This paper addresses questions about the function and institutional arrangements of climate finance from an innovation systems perspective. It examines the barriers that prevent developing countries from transitioning to low-carbon and climate-resilient economies, and the interventions necessary to overcome those barriers. It finds that the barriers to innovation and economic change are much more pervasive than a lack of incentives. They include issues like insufficient knowledge flows and technical capacity in research and development and business; inadequate network formation around value chains; capital constraints due to undeveloped capital markets; and unstable and inappropriate policy regimes.

To overcome these barriers, climate finance will need to be deployed through technology-push policies, strategic niche management and demand-pull policies. It will also need to incentivise and enable developing country governments to implement the ‘sustainable innovation policy regimes’ necessary to guide transitions to low-carbon and climate-resilient economies.

Concerning the institutional arrangements of climate finance, this paper argues that climate finance should flow through national funding entities, and that the United Nations Framework Convention on Climate Change should adopt crediting mechanisms for Nationally Appropriate Mitigation Actions or Sectoral No-Lose Targets.

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