Why policy enablement is critical in Asia’s quest for net zero

McKinsey chatted to Joan Larrea (CEO of Convergence Blended Finance), John Murton (UK government’s COP26 envoy), and Dominic Waughray (senior advisor to the CEO, World Business Council for Sustainable Development) about the role of governments in facilitating the investment required to move to net zero.

Joan Larrea

McKinsey: What can governments of Asian economies do to contribute to getting to net zero—how do they ensure that their local sectors and industries understand the weight of the problem, and are part of the solution?

Joan Larrea: What governments can do in these places is help domestic investors focus on the problem. For one thing, no matter how poor the country, there is local capital—and it’s probably more adept at gauging risk and reward than somebody in the United States or Europe. It’s also operating in the right currency. Host governments in these nations really should be helping to develop domestic capital markets, and thinking through the regulations that allow, say, the sovereign wealth fund to invest in alternatives. Some of this may need blending of concessional and non-concessional resources. But it’s incredibly important, partly because interest of foreign direct investors is fairly low in some of these places.

McKinsey: Are there certain sectors or areas of the economy that you feel lend themselves more naturally to “catalytic capital”?

Joan Larrea: You could flip that around to say, where can blended finance be particularly helpful to sectors? There are a couple of places where capital has a hard time forming around investment opportunities. For example, where you don’t have investment scale.

I’ll give you an example from our design-funding portfolio, where we issue early-stage grants—that’s at proof-of-concept and feasibility stage—to ideas that one day will become investable. One of the transactions we’re helping right now is in Fiji, and it’s being run by the Glasgow Financial Alliance for Net Zero (GFANZ). They’re trying to support all these very small, off-grid power-plant developers. These are profitable [efforts], but they’re just too small and the developers involved can only do one at a time. They don’t have any capital. So GFANZ is creating a fund that will supply output-based or milestone-based funding to these developers, which basically accelerates the process of putting out off-grid clean-energy plants. In doing that, they must work with the regulator, they have to figure out the tariffs—it’s a lot of work. It’s an example of somebody taking these very, very small opportunities and financing them in a way that you have an aggregated structure that one day possibly could be invested in.

McKinsey: Singapore in particular has seen a dramatic rise in the movement of private capital—especially through family offices—from different parts of the region, and also globally. How can a family office approach this large, complex topic on the transition to net zero, and play a critical role?

Joan Larrea: There are a number of different paths. Family offices have unique flexibility because they’re managing private money. Many family offices have at least two modes they operate in already: one is the charitable mode, and the other is the investing mode.

If you think about the mission-based deployment of capital, it’s not return seeking. If a family office is thinking about having a big impact per dollar for that money that doesn’t need a return, they could start to aim some of it into structures where they are the catalytic money, and others will come in behind them with purely commercial money. This takes a certain field-building mindset: “I’m going to put my money out the door, maybe seeking an inadequate return, because I see that my dollar will be joined by four or five other dollars.”

You also have your investment side, which seeks to make a long-term return of x percent or maintain a certain liquidity. Here you have all the normal rules of any fiduciary—that money can also be invested in things that have to do with climate change.

We’re much more interested in that first area of family-office operations: thinking through how to do more with the capital they have at hand. I really do think that that mindset switch between putting it out the door alone and putting it out the door as something that will attract other investors is an important shift.

John Murton

McKinsey: What do you see as the top three challenges in Asia’s transition to net zero?

John Murton: I would put them into three categories: Policy inertia, technical and grid inertia, and finance. When looking at policy inertia, energy ministries have historically been committed to delivering a steady, predictable supply of energy that’s available when required. The whole net-zero agenda is introducing a new policy vector of emissions that governments around Asia are grappling with. We have to overcome a degree of the hesitancy about some of the technology that’s required to get to net zero.

That brings us to technical inertia, particularly in transmission grids. Around Asia, a lot of grids are designed to link up a few large thermal power stations, whereas to get to zero we need to turn grids upside down and shift to a more distributed form of generation. That requires considerable investment and know-how to deliver.

That then takes you to finances: How will you finance the investments in the distributed generation that’s going to be required to get Asian economies to net zero? There’s a lot of links back to policy and policy reform in order to make investment bankable. This will be required in many countries, where the vast majority of the funds will have to come from the private sector.

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Shapers of Sustainability

McKinsey: With these significant challenges for the region, what are your thoughts on what the unlocks or enablers to address these challenges for Asia will need to be?

