EASTERN AND SOUTHERN AFRICA MALAWI World Bank Group October, 2022 EXECUTIVE SUMMARY Country Climate and Development Report: Malawi | i Executive Summary Malawi’s economy has shown modest growth with persistently high poverty rates over the past decades and faces significant development challenges. Malawi’s GDP per capita growth averaged less than 1.5 percent since independence in 1965; as a result, GDP per capita in 2021 was only US$394 compared with US$197 in 1965 (constant 2015 US$). The country is facing an economic and social crisis, with unsustainable debt, serious macro-fiscal imbalances, shortages of power and key import commodities, acute lack of foreign exchange, and high inflation. The crisis has been aggravated by exogenous shocks from the COVID-19 pandemic, the war in Ukraine, and climate disasters. In 2019, seven out of every ten Malawians were under the international poverty line of US$2.15 a day. Four in five Malawians experienced moderate to severe food insecurity in 2019–2021. Natural capital, the main asset underpinning economic activity, is being eroded by widespread land degradation and deforestation. A severe infrastructure deficit and economic policy distortions limit competitiveness and constrain economic diversification. And Malawi’s human capital, though improving, remains low, held back by low educational attainment and gender disparities, among other factors. Weak institutions, corruption, lack of transparency, and significant policy uncertainty all undermine the business environment. The government of Malawi has put forward ambitious plans to accelerate growth and reduce poverty. The “Malawi 2063” vision document (referred to hereafter as Malawi 2063) hopes to achieve an annual 6 percent GDP growth rate and make Malawi a lower-middle income country by 2030 and an upper-middle income country by 2063. The vision focuses on three pillars of inclusive economic growth: i) a productive, commercialized, and diversified agricultural sector, ii) a strong manufacturing sector driven by vibrant agriculture and mining sectors, and iii) the development of urban centers and tourism hubs across the country. Climate change will however make it harder for Malawi to reach its ambitious development vision. Malawi faces significant development challenges, which are being compounded by climate change. Malawi is considered highly vulnerable to climate change, 163rd out of 182 countries ranked for 2020 on the ND-GAIN Index. Climate-related disasters are already increasing in frequency and severity, with devastating consequences. For vulnerable households, experiencing a disaster can significantly increase the likelihood of falling into poverty. Damage to infrastructure, especially from floods, also disrupts electricity service, travel, and business operations, and imposes large costs for repairs and rebuilding, diverting scarce resources from other development needs. Tropical Storm Ana, for instance, is estimated to have caused damages equivalent to 1.5–2.7 percent of Malawi’s GDP—most notably, requiring extensive and costly rehabilitation of the Kapichira Dam. Malawi has one of the smallest greenhouse gas emissions (GHG) footprints in the world, and any efforts to reduce emissions will have to come as a co-benefit of development. In 2019, Malawi’s total GHG emissions were only 19.34 million tonnes (metric tons) of carbon dioxide equivalent (MtCO2e), including from land use change and forestry (LUCF), or 10.95 MtCO2e without LUCF—just 0.59 tCO2e per capita, the lowest in the world. The country’s updated Nationally Determined Contribution (2021) lays out an ambitious agenda to reduce emissions spanning multiple sectors, but acknowledges that, due to its severe resource constraints, Malawi will need substantial international support to achieve its objectives. This Country Climate and Development Report aims to support Malawi’s efforts to achieve its development goals within a changing climate by quantifying the impacts of climate change on the economy and highlighting key policies and interventions that are needed to strengthen climate resilience. The analysis includes climate modeling across multiple scenarios to account for the inherent uncertainty in climate projections; and sector-by-sector analysis and assessment of economy- wide impacts to identify the biggest impacts. It examines Malawi’s current policy landscape and identifies needed reforms; considers how Malawi can best protect its most vulnerable households; and considers how the country can finance its ambitious development and climate agenda, including the key role of the private sector. Country Climate and Development Report: Malawi | 1 The analysis shows that climate change will impose large costs on the economy and on already vulnerable households. If Malawi stays on its current low-growth development trajectory, climate change could reduce GDP by 3–9 percent in 2030, 6–20 percent in 2040, and 8–16 percent by 2050 (Figure E1 for Business As Usual (grey)). While this finding is not surprising, the magnitude and variability of potential climate impacts is alarming for one of the poorest countries in the world. The largest impacts from climate change are projected to come from damage to roads and bridges and reinforce what the country is currently experiencing in terms of large damage from current climate shocks to infrastructure assets. Heat impacts on labor productivity are also significant and point to compounding shocks on already poor and vulnerable households. The analysis finds that over the next 10 years, climate shocks on the economy could push another 2 million people into poverty (an increase in poverty rate by 8 percentage points), increasing to 4 million additional