Understanding the Role and Impact of Green Bonds on the Financial Sector

Socially responsible investment has become an important role of financial services in the world. One of the latest investments that are available in the market is called “green bonds”, its popularity has taken off the recent years. A green bond is a bond specifically earmarked to be used for environmental and climate activities, meaning green bonds are used to fund projects with clear environmental benefits. To elaborate, green bonds are intended to encourage climate-friendly projects that aimed at pollution control, sustainable agriculture and wastewater management system, clean transportation, climate change adaptation, etc. Green bond market is open to different types of issuers such as government bodies, corporates, and financial institutions.

Understanding the Role and Impact of Green Bonds on the Financial Sector

The market for green bonds has expanded significantly over the past decade. In 2020, the cumulative green bond issuance crossed over $1 trillion and stood at $1.05 trillion, an average annual growth of 60% since 2015. Last year, the United States led the way by issuing green bonds with a total value of $51.1 billion, followed by Germany at $40.2 billion and France at $32.1 Billion. Green bonds are one of the debt finance tools that have been used to increase long-term capital with lower risk in which could bring impacts in the financial sector. Bonds have a critical influence on financial infrastructure in the world ever since the industrial revolution. While green bonds combine both “green” and “bonds” features, it owns some of the basic functions and characteristics of ordinary bonds, helping to reconstruct these infrastructure-related investments into climate-friendly alternatives. Since going green is a popular trend, governments around the globe including the United States are likely to present favorable regulation which could help many green projects and activities. For instance, in May 2013, Tesla Motors issued $600 million convertible green bonds.

The expansion of the environmental protection industry requires a long payback period of investment. Therefore, these industries must have their own specific and unique financing path. The relevant policies of green financing can help to deal with problems that the government faces to some aspect that combined with reform and innovative financial tools.

Green bonds not only provide considerable financial returns than traditional bonds but also provide green returns from their investments. These returns could eventually create a huge social and environmental impact in the financial sector. Moreover, green bonds can increase a large number of funds whose terms are comparably long, therefore green bonds are very suitable for those projects that require mass construction which demands huge returns from the investment for a longer period. In short, the more investment for green bonds, the more climate change awareness continues to expand in society. In addition, compare to regular bonds, green bonds put the requirement of “green” in the first place, the raised funds must be allocated to the use of renewable energy and sustainable environmental projects. Also, green bonds could reduce investment risk arising from the environment and climate change, as green bonds have stricter requirements than ordinary bonds. Consequently, investors will be able to perform low-risk social sustainability investments. Not only that, by comparing bank deposits and bonds, bonds seem to provide more flexibility and profitability to the investors. In the meanwhile, investors are able to enter and exit the bond market easily which will have better liquidity management.

Green bonds are earmarked for green financing and labeled as such, connecting all these trends in the world and play an important role in the bond market for green infrastructure and sustainability projects. For instance, in China, green bonds have been settled down into green urbanization projects and activities such as public transport, green buildings, water, and energy-efficient equipment. These green projects have huge capital costs and relatively stable revenue streams, as well as having a financial profile that could fit well with the preferences of green bond investors. Not only that, green bonds have gained a good achievement in Europe and the US for all of these types of sustainability projects.

Furthermore, there is a statistically compelling benefit, especially for the issuers, when the bond is classified as green. Such benefits can be accomplished by both companies and non-corporate entities such as government agencies and municipalities. For organizations that are issuing green bonds, it might be more costly than normal bonds as they need to be reported from time to time. Although there might be additional costs that need to be taken into account in obtaining a green certification for the issuance, green bonds are considered to have the potential to benefit society, the environment, and also the issuers because they can reduce the cost of financing the debt.

In terms of environmental perspectives, several measures also suggest that their company’s environmental performance has been improved after issuing green bonds. For example, their environmental score has risen 6.1 percentage points on the Thomson Reuter’s ASSET4 scale, in which it is based on more than 250 key performance measurement and indicators such as CO2 emissions, recycling, hazardous waste, water management, etc. By issuing green bonds, they were able to reduce their emissions by 17 tons of CO2 per $1 million of assets.

To conclude, climate change is one of the most tremendous challenges in the world today. Events such as extreme weather and temperature, biodiversity losses, natural disasters, air, and water pollution have become one of the most discussed topics in recent years. The introduction of green bonds in financing environmental-friendly projects since the past decade was almost exclusively government-focused and has represented as one of the most important roles in mobilizing financial resources towards a sustainable and clean environment. This opportunity has been oppressed by financial institutions to promote their absence in global climate change efforts and the fast-growing green bonds market has marked a positive sign in the financial sector of environmental sustainability projects.

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