Under the COP21 Paris Agreement, developed countries are urged to raise the bar for climate financing. The goal is to provide USD 100 billion annually by 2020 to support climate action in developing countries. Nordic financial institutions and climate experts have been a driving force behind the rapidly expanding green bond market, which will be instrumental in attracting private sector climate funding. The Nordic Governments and Nordic Investment Bank are committed to activating private capital in the battle against climate change.
By Páll Tómas Finnsson
The Paris Agreement highlights the importance of the “provision of urgent and adequate finance, technology and capacity building support by developed country Parties” and strongly urges them to increase their level of financial support. During the COP21 conference, green bonds were identified as a promising source of climate financing for cities, regions and governments around the world, and a key instrument to scale up investments that generate low emissions and resilient growth.
“COP21 demonstrated that there’s a strong will from the global community, including the financial sector, to do what it takes to achieve the climate goals,” says Lars Eibeholm, Vice President and Head of Treasury at Nordic Investment Bank (NIB). The bank hosted a debate on “The rise (and risks) of green financing” at the Nordic Council of Ministers’ pavilion at COP21.
Explosive growth since 2008
The World Bank issued the first green bonds in 2008, underwritten by Swedish corporate bank SEB. Since then, the market has experienced phenomenal growth. In 2015, it raised a record USD 41.8 billion according to the Climate Bonds Initiative, bringing the cumulative value of green bonds to approximately USD 100 billion. Despite this, green bonds only make up a small part of the global debt market, which amounts to more than USD 100 trillion.
“Our idea was to create a financial instrument that would enable institutional investors to put their mainstream portfolios into play in respect to climate change,” says Christopher Flensborg, Head of Sustainable Products and Product Development at SEB and one of the architects behind the initial green bonds. “Supply of government debt was low due to the strong fiscal situation, and there was a growing desire to address climate change.”
Flensborg explains that there is no difference in the financial nature of a green bond and a regular one, as the basic principles regarding financial risk, pricing and return profile are similar. The difference is that the issuer has put in place a framework and a governance structure to ensure that proceeds from the bonds are used to fund climate-focused and environmentally friendly projects. Of the USD 100 billion worth of green bonds, 44 have been issued under frameworks developed in partnership with SEB.
“When you talk about green bonds, you’re talking about products that can be handled by people managing money, but when you talk about green finance, you’re dealing with a philosophy that must be addressed by politicians,” says Flensborg. “There’s a big gap in the political discussion about what to do and how to implement this. The green bond allows such an implementation, which makes it a cornerstone in the way we address climate change in the financial sector.”
Nordic Investment Bank expects to double green bond issuance
The green bond market has largely been developed by supranational organisations, including NIB, an international financial institution owned by the Nordic and the Baltic Countries. Since 2011, NIB has issued green bonds worth approximately EUR 1.5 billion, and the bank estimates that the amount will double in the coming years.
NIB’s green bond programme outlines the bank’s selection process, project assessment and reporting mechanisms, and specifies which projects are eligible for green bond financing.
“Our promise to the investors that buy NIB’s environmental bonds is that the proceeds are used for specific green investments that enhance the environment,” says Eibeholm. “The framework has been evaluated by the Norwegian research institute CICERO, and all projects are assessed by environmental analysts in our Sustainability and Mandate Unit.”
“The green bond requirements are a means to measure the money devoted to green investments and to account for our environmental activities,” says Eibeholm. “For the companies, the green bond is a fantastic vehicle to convey the story of a transition away from fossil fuels towards green energy activities.”
Proceeds from NIB’s green bonds finance loans for environmental projects in the following categories, provided that they meet NIB’s eligibility criteria: energy efficiency, renewable energy, public transport, transmission and distribution systems, green buildings, waste management and wastewater treatment. As an example, energy efficiency projects need to achieve an environmental gain of a minimum of 30%, measured in CO2e, to be eligible for funding.
“In the end, investors are looking at return,” Eibeholm says. “If a CO2 tax were to be implemented, companies with a strong production capacity and low emissions will have a competitive advantage. Heavy polluters and those who haven’t invested in green technology will be left with higher production costs and therefore higher risk. Investors are already taking this into account.”
Greater climate ambitions call for coordinated green bond definitions
With the increased investor interest in green bonds and the climate ambitions of the COP21 agreement, the green bond market is expected to multiply in size in the coming years. This underlines the need for coordinated and transparent definitions of the green bonds and the projects eligible for green bond financing.
Norwegian CICERO, Center for Climate and Environmental Research – Oslo, is the leading provider of the so-called second opinions, independent expert evaluations of the frameworks created by the issuer. The second opinion verifies that the green bond proceeds actually finance green projects.
“In 2015, we introduced a Shades of Green methodology that gives investors a better insight into the green bond market and reflects the projects’ climate ambitions,” says Harald Francke Lund, Senior Advisor at CICERO. “Dark green indicates that a 2050 climate solution is being implemented, while light green is used for projects that will only result in a short-term environmental gain.”
“From an investor’s perspective, climate change represents risk, whether regulatory risk related to carbon pricing and other regulation to reduce emissions or costs linked to climate change,” Lund continues. “Our evaluation indicates how well-positioned the framework is in this risk scenario.”
Another important initiative to increase the transparency of the green bond market is the development of the Green Bond Principles, which are voluntary guidelines for the development and issuance of green bonds. The Principles have already been signed by a large number of the key players operating in the green bond market – issuers, underwriters and investors.
“When you move from a small niche market to a market worth USD 100 billion in just seven years, there’s a big need for harmonisation to make sure that the climate financing strategies are all addressing the same products,” says Flensborg. “The Green Bond Principles pave the way for exponential growth of a harmonised green bonds market in the coming years.”
Nordic commitment to increase climate investment
In a joint Nordic statement issued at the COP21 conference, the Nordic Governments, along with a number of the region’s institutional investors and development finance institutions, committed themselves to further developing financial frameworks and instruments to leverage commercially viable climate investments in developing countries. The five Governments will collaborate with investors on scaling up investments in sustainable infrastructure and technology.
According to the statement, “The focus will be on using public climate finance to promote market-based solutions to the challenges of climate change as well as building the knowledge and confidence of private investors in order to leverage private sector investments in climate projects”.
“COP21 demonstrated that there’s a strong will from the global community, including the financial sector, to do what it takes to achieve the climate goals”
Lars Eibeholm, Vice President and Head of Treasury at Nordic Investment Bank (NIB)
Proportion of environmental taxes in total tax revenues in the Nordic countries