John Murton: The country-platform prism that we’re adopting in a number of economies we’re working in—Vietnam, Indonesia and elsewhere—is a very useful way of grappling with the problem. Firstly, having a country platform process generally involves setting up a forum through which you can get senior political-level focus on the policy problems that are confronting economies on the way to net zero; it enables environment ministries to work alongside energy ministries, finance ministries, and others to unlock the policy challenges.

That doesn’t happen easily without some form of forcing mechanism. The country platform mechanism is very helpful for overcoming inertia, so we can give support to ministries on how to deliver a policy environment that enables investment in the energy grid. That political direction allows a discussion about how to align financial incentives with policy goals.

And that links us then to the financial again: creating a clear investment plan at the country level, setting out what investment is required to move a grid to net zero. This enables financials to come together to align their investment and site it within a broader investment plan. It also enables donor partners like the United Kingdom and others to make sure that we’re cooperating and not competing.

McKinsey: Could you tell us more about the role of regulators in governance in mobilizing sustainable finance, and blended finance in particular?

John Murton: If you look at the experience of the United Kingdom, we’ve mobilized over £90 billion of investment over the last decade in offshore wind through creating a private-sector environment that enabled this. We’re working with the South African government to identify barriers to a similar environment there. The returns on investment may not be purely commercial, and so you need to blend in a bit of concessional capital, to enable the private-sector investors to have the rate of return that’s required to make project finance simple.

Dominic Waughray

McKinsey: What are the top three challenges in achieving net zero in the Asian context?

Dominic Waughray: The first challenge, which is not unique to financing, is that time is against us. So it’s more like creating a software product than a perfect kind of financing policy or framework design: what is the best viable product to put into the marketplace now, on which we can get feedback and iterate to improve step by step, rather than waiting for the perfect solution?

The second thing is that we’re all coming together and collaborating—across the private sector, across financial systems, across regulators, across science, and across NGOs who’ve got target-setting mechanisms to develop things in an area where there isn’t regulatory clarity. We don’t have the answers, so we’re having to build as we go. That can be a very comfortable space for people who are intrinsically entrepreneurial, but an uncomfortable space for people who feel they have fiduciary duties. It’s quite a unique moment in time that requires a leap of faith and, more importantly, trust.

McKinsey: Do you think it’s a matter of reframing? Do the institutions themselves and the roles they play need to change?

Dominic Waughray: We don’t have time, and we need to lean out from different areas to make this work. We have enough intellectual capability to fix the situation, but we have to assemble different pieces of the jigsaw.

Cooperation and trust in this assembly are crucial now because the region is the centre of a global fragmentation. The world needs to recognise that Asia’s successful transition is pivotal to a global transition. Delivering on commitments for a just transition is a prerequisite for restoring trust and supporting developing economies in Asia as they transition.

Take the challenge for blended finance in Asia: on the one hand, you might have an Association of Southeast Asia Nations (ASEAN) Secretariat, which has key goals for net zero; you have an Asian Development Bank, a multitude of private-sector players, sovereign-wealth funds, and people who are experts on the transaction that might need to take place. What you do not have is the connective tissue that allows talented actors to come together, shed the isolated-projects mindset, and iterate with a purpose towards a single outcome.

For example, Japan’s prioritization of the decarbonization of its manufacturing and retail industries is driven by the cooperation between the corporate sector, government, and international stakeholders, with an aim to focus technology innovation on net zero. This is a new type of development agenda, tapping into a wealth of diverse human capital to illuminate the path toward a net-zero framework on a grander scale. What’s unique about the ASEAN context is that there’s an understanding between state and market. There’s great expertise and it’s highly digitalized. There’s desire for innovation. However, to drive the agricultural net-zero transformation, there’s a need to establish infrastructure to unlock the biobased economy.

What’s also interesting is that we have a new generation of wealth creators coming through, that defy the stereotype of Indonesian or Malaysian old-school family businesses. The next generation of leadership in business across the ASEAN region is very focused on social-development goals, and on outcomes that combine technology, education, and entrepreneurship.

McKinsey: When we talk about a project mindset that sets up very niche instruments that are only relevant to that particular project, how do we combat that?

Dominic Waughray: There’s an art and a science to it. To explore what we need at a national or regional level to fix a number of problems, we can create a roadmap over the next four years: all the things we’ll need to put money into. It becomes more holistic; it becomes a multi-ministerial discussion.

It’s a very interesting arena for small island states, applicable to the (ASEAN) context, because they’re quite hermetically sealed. Economies rely on fuel imports and tourism, but they have 200 nautical miles of sea, which is a massive economic opportunity if done right and sustainably.


This interview is part of an ongoing series on Shapers of Sustainability, where we convene leaders on sustainability to discuss challenges and opportunities in the Asia-Pacific region’s transition to net-zero.

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