poor by 2040. The analysis also clearly demonstrates that development, as set out in Malawi’s Vision 2063, provides a strong basis for strengthening resilience to climate impacts. If Malawi were to accelerate implementation of policies and programs envisioned in the Vision 2063, the development trajectory would shift to a higher growth path and climate change impacts would be significantly reduced. Under this scenario, the magnitude and variability of the potential reduction in GDP from impacts of climate change are smaller: 3–7 percent in 2030, 3–9 percent in 2040, and 4–7 percent by 2050 (Figure E1 for Vision 2063 (blue)). By supporting higher-quality infrastructure and a more diversified economy, economic development is found to be one of the most powerful forms of adaptation. A push to achieve development objectives also protects the vulnerable from the impacts of climate change, in some cases reducing the households that would otherwise fall into poverty by as much as three-quarters. Figure E1: Climate change will impose large economic costs; development will strengthen resilience but will require doing different things. 2 0 -2 -4 -6 -8 % GDP Loss -10 -12 -14 -16 -18 -20 -22 20 0 20 1 22 20 3 20 4 25 20 6 20 7 20 0 20 1 20 1 28 32 20 7 20 9 20 3 20 5 20 0 34 36 38 20 9 42 20 3 44 20 5 46 20 7 48 20 9 50 4 4 3 3 2 2 2 2 2 2 3 3 3 4 2 4 3 4 4 20 20 20 20 20 20 20 20 20 20 20 20 Business As Usual (scenario range) Vision 2063 (scenario range) Resilient Development (scenario range) Business As Usual (mean) Vision 2063 (mean) Resilient Development (mean) 2 | Country Climate and Development Report: Malawi But the Vision 2063 development path will not be enough and building greater resilience to climate change will require doing different things and doing things differently. With additional adaptation measures, the analysis shows that not only is the impact of climate change on GDP much smaller, GDP is higher with climate change and adaptation when compared to the counterfactual with no climate impacts; losses range from -1 to 3 percent in 2030 and 2040, and 1 to 4 percent in 2050 (Figure E1 for Resilient Development (green)). Adaptation measures cut across sectors and are highlighted in the table below in contrast to development measures for select sectors. For roads and bridges, the sector with the largest projected damages from climate change, losses range from -0.2 to 0.8 percent in 2050 with development and additional adaptation investments, as compared to 5 to 12 precent under business as usual. Sector Development (Vision 2063) measures that build Going beyond Development (Vision 2063) to resilience adapt to climate change Agriculture Promoting Crop Diversification Investments to develop crop varieties and Investing in Irrigation Development livestock breeds that are resilient to heat stress, droughts, and excessive rainfall Promoting Mechanization and Digital Technologies Revising design standards of irrigation Investing in Research, Innovation, and infrastructure to make it climate resilient Dissemination Strengthening capacity to manage new pests Supporting Land Tenure Security and diseases Land Investment in land restoration to meet Improved targeting of land restoration activities commitments under Bonn Challenge and the to ensure that restoration actions build resilience African Forest Landscape Restoration Initiative Promoting increased access to improved cooking technologies Energy Investing in large-scale hydropower generation Diversification of location of hydropower projects and grid-connected solar power projects generation plants within the country Promoting regional interconnections for power Increased regional trade within the Southern imports Power Pool Investing in off-grid renewable energy Transport Improved road infrastructure in rural areas New infrastructure follows a 50-year design Increased the share of passenger transport for standard, instead of a 10-year standard (building road, rail and waterways wider paved shoulders to improve drainage; using asphalt binders that are more resilient to Expanded rail network heat) Promoting output and performance-based road contracts to improve the effectiveness and efficiency of road development and maintenance practices for climate resilience Digital Increased connectivity in rural areas Acceleration of investment in climate-resilient Adoption of a data policy that allows digital infrastructure to support sector-specific interoperability and cross-ministerial data flow, as climate services well as data standards Adoption of cloud data storage, and a data Implementation of cybersecurity and personal backup practice data protection measures Use of digital platforms to support early warning systems and disseminate information on climate- smart agriculture Country Climate and Development Report: Malawi | 3 While implementing Vision 2063 and additional adaptation measures will help Malawi achieve the most resilient growth path, the country cannot afford to finance these investments in-full at the present. Malawi’s public debt is currently unsustainable, and Government financing of climate- related actions will remain constrained over the medium term. Fiscal imbalances have been a chronic challenge in Malawi and were exacerbated by the COVID-19 pandemic response and, most recently, by the rise in global commodity prices driven by the war in Ukraine. The latest WBG-IMF Debt Sustainability Analysis (December 2021) found that Malawi is at high risk of both external and public debt distress, and that the country’s level of debt is unsustainable. Government has embarked on a course of fiscal consolidation in the 2022/23 budget that can put debt back on a sustainable path. Following this reform