and to make sure they have adequate reserves for emergencies, savings, and pensions.
- From the crowdfunding platform funds would flow to eligible MFIs to finance and re-finance their clean energy portfolio, respecting specific instructions by the Micro-lender (e.g. preferences as for the country, gender, type of project), Alternatively, funds could flow to private RE businesses involved in retailing or wholesaling RE products, as well as village communities engaged in collective energy access solutions such as mini-grids fed by RE or district heating plants. Those investments could also have a longer maturity to make the repayment affordable. Due diligence would be the responsibility of the CFP or the bond issuing entity.
- Interest payments would be split between the MFI (11%p.a. or more), the bank of the Micro-lender (0.5% p.a), the guarantee fund (1.5%), and the Micro-lender (2%). The exact interest rates would be subject to a detailed market and feasibility study.
- In case of a default by the borrower, the guarantee fund would immediately cover the loss of the Micro-lender, while trying to recuperate repayment from the borrower jointly with the MFI.
Who will take these actions?
The Portal would be hosted by an independent institution with a strong record in tracking financial flows and institutions, experience in climate finance, and familiarity with climate action by urban and rural poor in emerging economies. Initially, the Portal creation and piloting would need to be grant funded. As the Portal establishes its credibility and becomes an indispensable guide to potential crowd investors, CFPs may want to sustain the Portal by charging a very small fee on their transactions, or certain CFP investors may want to pay for customized reports.
The Risk Reduction Facility would ideally be housed in a professional financial organization with a track record of offering loan guarantees or insurances in emerging economies. For the pilot phase of about 5 years, a grant from a philanthropic or a public development organization would be needed for seed funding the facility.
For the mainstreaming of CF4CC, select financial institutions would be identified, based on their eagerness to expand their client base which is globally and environmentally responsible. They would be matched with select CFPs that have shown a strong performance of funding RE investments among the urban and rural poor and that are willing to pilot diverse CF4CC products, including interest rate bearing and guaranteed investments.
While this proposal focuses on the supply side of RE finance, i.e. how additional funds can be mobilized using crowdfunding, it is equally important to develop and scale up the demand-side for RE finance, i.e. the pipeline of viable RE micro-investments serving the urban and rural poor to gain better access to clean energy. This includes building up of new supply chains and service industries, distributing, retailing, installing, and maintaining RE products and installations. It is reasonable to expect that with improved access to affordable micro-finance, demand will increase and so will the incentive for new companies to engage in this value chain.
Where will these actions be taken?
The CF4CC Portal would likely be established in North America where most CFPs are currently located.
The risk reduction facility could be located in either North America or Europe, in part depending on the source of the seed funding.
Mainstreaming of CF4CC would be piloted initially with progressive financial institutions in the US or Europe, including if possible one or two institutions from emerging economies.
The crowd funders themselves would initially be socially minded citizens who do not see themselves as typical investors or lenders but enjoy engaging in RE development in such a personal and direct way. They would likely come from North America and Europe.
Through the mainstreaming, the aim would be to attract also ‘conservative but globally responsible’ CF4CC investors, who seek a reasonable financial return but do not mind doing good at the same time.
Going further, CF4CC could be localized by approaching the expat and immigrant communities as a potential micro-lender group that want to support development ‘back home’. Interest has already been expressed e.g. in Sri Lanka to establish a Sri Lanka CFP for Sri Lanka. The growing middle class in emerging economies themselves could become interested in CFPs. For that latter group, it would be desirable to include financial institutions from emerging economies to mobilize CF4CC investments there.
The RE investments would take place in emerging or developing economies.
What are other key benefits?
Access to affordable finance enables access to affordable RE which in turn has tangible benefits that can transform lives, including:
- Improved labor productivity and incomes, due to the availability of power for small business, manufacturing, and agro-processing,
- Job creation through RE based value chains in the production, distribution and maintenance of RE and related products.
- Social benefits such as extended hours of learning
- Global GHG reduction benefits where RE replaces ‘dirty’ carbon intensive sources of energy.
- Compared to traditional Official Development Aid, CF4CC reaches the urban and rural poor faster and at a lower transaction cost.
- Lessons from CF4CC will be relevant for design of climate funding mechanisms, e.g Green Climate Fund.
And, the crowdfunder has a unique and satisfying opportunity to support the cause of RE (and more broadly climate change) in a personal and tangible way.
What are the proposal’s costs?
The following cost estimates will need to be firmed up in collaboration with potential implementers.
- Initial set up: US$200,000
- Annual cost for first 5 years: $150,000 p.a.
- Design: US$$200,000
- Trial Test phase – seedfunding: US$ 1,000,0000 (gearing ratio 1:3, i.e. total covered amount U$ 3,000,000)
- Pilot Phase – seedfunding: up to US$ 10,000,000 (gearing ratio 1:10). There is no pre-arranged allocation of these funds. Specific guarantee amounts would be allocated upon request from CFPs up to the limit set by the seed-fund times the authorized gearing ratio (i.e. in this case up to 10 X US$ 10 million).
- Initial Market research on risk-reward sensitivity of potential crowd funders in collaboration with existing CFPs, interested financial institutions, universities, and market research firms: US$ 150,000
- Design and Setting up Schemes: US$ 100,000 to 300,000
- Monitoring and Improvement of Schemes: US$100,000 p.a
- mobilize resources for the design of the Portal and the Risk-reduction facility
- Initiate discussion with select financial institutions and CFPs regarding mainstreaming
- End 2013 for COP 19 in Warsaw, announce pilot programme
- Link up with Energy for All Initiative.
- Complete design of Portal and start it up
- Complete design of Risk-reduction facility and start it up
- Initiate pilots with 1 financial institution each in US, Europe, and emerging economy.
- Expand Mainstreaming to 3 financial institutions each
- Evaluate initial experiences
- Present to the Green Climate Fund detailed proposal for a micro-finance and crowdfunding window, to support bottom up transformation to a low carbon future.
- Present at COP21 in Paris the outline for a complementary climate finance stream from the crowd to the base.
- Adjust model based on practical experience and scale up
Relevant initiatives and crowdfunding platforms to learn from and to build on include:
Kiva.org (e.g. ‘Green Category’ projects, and solar wholesaler funding) www.kiva.org
Sunfunders (funding Solar businesses working at the BoP). www.sunfunder.com
MicroPlace (investment funds geared towards micro-finance and environment). www.microplace.com
EcoMicro (greening micro finance). http://www5.iadb.org/mif/HOME/Projects/Financing/CallforProposals/Ecomicroen
CALA (initiative for a nationwide microfinance network in Tanzania). www.calasocialcapital.com
On Crowdfunding for Climate Change: Ritter, Konrad von and Diann Black-Layne. Crowdfunding for Climate Change – A new source of funding for climate action at the local level? ECBI, 2013. Link: http://www.eurocapacity.org/downloads/CF4CC.pdf
On Base of the Pyramid: Hammond, A. (2007). The Next 4 Billion: Market Size and Business Strategy at the Base of the Pyramid. Washington, D.C, World Resources Institute
Bairiganjan, S. (2010). Power to the People: Investing in Clean Energy for the Base of the Pyramid in India. Washington, D.C, World Resources Institute
On Crowdfunding market development: Crowdsourcing LLC. (2012). Crowdfunding Industry Report: Market Trends, Composition and Crowdfunding Platforms. Research Report, Abridged Version.
On Microfinance Investment: MicroRate (2012). Micro Rate Annual Report: The State of Micro Finance Investment.