The Potential of Green Finance
SEAN KIDNEY, CO-FOUNDER AND CEO, CLIMATE BONDS INITIATIVE
The October 2018 release of the International Panel on Climate Change's (IPCC) SR15 report exploded any faint illusions that the world still has the comfort of decades to take decisive action on climate. Global emissions have continued to climb when they need to be reducing at 10% per annum, with potentially catastrophic consequences for life on Earth.
The astonishing thing about this is that we know what the solutions are; they are clearly laid out in the report. It involves clean energy, low-carbon transport, energy-efficient buildings, industry and cities, and so on.
There are a plethora of reports estimating the levels of finance in green infrastructure needed through the 2020s to influence outcomes to 2050- 2060.
In March 2018, Christiana Figueres and five other climate leaders called for $1 trillion in green finance by 2020. However, much of what needs to be invested in climate solutions involves a re-directing of existing capital flows rather than new capital.
The OECD estimates that $6.9 trillion a year is required up to 2030 to meet climate and development objectives in its report Financing Climate Futures: Rethinking Infrastructure. It further notes that current energy, transport, building and water infrastructure make up more than 60% of global greenhouse gas emissions, and stresses that an unprecedented transformation of existing infrastructure systems is needed to achieve the world’s climate and development objectives.
The rapid growth of green bond markets provides one optimistic signal about capital investment. In 2018, global green bond issuance was $167.6 billion, with significant growth expected in 2019. Some $600 billion in green bonds is currently outstanding.
While green bonds are not the be-all and end-all of climate finance, their popularity is making it easier to re-finance climate-related investments and thus speeding up the recycling of equity and loan financing.
Issuance needs to be scaled up to help fund the transition from a largely “brown” economy to a “green” one.
One challenge for the nascent market has been a lack of clarity on what are “qualifying” investments. When Chinese regulators kickstarted their green bond market in 2016, they used a “green bonds catalogue” to define qualifying investments, as recommended by the 2015 People’s Bank of China Green Finance Taskforce report.
In June 2018, the EU Technical Expert Group on Sustainable Finance published the draft of an “EU Taxonomy of Sustainable Finance” that provide regulated guidance around investments material to achieving the Paris Climate Change Agreement.10 The guidance is for European banks, investors and for corporates looking to raise funds in the region; there is also a new EU Green Bonds Standard. The European Commission has also convened an alliance of countries promoting sustainable finance to collaborate and coordinate on such measures, including taxonomies. China and India are the two biggest economies involved.
Expert panels on Sustainable Finance have become fashionable. Canada has now published its final report and, in Australia, investor and Environmental, Social and Governance (ESG) groups have sidestepped political inertia and have formed a Sustainable Finance Taskforce.
Regulators have stirred. The central bank-led Network for Greening the Financial System published its first comprehensive report in April 2019. China continues its steps towards greening its financial system. India, Indonesia, the Philippines, Japan, Mexico, Morocco, and Nigeria have introduced green bond regulations or guidelines. The creation of the Sustainable Banking Network of banking regulators is helping efforts to share knowledge and maximise impact.
The UK is acting on its Green Finance Taskforce recommendations to enhance London’s burgeoning role as a green finance hub. The International Capital Market Association has updated the Green Bond Principles; the Loan Market Association’s Green Loan Principles, released in March 2018, could have an even greater impact on how banks finance infrastructure, property and industry. A year on, the International Finance Corporation has announced that it will begin applying the Green Loan Principles to help spur the growth of the $33 billion green-loan market.
Against the ticking clock that SR15 amplified, pressure comes from all quarters to increase climate and green investment. Predictions of annual issuance for 2019 range from $140 billion to $300 billion. However, to be making any substantive contribution, the market needs to see issuance of at least a trillion a year – a big benchmark for banks, insurers and corporates to deliver.
The public scrutiny of those not investing in green instruments, nor contributing to the transition to a low-carbon economy, is increasing. In many countries the recommendations of the Task Force on Climate-Related Financial Disclosure are being translated into formal guidance or regulation for the financial sector that make the environmental aspects of investment decisions more visible. Investors face growing scrutiny about the extent of their pro-active investment in the transition as well as the extent of their exposure to what are beginning to be seen as dying industries.
At the same time, investors are pushing harder on the world’s largest emitters. The Climate Action 100+ initiative, one of the projects that forms the ‘Investor Agenda’, has established a line of corporate governance engagement between a $32 trillion coalition of institutional investors and the 160 largest global emitters.
Speeding the brown-to-green transition is one of the end points of this engagement. This means moving attention from risk assessments and statements of intent to actual investment from large emitters. An investor letter to EU power industry generators, grid operators, and distributors reflects this coming focus, calling for capital expenditure plans ‘compatible with the Paris Agreement’ and, in time, with a zero-carbon economy. Metals, mining, chemical and cement industries will face similar calls in the near future.
Brown-to-green transition in practice means large companies straddling both brown and green assets. The sooner investor pressure results in greener capital expenditure, the better. The first deals from high-carbon emitters may be greeted with cries of ‘greenwashing’, but this will be tempered by confirmations that investments go to EU Taxonomy qualifying sectors.
Some of the world’s biggest banks have issued benchmark-sized green bonds – Bank of America, HSBC, Barclays; In China, ICBC, Bank of China, and China Construction Bank have issued large Certified Climate Bonds. A range of top 100 banks in Australia, Canada and Europe have also issued green bonds. Eleven of the Top 15 green bond underwriters are green bond issuers.
While some banks are extending their green bond efforts to green loans, green mortgages and other retail and corporate banking and investment products; more need to do so. Those that do not, will, in time face scrutiny from institutional investors and civil society around their licence to operate.
A banking sector that collectively can still hold trillions in brown investments around the world but cannot make its vital contribution reaching the first trillion of green should expect no less.
Nation states as sovereign issuers of green bonds also have a major role. Chile, Egypt, Kenya, Sweden, Denmark, and even Germany have foreshadowed green sovereign issuance. Treasuries and Finance ministries can deploy green bonds to finance NDCs under the Paris Agreement and raise the country’s green profile for investors, but, more importantly, sovereign issuance provides benchmark pricing and liquidity to support the growth of nascent corporate green bond markets.
The coming years will see a strengthening of grassroots calls for more nations to act. We are not on track to limit temperature growth under 2°C; rather, we are on track to reach 3°C or much more.
The impacts already in the planetary system are worse than we thought. The trillions of dollars needed through the next decade to support low-carbon growth paths in China, India, Africa and Latin America are not yet in sight. The revolution we are seeing in green finance has the potential to change that. It’s essential for our future that this potential is realised.
Read the Sustainable Finance Report here.