program, Government will have limited fiscal space over the medium term to finance adaptation investments, estimated at as much as US$2.9–5.2 billion between 2020 and 2050. There is urgent need to identify financing sources to implement the Vision 2063 and additional adaptation measures that do not increase public debt. Grant and highly concessional financing from public sources and new inflows from private sources are urgently needed to meet the very large investment needs that are required to finance investments in the near term that in turn will deliver results over the medium and long terms. Development aid can be aligned to promote climate co-benefits and build on the opportunities created in recent changes to PPP legal framework. This will require optimizing the use of public sector resources, international public finance, and private investment, and finding synergies across sources to avoid the transaction costs of managing increasingly fragmented finance. There are nonetheless things that Malawi can do now that are high reward in terms of addressing the biggest impacts of climate change, and are financially affordable. The report highlights that Malawi needs a wide array of investments, policy reforms, and other interventions to build resilience, but in identifying next steps, it is important to prioritize among these measures, recognizing the country’s fiscal constraints and institutional capacity to implement. The analysis points to three priorities that are affordable and urgent in that they will cost more to implement later. Priority 1: Build infrastructure so that it can withstand climate shocks and stressors A key priority of the government is to build new infrastructure so that it can withstand climate shocks and stressors. This is the first key priority because closing the infrastructure deficit will be key to meeting Malawi 2063 aspirations and the largest impacts of climate change will be in the form of damage to infrastructure assets. In addition, investments to rehabilitate infrastructure assets from current climate shocks are presently taking up scarce financial resources, adding to the country’s financial worries– a trend that will continue if not addressed now. These scarce financial resources could better be used to close the infrastructure deficit and build better, more resilient infrastructure. Studies have shown that building infrastructure to be climate-resilient does not add significantly to the upfront costs and brings substantial savings in maintenance and repair and reduced disruptions to the economy, over the lifetime of the infrastructure. Key actions include: • Streamline climate-sensitive public investment management across all infrastructure investments. • Adopt and implement a public asset management policy to support climate-resilient investment planning and management. • Revise design, construction, and maintenance standards for infrastructure with a resiliency focus, and strengthen capacity to enforce these standards. Malawi can finance the required incremental costs of climate-proofing investments even in the current tight fiscal environment by repurposing existing government resources and promoting 4 | Country Climate and Development Report: Malawi private sector investment in infrastructure. Malawi could, for example, earmark the resources that are collected from the existing carbon tax and fuel levies for screening, prioritizing, and designing public infrastructure projects that increase resilience to climate change and disaster risks. Currently these funds are collected and pooled in the Government’s primary accounts but not used for climate change-related expenditures. Provision of discretionary funds to local governments for district-led climate and disaster-risk reduction investments, tied to performance and existing performance-based grant architecture at the district and local levels, could improving targeting and resource use efficiency. Building on the recently approved PPP Act to create enabling conditions for greater private sector participation and establishing a credible pipeline of investable opportunities that promote climate resilience, could help to bring private sector investment in infrastructure, though additional sector- level and macro-level reforms will also be needed. Development finance could also help de-risk the investment environment and promote private sector investments. Priority 2: Halt and reverse widespread land degradation Land restoration activities need to start now, as the benefits to development and adaptation accumulate over time, and some damages can be irreversible. Halting and reversing land degradation in the country will promote development outcomes, reduce the risk of damage to infrastructure and strengthen climate resilience. Conversely, the analysis shows that continued land degradation would increase the damage to infrastructure from inland flooding by as much as 25 percent by 2050. Implementing government plans to curb deforestation and restore degraded lands would more than halve current soil erosion rates, improve crop productivity, boost water storage while reducing flood damage to critical infrastructure. Restoring degraded lands includes promoting soil and water conservation and agroforestry at both farm and watershed levels; and investing in community forestry, forest management and protection; and riparian restoration. Halting degradation will also require increasing access to clean and efficient cookstoves and instituting forest management certification schemes to increase availability of sustainably sourced firewood and charcoal, which in turn will bring local health benefits from reduced indoor air pollution. At present, household air pollution