Friday

18th Jan 2019

Opinion

The risks behind the 'green bond' boom

  • Will Green bonds make the economy grow while safeguarding the environment - or are they at risk of a 'bubble'? (Photo: Bioeffect)

The EU is currently making significant efforts to play a pioneering role in green financing.

The aim is to adapt the financial system to its ambitions for climate, sustainability and clean energy.

Read and decide

Join EUobserver today

Support quality EU news

Get instant access to all articles — and 18 year's of archives. 30 days free trial.

... or join as a group

Key impulses here were the Climate Agreement of Paris, the Green Finance Study Group of the G20 and the Hamburg Climate and Energy Action Plan of the G19.

Including financial markets in a climate strategy is a logical step with insufficient public funds to finance the necessary investments in green technologies.

At the same time, the financial sector is showing interest in financing green technologies.

Green Bonds are regarded as a key green financial product.

Since the first issuances by the European Development Bank and the World Bank a decade ago, the issuance volume of green bonds has grown enormously.

While a global volume of $3bn was issued in 2012, the issuance volume increased to $157bn in 2017.

The heightened demand for green bonds can be attributed either to greater awareness of sustainability and to the downsides of climate change, but also to the fact that green bonds are more transparent than traditional bonds.

Investors in a traditional bond have limited information on how proceeds are invested, while green bond issuers are allowed to use the funds raised only for green investments. They also document this for the investors.

Definitions needed

However, for such a market to thrive, investors need a definition of green investments and a definition of what a green bond is. In addition, disclosure standards are required so that investors can easily access and compare information about these bonds.

The EU's main effort to strengthen the green bond market is to legislate for a common taxonomy on green bonds and to increase the demand for green bonds through a green supporting factor in bank equity capital regulation, i.e. lower capital requirements for green bonds.

While the taxonomy is relevant to all investors, it was specifically intended to encourage banks to lend money for green investments.

However, this effort must be viewed critically.

Since a bank's equity capital is a limiting factor for lending, the design of capital requirements for banks directly impact demand for specific types of assets of banks.

Since a bank's equity is a buffer against unexpected losses, bank regulation should ensure that banks hold sufficient equity capital relative to their risk.

However, a green supporting factor means that banks will have less equity capital against the unexpected losses of a green bond.

The only rationale for lower capital requirements for green bonds is a lower probability of default compared to traditional bonds.

As long as this is not the case, the green supporting factor would only result in banks being undercapitalised against losses on green bonds.

Political project

As the green bond market is a political project, there is a risk of favouring green bonds in financial market regulation in order to achieve policy goals.

From our calculations, we derive a risk of political intervention to stimulate the demand for green bonds.

The annual green bond emissions would then have to increase by a factor of 45 to finance the potentially required annual green investments of up to $7trn.

To meet the additional investment necessary to achieve the Paris climate target, the annual green bond emissions would have to increase by a factor of 4.5.

In the past, the US made the mistake of using the Community Reinvesting Act to increase housing investment through policy instruments aimed at banks expanding lending to households.

The EU should not make the same mistake and overuse the financial system in order to achieve environmental goals.

The emergence of a green bond bubble and the bursting of that bubble would be detrimental to the financial sector and hinder the achievement of climate targets as investors refrain from investing in which they have previously lost money.

In order to promote green investments, the EU should therefore prefer to rely on existing environmental policy instruments.

Instead of pushing for a rapid growth of the green bond market, the EU should strive for its organic growth.

This should be driven by the market.

To this end, the proposed harmonisation of taxonomy within the EU is a necessary step, as different national taxonomies would hamper the emergence of cross-border green bond markets.

The EU should ensure consistency in the regulatory framework for green bonds with other rules for financial institutions and ensure consistency in the future.

Dr Adriana Neligan and Dr Markus Demary are senior economists at the German Economic Institute, a private research institute in Cologne, which is an advocate of a liberal economic and social order.

Interview

Ex-MEP pushes CCS projects, despite 'wasted money'

Chris Davies admitted that the amendment he wrote to set up a fund to finance carbon capture and storage projects failed because it had design flaws and no one expected the carbon price to plummet.

