A bond is a type of loan in which the issuer borrows money from the bondholder or buyer of the bond. The issuer repays the loan sum plus interest on an agreed-upon schedule.
Green bonds are bonds in which the issuer commits to investing the proceeds raised by the bond issuance to investments in projects with environmental benefits, also referred to as green projects.
The Green Bond Principles issued by the International Capital Markets Association, are voluntary guidelines for the structure and management of green bonds. As outlined in the principles, a core component of a green bond is the use of its proceeds for projects that have clear environmental benefits, which are to be assessed and, if possible, quantified by the borrower/bond issuer. The use of proceeds should be described in a legal document that clearly identifies the types of projects eligible to be funded from the bond proceeds. Adaptation-aligned project categories from the Green Bond Principles include the following (International Capital Market Association, 2021):
- Environmentally sustainable management of living natural resources and land use (including environmentally sustainable agriculture; environmentally sustainable animal husbandry; climate-smart farm inputs such as biological crop protection or drip-irrigation; environmentally sustainable fishery and aquaculture; environmentally sustainable forestry, including afforestation or reforestation, and preservation or restoration of natural landscapes);
- Terrestrial and aquatic biodiversity conservation (including the protection of coastal, marine and watershed environments); (…)
- Sustainable water and wastewater management (including sustainable infrastructure for clean and/or drinking water, wastewater treatment, sustainable urban drainage systems and river training and other forms of flooding mitigation); [and]
- Climate change adaptation (including efforts to make infrastructure more resilient to impacts of climate change, as well as information support systems, such as climate observation and early warning systems). (pp. 4–5)
Other types of eligible projects under the Green Bond Principles that could provide climate adaptation benefits are listed below.
Current or potential adaptation-relevant sector applications:
- crop and food production—including agroforestry; livestock production; fisheries (marine, freshwater, and aquaculture); irrigation;
- ecological services and management—forest management (including afforestation and reforestation); wetlands; ecosystem and biodiversity protection, conservation, and enhancement;
- water supply (infrastructure)—water storage; water harvesting; water management;
- coastal and riverine protection and management—coastal defences or flood protection barriers; river flood protection measures;
- disaster risk reduction—early warning and observation systems;
- energy infrastructure—energy generation (including renewables);
- transport infrastructure;
- other built environment and infrastructure—urban development; tourism (infrastructure); wastewater systems;
- social infrastructure—education; health facilities; and
- industry and manufacturing.
Additional insights:
- This is the most mature of the sustainability-related bonds. The European Investment Bank issued the first green bond, branded as a Climate Awareness Bond, in 2007 to respond to growing interest in committing capital to address green challenges.
- Other labels, such as blue bonds, climate resilience bonds, social bonds, and sustainability bonds, are green bonds that set out specific objectives and signal to investors their focus on specific objectives. The frameworks for some green, social, and sustainability bond issuances define eligible projects as including adaptation or climate resilience. As such, these types of bonds can support climate resilience investments.
- The frameworks for many sovereign bond issuances define eligible green projects as including adaptation or climate resilience (e.g., sustainable water management, sustainable agriculture, irrigation). For example, Argentina, Egypt, France, Indonesia, the Netherlands, and the Philippines have included adaptation components in their green bond frameworks.
- Green bonds have started to gain traction across developed country markets. However, they are still considered a niche market, with green, social, and sustainability-related bonds making up about 8.9% of all bond issuances in 2022 (Organisation for Economic Co-operation and Development [OECD], 2023).
- Developing countries are lagging with respect to the use of targeted bond issuances; in 2022 only 13% of green, social, and sustainability-related bonds were from issuers in developing countries (with the figure declining to about 5% if China is not included) (OECD, 2023).
Considerations for issuing green bonds:
- A robust pipeline of green projects must be available for proceeds of the green bond to fund.
- Bonds are not appropriate for all borrowers/issuers, especially in countries that may not be able to take on additional debt.
- Guarantees may be needed, or a higher rate of return offered, to offset (real or perceived) risk and increase investors’ confidence in bonds in developing countries.
- Most green bond issuances in developing countries have technical assistance support from multilateral development banks that act as market enablers.
Adapted from the following sources:
Climate Bonds Initiative. (2021). Green bonds for climate resilience: State of play and roadmap to scale. Global Center on Adaptation and European Bank for Reconstruction and Development. https://gca.org/wp-content/uploads/2021/10/Green-Bonds-for-Climate-Resilience_State-of-Play-and-Roadmap-to-Scale.pdf
International Capital Market Association. (2022, June). Green bond principles: Voluntary process guidelines for issuing green bonds. https://www.icmagroup.org/assets/documents/Sustainable-finance/2022-updates/Green-Bond-Principles-June-2022-060623.pdf
Organisation for Economic Co-operation and Development. (2023). Green, social, sustainability and sustainability-linked bonds in developing countries: The case for increased donor co-ordination. OECD Publishing. https://www.oecd.org/dac/green-social-sustainability-bonds-developing-countries-donor-co-ordination.pdf