from inefficient cookstoves has been linked to an estimated 12,400 premature deaths and 627,400 disability-adjusted life years lost each year in Malawi. But the benefits of land restoration to watershed health, agricultural productivity and protecting infrastructure take time to accumulate as land restoration involves natural processes of regeneration, and therefore should begin urgently. Restoring degraded landscapes would also help to reduce GHG emissions, as a co-benefit of development, potentially generating resources to offset some of the costs of land restoration. Efforts to restore 4.5 million hectares under the Bonn Challenge and the African Forest Landscape Restoration Initiative, along with policies to reduce the dependence on biomass, could increase carbon stocks by 148 Mt by 2050, equivalent to about 24 percent on average of the total projected emissions for Malawi under current policies by 2050. The additional carbon sequestered could potentially raise finance linked to voluntary carbon markets in the order of US$24.8 million to US$74.3 million per year for the country depending on how the carbon markets evolve. While this is a modest sum, it could nonetheless provide critical resources to fund development investments. The use of market-based instruments can also generate financing for programs that reward different actors for contributing to land restoration. Healthy watersheds generate ecosystem services that benefit a range of economic sectors, such as hydropower and water supply utilities. Initiating payment for ecosystem services arrangements with these sectors and other beneficiaries can help raise resources for land restoration programs while ensuring that the land restoration activities are targeted to generate the required ecosystem services. Additional key actions to promote land restoration include: • Revising watershed management guidelines to better target land restoration activities to increase soil retention, water flow regulation, and carbon sequestration by embedding an ecosystem services-based approach in the guidance. Country Climate and Development Report: Malawi | 5 • Implementing institutional and policy reforms and enhancing government capacity to address property rights and land tenure. • Strengthening and resourcing district-level administrations to decentralize natural resource management and put in place effective conflict resolution mechanisms for property rights disputes. • Stronger legal and institutional frameworks to support climate financing, including establishing monitoring, reporting, and verification systems. Priority 3: Address climate impacts on labor productivity and household livelihoods The second-biggest impact of climate change on the economy is through shocks to labor productivity. Heat stress from climate change can reduce the performance of outdoor laborers, and many of these impacts are already being felt. The largest impacts are in agriculture, because activity in the sector involves mostly outdoor labor, followed by industry and then services. The analysis presented in Section 4 shows that impacts on labor productivity could reduce GDP by as much as 4.6 percent by 2050. The most vulnerable will be more affected; poorer households get most of their income from agriculture and informal labor while richer households rely more on businesses and wages. Even with adaptation measures, negative impacts on labor productivity will remain; one way to reduce them is through structural transformation of the economy, to shift labor away from agriculture and into sectors with fewer outdoor jobs. This, in turn, highlights the need to build human capital and to create new job opportunities. A well-educated population is also more resilient; for example, households are better able to shift jobs in response to shocks to cope with the impacts. As structural transformation will take time, Malawi urgently needs to enhance support for vulnerable households through adaptive social protection programs. The scale-up of the Social Cash Transfer Program (SCTP) is a good start. The SCTP has recently incorporated a scalability mechanism to adjust transfers in response to extreme events, but as more data become available, transfers could be adjusted periodically in line with people’s needs. Government can build on this capacity to expand the SCTP, particularly given additional investments in Unified Beneficiary Registry, enabling e-payments, and the grievance redress mechanism. Similarly, a redesigned enhanced public works program can provide social protection to vulnerable households while building natural capital and increasing resilience, advancing priority 2 to promote land restoration. Social protection programs will not only help households to cope with climate impacts; they will help households to accumulate human capital by protecting children from malnutrition. The takeaway from this CCDR is clear: In Malawi, development and climate resilience are inextricably linked. The analysis shows that development aligned with the Malawi 2063, with additional adaptation investments yields the best outcomes for economic growth, poverty reduction, climate resilience, and Malawi’s debt sustainability. Several measures that advance Malawi’s development and climate goals can also slow GHG emissions growth, mainly by enhancing natural carbon sinks through investments in land restoration and forest protection. Malawi however faces serious fiscal and development challenges, that will limit the country’s ability to implement adaptation measures. But the country can begin to address climate resilience now, starting with the lower cost and high impact priorities identified. 6 | Country Climate and Development Report: Malawi