EU climate diplomacy can make the difference

At this critical time, with climate change increasingly urgent and with reactionary, anti-science forces threatening processes of cooperation, the EU climate mission can reassert the common values and aspirations which Europeans share.

On Morocco, will the EU ignore its own court?

If the European parliament votes in favour of the new Morocco agreement without knowing that it complies with the European Court of Justice judgement, how can it demand that other countries respect international law and their own courts?

Trump's wall vs Europe's sea

Though we would never admit it, the only difference between Trump and the EU is we don't need a wall - because we're 'fortunate' enough to have the Mediterranean.

News in Brief

  1. Another referendum 'would take a year', Downing St says
  2. 82-year old Berlusconi to run in EU elections
  3. EU parliament votes to triple funds for democracy promotion
  4. EU parliament backs linking budget payments to rule of law
  5. Verhofstadt voted for Draghi amendment 'by mistake'
  6. 'Plan B' Brexit vote in UK parliament set for 29 January
  7. Verhofstadt wanted Draghi out of G30 group
  8. Putin heads to Serbia amid warnings against West

Stakeholders' Highlights

  1. International Partnership For Human RightsKyrgyz authorities have to immediately release human rights defender Azimjon Askarov
  2. Nordic Council of MinistersSeminar on disability and user involvement
  3. Nordic Council of MinistersInternational appetite for Nordic food policies
  4. Nordic Council of MinistersNew Nordic Innovation House in Hong Kong
  5. Nordic Council of MinistersNordic Region has chance to become world leader when it comes to start-ups
  6. Nordic Council of MinistersTheresa May: “We will not be turning our backs on the Nordic region”
  7. International Partnership for Human RightsOpen letter to Emmanuel Macron ahead of Uzbek president's visit
  8. International Partnership for Human RightsRaising key human rights concerns during visit of Turkmenistan's foreign minister
  9. Nordic Council of MinistersState of the Nordic Region presented in Brussels
  10. Nordic Council of MinistersThe vital bioeconomy. New issue of “Sustainable Growth the Nordic Way” out now
  11. Nordic Council of MinistersThe Nordic gender effect goes international
  12. Nordic Council of MinistersPaula Lehtomaki from Finland elected as the Council's first female Secretary General

Latest News

  1. Brexit delay 'reasonable', as May tries cross-party talks
  2. MEPs allow Draghi's membership of secretive bank group
  3. EU parliament backs Morocco deal despite row
  4. Barnier open to 'future relations' talks if UK red lines shift
  5. German spies to monitor far-right AfD party
  6. On Morocco, will the EU ignore its own court?
  7. UK parliament rejects May's Brexit deal in historic defeat
  8. EU suggests majority vote on digital tax by 2025

Stakeholders' Highlights

  1. Nordic Council of MinistersNordic design sets the stage at COP24, running a competition for sustainable chairs
  2. Counter BalanceIn Kenya, a motorway funded by the European Investment Bank runs over roadside dwellers
  3. ACCACompany Law Package: Making the Best of Digital and Cross Border Mobility,
  4. International Partnership for Human RightsCivil Society Worried About Shortcomings in EU-Kyrgyzstan Human Rights Dialogue
  5. UNESDAThe European Soft Drinks Industry Supports over 1.7 Million Jobs
  6. Mission of China to the EUJointly Building Belt and Road Initiative Leads to a Better Future for All
  7. International Partnership for Human RightsCivil society asks PACE to appoint Rapporteur to probe issue of political prisoners in Azerbaijan
  8. ACCASocial Mobility – How Can We Increase Opportunities Through Training and Education?
  9. Nordic Council of MinistersEnergy Solutions for a Greener Tomorrow
  10. UNICEFWhat Kind of Europe Do Children Want? Unicef & Eurochild Launch Survey on the Europe Kids Want
  11. Nordic Council of MinistersNordic Countries Take a Stand for Climate-Smart Energy Solutions
  12. Mission of China to the EUChina: Work Together for a Better Globalisation

Join EUobserver

Support quality EU news

Join us