Demystifying Carbon and Climate Finance: Are They Truly Different?

I have to admit, I often use the terms "climate finance" and "carbon finance" interchangeably since both aim to fund climate action. However, while connected, they are not the same.​

Defining Carbon Finance and Climate Finance

• Carbon Finance: Focuses on market-based solutions like carbon credits, emissions trading, and carbon pricing, creating financial incentives for companies to reduce emissions. Typically driven by private sector investments, it funds projects such as renewable energy and forest conservation.​

• Climate Finance: Encompasses funding for both mitigation and adaptation efforts, supporting initiatives like climate-resilient infrastructure and sustainable agriculture. Primarily driven by public funds, it involves multiple stakeholders and often has longer implementation timelines.​

While carbon finance channels private investments into emissions reductions, it often overlooks adaptation needs, especially in the Global South, where communities face severe climate risks. Many developing nations argue that the emphasis on carbon markets benefits private investors and developed economies, leaving adaptation finance underfunded.​

In my experience, carbon projects in Least Developed Countries (LDCs) have directly benefited local communities by supporting social and economic development. Additionally, utilising carbon finance for sustainable agriculture and land management enhances community resilience to climate change, contributing to broader climate goals beyond emissions reductions.​

Global climate finance remains insufficient. Estimates suggest that $5.9 to $12 trillion annually is required by 2030 for mitigation and adaptation goals. However, in 2021–22, annual global climate finance reached only $1.46 trillion, with less than 3% flowing to LDCs and only 14% to Emerging Markets and Developing Economies outside of China. These figures highlight a critical funding gap, leaving the most vulnerable countries inadequately supported.​

Carbon markets can bridge this gap by attracting private sector investment into decarbonization projects. The implementation of the new UNFCCC carbon market mechanisms under Article 6 presents an opportunity to direct private finance to vulnerable regions. Effective execution can provide corporations with a global market instrument to participate in and significantly impact climate action.​

I recently discussed these challenges with Demetrio Innocenti, a long-standing expert in climate finance who has worked with the Green Climate Fund for over a decade. His insights reinforced the need for a smarter allocation of resources to maximize both impact and fairness in climate action.​

"The issue isn’t whether we need more climate finance for mitigation and adaptation instead of carbon finance for offsetting—we clearly need both. Carbon finance, through compliance and voluntary markets, already mobilizes substantial private-sector investments, yet much of its potential remains untapped. We cannot afford for it to stay this way.​

One way to unlock this potential is through strategic blended finance mechanisms, where public institutions such as the World Bank or the European Union leverage their resources to stabilize carbon markets. Establishing clear and predictable carbon price floors through large-scale blended finance initiatives can mitigate volatility and attract private investors, catalyzing billions in climate investments.​

At the same time, we should not overlook the role of carbon finance in adaptation. It has the potential to drive climate resilience at the grassroots level, channeling private capital into locally owned projects such as reforestation, small-scale renewable energy, and climate-resilient agriculture. By doing so, we can achieve a triple win: reducing emissions, enhancing local resilience, and mobilizing critical private-sector funds at scale for climate action.​

If we are serious about meeting the Paris Agreement goals, we must embrace a more integrated approach—one that effectively combines public and private finance to accelerate both mitigation and adaptation efforts."​

Rather than viewing carbon finance and climate finance as competing approaches, recognising their complementary roles can accelerate climate action. Public climate finance is crucial for funding large-scale adaptation efforts and de-risking investments in emerging markets, while carbon finance mobilizes private capital, creating financial incentives for emissions reductions and supporting climate solutions that might otherwise lack funding. Article 6 of the Paris Agreement presents a significant opportunity to implement blended finance solutions, combining public and private resources effectively to enhance market confidence and unlock substantial climate investments.