If China can take the world of green bonds by storm, can Southeast Asia?
A 2 billion ringgit ($507 million) securities issue by Permodalan Nasional, an asset manager controlled by the Malaysian government, in November marked the first use of the new Association of Southeast Asian Nations' Green Bond Standards. ASEAN's green debt market could eventually rival that of China, the world's biggest such issuer, but only if the region's governments more actively promote the market.
If considered as a single entity, ASEAN is one of the largest economies in the world. Much like China, it has experienced strong growth while grappling with a host of pressing environmental challenges including air pollution, water scarcity, natural resource depletion and deforestation. There is huge potential for green financing within the bloc.
A recent report by the U.N. Environment Programme and Singaporean bank DBS forecast that demand for additional green investment in ASEAN between 2016 and 2030 will reach $2 trillion to $3 trillion. Such funding would provide the region with money to build and upgrade infrastructure, accelerate its transition to renewable energy, achieve greater energy efficiency, develop sustainable agriculture and manage land-use impacts. Assuming that the public sector foots 40% of the bill, about $1.2 trillion to $1.8 trillion private-sector support will be needed.
Green bonds represent an efficient and risk-controlled way to attract regional and international capital to fund these extraordinary transition investment needs. Green bonds are distinguished from other bonds in that proceeds are used to finance projects bringing environmental benefits or are backed by green assets such as low-carbon transportation systems.
Permodalan's bond, which will finance the construction of the environmentally friendly Warisan Merdeka Tower in Kuala Lumpur, is just one example. Since 2009, ASEAN entities have issued just $1.85 billion worth of green bonds, so substantial potential remains.
For that potential to be realized, market standardization is a prerequisite.
The ASEAN Green Bond Standards, which are well-aligned with the internationally recognized Green Bond Principles published by the International Capital Markets Association, the current gold standard for responsible investment, represent a positive development. By setting out reporting guidelines for issuers, these standards encourage transparency and facilitate international participation, providing the impetus required to fuel the long-term development of the green bond asset class in ASEAN.
China's advance
The pace at which China embraced green bonds caught the world by surprise. Banks and companies were quick to tap the asset class after guidelines covering key market sectors were published by the People's Bank of China in December 2015 and the National Development and Reform Commission a month later. In 2016, China accounted for nearly 40% of global green debt issuance, with the U.S. and E.U. nations accounting for the bulk of the rest.
While some expected China's level of demand to be short-lived, appetite for green bond issuance has been sustained. China last year narrowly topped its 2016 issuance total, with $36.4 billion of new green bonds, according to the Climate Bonds Initiative, but fell behind the U.S. in the overall rankings.
Southeast Asian governments will have a critical role to play in propelling ASEAN's green bond market to the same heights as China's. Policymakers have a wide array of tools at their disposal to fuel the market's development.
The first, and perhaps most obvious tool, is that they can simply get in on the action. Governments can issue sovereign green bonds, following the example set in Europe, where France and Poland have been quick to take the leap.
Credit insurance and guarantees from government or sub-sovereign agencies would prove effective in lowering the potential risks and costs of issuance, in turn spurring green bond issuance and investor participation.
ASEAN governments can also encourage market growth by setting out clear investment guidelines for public pension funds and other state funds, development banks and state agencies. Channeling public money into green bonds would increase the liquidity of these instruments, and in turn, their appeal to investors and issuers alike.
Regulatory bodies also have an instrumental role to play. They can and should bring their views to the debate over reporting requirements, third-party review procedures and the need for international consistency in green bond markets.
Officials can also establish direct links between their countries' green bond issues and their commitments under the U.N.-backed Paris Agreement on tackling climate change. Governments can position green bonds as integral elements of delivering their commitments and facilitating the global shift toward a lower-carbon pathway.
Motivational skills
The good old "carrot and stick" approach has proved its worth and should also be part of regulators' toolkits. Incentives are always welcome when markets are in their infancy. There is significant potential for officials to make the asset class more attractive by offering tax reductions to issuers and investors or by underwriting some of the extra costs involved.
Some ASEAN government bodies have already introduced such incentives. The Monetary Authority of Singapore's green bond grant scheme offers issuers up to 100,000 Singapore dollars ($76,000) to offset the extra costs associated with external reviews to meet green bond standards. In Malaysia, issuers of Islamic debt instruments under the Sustainable & Responsible Investment Sukuk framework are entitled to certain tax deductions. Other ASEAN markets should take note.
Sanctions will also have a role to play. Regulators need to ensure that ASEAN issuers observe the requirements set out under the new green bond standards. "Greenwashing" -- the practice of financing unsuitable projects through green bonds -- constitutes a real threat to the credibility of the market, and it is critical that regulators punish issuers who fail to follow through on their pledges. Environmental integrity will be key to the long-term success of green bond markets.
The establishment of the ASEAN Green Bond Standards represents a critical step in the development of the market, but it needs to be coupled with a more proactive approach from policymakers across the bloc. The role of governments should not be understated; only they can create the conditions conducive for local champions to generate the steady stream of green bond issuances required to accelerate the transition of their economies to green growth.
For all that, the onus is not on policymakers alone. Issuers will need to match words with action, translating their green pledges into deeds. Investors also have a part to play, by stepping up demand for green products.
Chaoni Huang is director for green and sustainable solutions in the corporate and investment banking division of Natixis.
