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Waiting for Munich: 2 Policies for Green

17 August 2018
Richard Kemmish

Ahead of the Euromoney Covered Bond Forum in Munich in September, some thoughts on the topics that we will be discussing. On the second Euromoney panel of the day we will be discussing policies for green bonds.


Green is hot. So hot a topic that this year there are three separate panels, two from sponsors, one from Euromoney. The challenge of dividing up these three sessions to avoid overlap (thanks to some flexibility from the sponsors we have managed to achieve this) mirrors one of the problems of the sector as a whole: defining itself.

Firstly, with apologies, I’m being loose with my definitions starting with the title. Green is a (dominant) subset of the wider concept of (let’s call it, for want of an agreed nomenclature) socially responsible investing. But even the word ‘green’ can be subdivided. Bonds to address the implications of climate change differ from bonds to reduce carbon emissions. One is a private good, one public. The case for support is clearly more rational for the latter than the former. 

Then there is the (in my opinion) under discussed subsector of green bonds that are not climate change related – preventing ground water pollution for example. We, as a species, have more than just carbon emissions on the charge sheet. These green bonds too are a public good, but should they be included in a package of measures to support the fight against climate change? 

The green bond principles have done good service in defining a way that bonds can be structured. But they do little to clarify what ‘green’ actually means. Which leads to the inevitable question as to whether they are appropriate across the socially responsible investing spectrum or just in the green corner of it?

This could all be an academic discussion. As long as the sector is constituted as it is currently there is a willingness to tolerate a bit of ambiguity in structuring or outcomes. Asset manager’s mandates are rarely precise.

But this ambiguity is absolutely not acceptable for the next stage: the introduction of incentives for green bonds. These incentives could take the form of some type of tax breaks for bonds. That is legitimate – under classical economic theory - to the extent that the bonds have a public benefit that can not be captured by the private sector players. Although quantifying that benefit may be difficult.

Alternatively, the incentive can take the form of a lower risk weight for the bonds. This can be sub-divided into a lower risk weight that is empirically justified and one that isn’t but is applied for policy reasons.

An empirically justified lower risk weight is difficult to argue with. The E-Map initiative is an excellent one to provide data to justify this (and here is not the place to argue about the causation between lower default risk and spending on energy efficiency. A proven correlation is good enough).

We know that a lower risk weight that is not born out by actual risk data but is applied purely for policy reasons is a whole lot more controversial. Unfortunately, also more important as most green loans will not have the proven risk benefit that the E-Map initiative is investigating.

But any benefits for the sector that come from legislation rather than private sector investment mandates have to be based on much less ambiguity than we have currently.

I’m looking forward to hearing the discussion.

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