Given the Paris Agreement and the need for more money for resilience and adaption measures, we thought it’s time to review the situation of green finance in China. This article first appeared on the World Resources Institute’s website on 11 November, 2015 (see here).
With air, water and soil pollution coming to the brink of crisis in China, there’s much interest in shifting to a more sustainable economy. But that’s hard to do when financial sector design doesn’t support it.
“Despite some progress, the financial system hasn’t yet created the right incentives to move…
…But that may be changing”
Despite some progress, the financial system hasn’t yet created the right incentives to move capital from polluting industries to clean sectors on a large scale. Costs to the environment are not accounted for.
For example, the absence of a carbon price and lack of lender’s liability for borrower’s environmental damages means that fossil fuel consumption and related business risks do not easily flow into corporations’ and financial institutions’ risk assessments.
But that may be changing. Today, the Green Finance Task Force of the China Council for International Cooperation on Environment and Development (CCICED), a commission established by the Chinese government and of which WRI’s President Andrew Steer is a co-chair, has released its new report, Green Finance Reform and Green Transformation.
The report lays out clear recommendations for how the national government can put the right institutions in place to help shift investments from polluting to sustainable industries. If the government adopts this set of recommendations, it could help push China forward in its shift to a low-carbon economy.
Andrew Steer’s views on the current status and challenges of green finance in China are in the box below.
Greening Finance: A View from Beijing
China’s thinking in this area is already more advanced that in most countries. The starting point is a recognition that “green finance” is not merely a matter of creating pots of money that will be channeled toward pollution control, renewable energy, etc. Such funds will never be sufficient to shift investment to the extent required. It requires a much more fundamental review of what it would take for financial markets (and all their associated asset pools in banks, bond and equity markets, insurance and pension funds) to advance the major shifts in energy, city design, transport systems, industrial engineering and rural development that will be required for a sustainable future.
Biases against sustainable finance exist on the demand and supply sides of financial markets (in virtually all countries, not just China). First, on the demand side, while there is a huge need for green investment, this is not adequately translated into effective demand through well-prepared bankable projects seeking finance. Such demand can only be created by well-enforced environmental policies and a broad fiscal and regulatory regime that rewards sustainable investment. On the supply side there are two problems.
First, financial markets are not knowledgeable about environmental issues, and fail to incorporate environmental risk in their asset allocation decisions. China is planning to force progress in this area, as a few other countries have done, by making disclosure of environmental risks on the part of banks (which dominate China’s financial system) mandatory. They are also considering requiring liability insurance against potential environmental damage. Both would incentivize the building of capacity in banks to treat environmental risks the way they would financial risks.
Second, financial markets, and especially banks, are highly conservative in their lending practices, giving preference to investments and technologies that are familiar. But now it is the innovative and unfamiliar that needs finance. Building bankers’ confidence to lend for new, greener technologies takes time, and can be encouraged by setting mandatory targets for green investments or through carefully designed subsidies, such as through differentiated discount rates at the Central Bank. Relatedly, our Task Force recommended setting up a large Green Development Fund under the leadership of the Peoples’ Bank of China. By investing equity in major green investments and providing risk management instruments (such as guarantees) and new instruments (such as green bonds), the Fund can be valuable in tapping new asset pools, all of which are encouraged by a changing regulatory and tax regime in China.
The above excerpt is from an article by Andrew Steer, WRI President & CEO, “Greening Finance: A View from Beijing” published on WRI’s website on 12 November, 2015
China Active in the Game Change
Interest in greening China’s financial sector is growing. Since 2007, China has been trying to channel bank loans away from resource- and emissions-intensive industries to green sectors through its Green Credit Guidelines. More recently, a task force led by the People’s Bank of China participated in the UNEP Inquiry into the Design of a Sustainable Financial System. Following the release of the report, the Bank established a Green Finance Committee to organize activities such as developing a green bonds standard, facilitating environmental stress tests for the banking sector, publishing papers on international green finance practices, and organizing discussions on greening China’s overseas investment.
And earlier this year, the Chinese government established the CCICED Green Finance Task Force to push the financial sector even further forward. The Task Force’s recommendations for the Government of China include priority policy changes such as:
- Create enabling legal conditions to encourage behavioral change. These legal measures include changing commercial banking laws to make lenders liable for environmental damages caused by borrowers; mandate environmental information disclosure for listed companies and high-polluting entities; and make environmental insurance compulsory for sectors with high probability of damaging the environment.
- Use fiscal and tax incentives to leverage public finance. This entails establishing an interest rate subsidy for green credits, creating a loan guarantee mechanism supported by public funds for green projects, and using tax incentives to generate revenue from green bonds.
- Set up institutional infrastructure to facilitate green investment. These infrastructure additions include a credit rating system that incorporates environmental factors, a network to move investors towards green investments, a national database on companies’ environmental records, and more.
- Provide financial tools and instruments to scale up green investment. The most important ones in this category are setting up a National Green Development Fund, scaling up green credits from the banking sector, and issuing green bonds.
- Green Chinese overseas investment and China’s emerging investment banks. In addition to encouraging environmental and social risk management with Chinese corporations investing beyond China’s borders, this entails greening the Asian Infrastructure Investment Bank, the New Development Bank, the Silk Road Fund, and the Belt and Road Initiative.
A Prime Time to Go Green
These recommendations come at a critical moment when China is at the center of several changes. China has been selling the Belt and Road Initiative to neighboring countries, and is poised to fast-grow its overseas investment along the routes. China is central to the creation of a number of multilateral institutions and new funds, including the Asian Infrastructure Investment Bank, the New Development Bank and the Silk Road Fund. And in 2016, China will host the G20 Summit. By adopting a greener financial regime, China can influence the outcome of these institutions and is better positioned to spread best practices internationally.
China has an unprecedented opportunity to promote green finance globally
At this historic juncture, China has an unprecedented opportunity to promote green finance globally. The question now is: Will the country capitalize on the opportunity before it?
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