By: Naoyuki Yoshino & Farhad Taghizadeh-Hesary
Increasing the share of green energy resources in energy baskets would not only reduce emissions—in line with the sustainable development goals (SDGs) and the Paris Agreement—but it would also increase energy security. However, several developed and developing economies are still following pro-coal energy policies, and the extra CO2 generated by new coal-fired power plants could more than wipe out any reductions in emissions made by other nations. In 2018 and 2017, global investment in renewables and energy efficiency declined by 1% and 3% respectively, and there is a risk that it will slow further; clearly, fossil fuels still dominate energy investment. This could threaten the expansion of green energy needed to provide energy security and meet climate and clean air goals. Given these conditions, if we plan to achieve the SDGs, we need to increase the scale of the financing of investments that provide environmental benefits, through new financial instruments and new policies, such as green bonds, green banks, carbon market instruments, green central banking, fintech, and community-based green funds—collectively known as green finance.
Why is the private sector not showing enough interest in green investments?
The private sector has not demonstrated much interest in entering into long-term financing of infrastructure projects, including green energy projects, due to the low rate of return and the existence of various risks. In addition, for developing the green sector, there are three other challenges to be faced: identifying the right projects; developing complex plans that involve both the public and private sectors (and often more than one country); and structuring the financing. To succeed, governments must be capable of effective long-term planning, budgeting, and project implementation. The world needs massive investment in green energy systems and an end to the construction of new coal-fired power plants. It also needs massive investment in electric vehicles (and hence advanced battery technologies), together with a sharp reduction in production of internal combustion engine vehicles.
How can we fill the green finance gap?
In recent years, several new methods for financing green projects, such as green bonds, green banks, and village funds, have been developed and introduced. These methods do provide some support for the development of green projects, but the data suggest they are inadequate.
Clearly, fossil fuels still dominate energy investment. Because of the restrictions that the Basel capital requirements place on lending by financial institutions, and because banks consider green projects to be risky, banks are reluctant to finance them. Another problem is that banks’ resources come from deposits, and deposits are usually short to medium term, whereas green infrastructure projects require long-term finance, resulting in a maturity mismatch for banks. Banking finance cannot therefore provide all the finance for green projects, and we need to look for new channels of finance for this sector to fill the financing gap. Bank lending has to be allocated to safer sectors and businesses.
One possible solution is to stimulate non-bank financial institutions, including pension funds and insurance companies, to invest in green projects. Insurance companies and pension funds hold long-term financial resources that are suitable for green infrastructure investment. Institutional investors are the largest suppliers of capital to listed companies, managing almost $100 trillion of assets in OECD countries alone. Green energy supply will produce many economic benefits (spillover effect) that will induce higher production and a higher standard of living to communities. Spillover tax revenues will be created for governments, a part of which can be returned to green investors for increasing the rate of return of their projects. A higher rate of return can attract long-term institutional investors.
Another important factor that needs to be considered when it comes to filling the green financing gap is the role of green central banking. Responsibility for financial and macroeconomic stability lies implicitly or explicitly with central banks, which ought, therefore, to address climate-related and other environmental risks at a systemic level. Furthermore, central banks—through their regulatory oversight over money, credit, and the financial system—are in a powerful position to support the development of green finance models and enforce adequate pricing of environmental and carbon risk by financial institutions.
Our Handbook of Green Finance
These solutions, in addition to several other practical solutions with case studies from the real world, are brought together in the Handbook of Green Finance: Energy Security and Sustainable Development. The handbook consists of 12 parts, 29 chapters, and 718 pages. It is the first handbook to explain ways to finance green projects for implementing SDGs in the context of the 2030 Agenda for Sustainable Development. This handbook is the result of almost 27 months of teamwork by a group consisting of 58 leading scholars, policymakers, and practitioners. By providing several thematic and country chapters, the handbook explains that if we plan to achieve sustainable development goals, we need to create opportunities for new green projects and increase the scale of financing of investments that furnish environmental benefits. New financial instruments and policies such as green bonds, green banks, carbon market instruments, fiscal policy, green central banking, fintech, and community-based green funds are among the chief components that make up green finance.
The following three chapters will be available for free access during the month of August 2019:
Chapter 1: Importance of Green Finance for Achieving Sustainable Development Goals and Energy Security (Jeffrey D. Sachs, Wing Thye Woo, Naoyuki Yoshino, and Farhad Taghizadeh-Hesary)
Chapter 5: Central Banking, Climate Change, and Green Finance (Simon Dikau and Ulrich Volz)
Chapter 16: Role of Hometown Investment Trust Funds and Spillover Taxes in Unlocking Private-Sector Investment into Green Projects (Naoyuki Yoshino and Farhad Taghizadeh-Hesary)
Naoyuki Yoshino is Dean of the Asian Development Bank Institute and Professor Emeritus at Keio University. Farhad Taghizadeh-Hesary is Assistant Professor at Waseda University. With Jeffery Sachs (Center for Sustainable Development at Columbia University) and Wing Thye Woo (University of California, Davis), they are Editors of the Handbook of Green Finance: Energy Security and Sustainable Development.