Borrowers use green loans to finance or refinance green projects. Green loans are similar to green bonds in that they raise capital for environmentally sustainable projects, but they differ in size and in how the funding is raised. Funds for bonds come from the investor market, while funds for green loans come from a bank or private operation; the amounts tend to be smaller than for a bond.
For a project to be labelled as green,
- the eligible green project categories should be set out in the use-of-proceeds section outlined in the loan framework;
- the information/covenants relevant to the green projects should be identified in the facility agreement; and
- the borrower should be under an obligation to represent the accuracy of any reporting.
The issuance of green loans should follow the Green Loan Principles published by the Loan Markets Association in 2019 and updated in 2023. These principles recognize broad categories of eligibility, including climate change adaptation projects such as climate observation and early warning systems, climate-smart agriculture, and protection of coastal environments. Borrowers are expected to report on the use of proceeds, including a list of projects to which the loan proceeds have been allocated, the amounts allocated, and the expected and achieved impact.
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;
- social infrastructure – education; health facilities; and
- industry and manufacturing.
Additional insights:
- This is an emerging instrument, with the first green loan market beginning in 2016 in the United Kingdom, with Lloyd’s Bank earmarking loans for green real estate companies.
Considerations for issuing a green loan:
- The instrument is not widely used in developing countries, which accounted for USD 1.6 billion of the estimated USD 33 billion in outstanding green loans in 2021 (World Bank, 2021).
- Borrower- and/or project-funded loans should meet credit and default risk thresholds.
- Loans are not appropriate for all borrowers, especially borrowers that may not be able to take on additional debt.
- Guarantees may be needed to increase lenders’ confidence in green loans issued in developing countries.
Adapted from the following sources:
Loan Market Association. (2023). Green loan principles. https://www.lma.eu.com/application/files/8916/9755/2443/Green_Loan_Principles_23_February_2023.pdf
World Bank. (2021, October 4). What you need to know about green loans. https://www.worldbank.org/en/news/feature/2021/10/04/what-you-need-to-know-about-green-loans