Enhancing Food Security through Finance-Enabled Food Systems Transformation

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Executive Summary

Global food security challenges have evolved. While past efforts successfully expanded the availability and affordability of caloric intake in all regions of the world—effectively reducing the direst forms of hunger—today's urgent food security challenges lie in combating malnutrition by making healthy diets more affordable, and reversing the environmental degradation caused by unsustainable food systems. These multidimensional challenges are most severe in low- and middle-income countries (LMICs). Today, 2.8 billion people cannot afford a healthy diet, and 3.5 billion people suffer micronutrient deficiencies. In addition, food systems contribute to one-third of greenhouse gas emissions, and 40 percent of the world's arable land is now degraded by aridity. As a result, food systems impose USD 19 trillion a year in social, health, and environmental costs globally.

This paper examines the untapped potential of inclusive finance to help address today's new food security challenges. The analysis suggests that the role of inclusive finance in addressing the pressing food security challenges of today is two-fold:

First, at the retail level, inclusive finance supports local financial service providers (FSPs) to tailor their services to meet investments required by key actors engaged in specific 'high-impact' agricultural value chains (AVCs) contributing the most to nutrition and sustainability outcomes in LMICs—mainly smallholder farmers and agricultural small- and medium-sized enterprises (agri-SMEs). The unlocked investments allow these key AVC actors to adopt agriculture technologies (AgTech) that help them transition to more sustainable agricultural practices and increase productivity in a way that improves their livelihoods and results in the production of more nutritious food that is affordable to growing low-income populations. The service tailoring required by FSPs includes defining the right product features, managing related risks, and developing strategies to deliver these services conveniently to these target customers.

Similarly, inclusive finance can also support local FSPs and local investors to tailor retail finance for AgTech firms—i.e., companies developing AgTech to address bottlenecks in those high-impact AVCs mentioned above. This includes FSP services like working capital loans, insurance, savings, and payment products for daily financial management; or impact investor services like long-term debt or equity required for larger investments. Tailoring services at the retail level helps reverse a chronic lack of exposure that formal financial institutions have to the agriculture sector in LMICs.

Second, at the wholesale level, inclusive finance supports Development Finance Institutions (DFIs), donors, and global or regional impact investors to provide greater flexibility to local FSPs and investors—i.e., their investees—in adjusting their retail financial services as explained above. This implies defining strategies to tailor wholesale finance mechanisms (e.g., credit lines, guarantee funds, social bonds, and other blended finance initiatives) to make sure they have the right features, such as duration, repayment schedules, grace periods, interest rates, collateral requirements, customer due diligence processes, and equity investment exit strategies.

Given its role, inclusive finance is a critical component of any effort to promote inclusive, sustainable, and nutritious food systems, helping address the low AgTech adoption rates observed in LMICs, especially among key AVC actors. This low adoption rate happens despite a rise in the development of AgTechs that address chronic agriculture challenges in LMICs. To increase AgTech adoption rates, the lack of adequate financial services at the retail and wholesale levels is among the most binding constraints that need to be removed. The analysis presented suggests that often, current retail and wholesale financial offers do not match the financial needs that key AVC actors have when adopting AgTech.

To tackle this, CGAP proposes a multi-step framework to focus high-level strategies used by local FSPs and impact investors on more effectively contributing to food security. The steps in this framework are:

• Identify and target those high-impact AVCs that contribute the most to improved nutrition and sustainability outcomes in a given market;
• Identify unique bottlenecks in these high-impact AVCs and AgTech categories that can address them;
• Determine the set of tailored retail and wholesale financial solutions that respond to the specific needs of high-impact AVC actors (smallholders and agri-SMEs) and relevant AgTech firms (those companies developing AgTech solutions) to promote greater AgTech adoption.

This paper calls on global and local stakeholders—including FSPs, DFIs, donors, and impact investors—to act:

FSPs

• FSPs aiming to contribute to food security should identify and target high-impact AVCs, the key vulnerable actors in these chains, and those AgTech firms that provide effective solutions to their bottlenecks.
• This assessment should point out untapped growth opportunities where proven AgTech solutions can be applied in high-impact AVC investments resulting in productivity gains that open new markets.
• FSPs should then assess if these key AVC actors and AgTech firms are represented in their current customer base and expand or include them as needed. To do so, FSPs will need to invest in financial product research and development (R&D), staffing, information technology (IT), risk management strategies, and distribution systems to develop financial products that meet the unique financial needs and enable AgTech adoption by high-impact AVC actors.

DFIs

• DFIs should support local FSPs in the R&D process to understand the requirements faced when tailoring their financial services to the needs of high-impact AVC actors and relevant AgTech firms.
• This knowledge can be used to adapt wholesale financial mechanisms (like blended finance mechanisms that offer credit lines and guarantee funds) to provide local FSPs more flexibility in tailoring their retail services.
• DFIs should also diversify early-stage funding for AgTech firms in high-impact AVCs, offering more flexible debt and equity options to help them scale.

Impact investors

• Impact investors working at the global or regional levels should also understand the investment requirements for AgTech adoption in high-impact AVCs to tailor wholesale solutions like debt, equity or social bonds for (1) FSPs to flexibly design adequate services for high-impact AVC actors; or (2) AgTech firms providing solutions to high-impact AVCs that need to invest to make their solutions more affordable and scalable.

Donors

• Donors can support food security by funding one-time investments to enhance capacities in a permanent way by:
• Reducing R&D and innovation costs faced by local FSPs when tailoring services to high-impact AVC actors and relevant AgTech firms.
• Help DFIs and impact investors conduct assessments to identify high-impact AVCs and how to make their wholesale financial tools more flexible in meeting AgTech adoption needs.
• Strengthen agricultural extension services, data collection, and shared digital and physical infrastructure to help smallholders and agri-SMEs in high-impact AVCs adopt AgTech more effectively.
• Support AgTech business development services to improve investment readiness of AgTech firms.

Together, these actions can help scale nutritious and sustainable food systems, boost AgTech adoption, and support smallholders and agri-SMEs who are crucial to sustainable and nutritious food supply in LMICs.

Inclusive finance—when aligned with the new priorities in food system transformation efforts—can move beyond access to finance and become a transformative force for food security.