The issue of clearly defining green finance is not a secondary one. On the contrary, it is central to the debate surrounding the future of the market. In this respect, this chapter provides an assessment of the questions linked to the lack of a clear definition of green finance and of the risk associated. The main approaches today in use in the financial industry for determining which sectors are eligible for green funding are first reviewed. Hence, the main principles adopted to label a financial security as “green” are discussed, in particular as concerns green bonds and green loans. Finally, the different external review options and the risk of greenwashing are treated.
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Climate change mitigation usually refers to efforts to reduce or prevent emission of greenhouse gases (GHG). Climate change adaptation normally concerns the adjustments in ecological, social or economic systems in response to actual or expected climatic modifications and their effects or impacts.
Similar elements are included in definitions developed by non-international organisation or governments. For example, Höhne et al. (2012) define green finance as “a broad term that can refer to financial investments flowing into sustainable development projects and initiatives, environmental products, and policies that encourage the development of a more sustainable economy. Green finance includes climate finance but is not limited to it. It also refers to a wider range of other environmental objectives, for example industrial pollution control, water sanitation, or biodiversity protection”.
Among the most important taxonomies (or similar catalogues) should be mentioned the Bank of China’s Green Bond Endorsed Project Catalogue, the eligibility criteria of EIB’s Climate Awareness Bonds, the Common Principles for Climate Mitigation Finance Tracking developed by a group of multilateral development banks (MDB) together with the International Development Finance Club (IDFC), the sectors eligible for use of proceeds in the framework of Green Bond Principles as developed by the International Capital Market Association (ICMA) and the Climate Bond Taxonomy developed by the Climate Bond Initiative. See also MDB (2015), CBI (2018a), ICMA (2018) and, for the Bank of China’s Green Bond Endorsed Project Catalogue: http://www.greenfinance.org.cn/displaynews.php?cid=79&id=468
In this respect, a particularly relevant comparison of the standards used in green financetaxonomies has been recently developed conjointly by the European Investment Bank (EIB) and the Green Finance Committee (GFC) of the China Society for Finance and Banking in the view of creating the conditions for a possible progressive harmonisation (see EIB and GFC 2017). These institutions compared the different use-of-proceeds classifications under the Bank of China’s Green Bond Endorsed Project Catalogue, the eligibility criteria of EIB’s Climate Awareness Bonds and the Common Principles for Climate Mitigation Finance Tracking developed by a group of multilateral development banks (MDB) together with the International Development Finance Club (IDFC). For the latter, the multilateral development banks involved were: the African Development Bank (AfDB), the Asian Development Bank (ADB), the European Bank for Reconstruction and Development (EBRD), the EIB, the Inter-American Development Bank Group (IDBG) and the World Bank Group (WBG). The MDB and the IDFC are hereafter referred to as MDB-IDFC. The technical conclusions of the EIB and GFC study were:
The Chinese, MDB-IDFC and EIB standards use different categories for the classification of the underlying assets. While the Chinese green bond catalogue, which is largely consistent with the Green Bond Principles (see Sect. 2.3 in the chapter), has a broader scope of green, covering “environmental protection” among others, the MDB-IDFC and EIB standards are focused on “climate change”. However, both standards include areas not included in the other.
Regarding the Chinese standard, within “climate change mitigation”, four categories are not included in the MDB-IDFC standard, namely energy saving on greenfield facility construction for industries with national energy consumption allowance, clean utilisation of coal, ultra-high voltage grid infrastructure as well as urban underground pipeline projects. On the other hand, within the broader scope of the Chinese standard, some items outside the MDB-IDFC standard are included, namely environmental restoration projects, coal washing and processing for the purpose of clean utilisation of coal, cleaner gasoline and diesel and a few aspects of ecological protection and climate change adaptation. These differences are similar between the Chinese and the EIB standard.
When it comes to the EIB standard, as “climate change mitigation”, i.e. “low carbon”, is the scope of both the MDB-IDFC and the EIB standard, the difference between the two lies in what specific categories to cover within such scope. Here the analysis finds that the EIB lending standard is different from the MDB-IDFC standard in its inclusion of nuclear energy. This difference also exists in the Chinese standard, which does not include nuclear energy either.
The MDB-IDFC standard further includes a number of categories not included in the Chinese or EIB standard. As opposed to the Chinese standard, the MDB-IDFC standard specifically includes renewable energy power plant retrofits, wind-driven pumping systems, energy audits to end-users, carbon capture and storage, non-motorised transport, projects producing low-carbon components, as well as a number of aspects of technical assistance. Lastly, the MDB-IDFC standard also includes categories not included in the EIB standard, namely energy efficiency in thermal power stations (coal). Energy efficiency in conventional coal-fired power plants is ineligible for EIB unless it meets specific emission performance standards and is in all cases not counted as “climate mitigation”.
At the EU level, an action has been recently launched by the European Commission. European Commission aiming at establishing an EU classification system (or taxonomy) for sustainable activities is a step in this direction. This initiative resulted in a Report of the Commission Technical Expert Group (TEG) providing a proposed taxonomy for “climate mitigation” and “climate change adaptation” activities (see TEG 2019). For a more detailed discussion, see in particular Chap. 6.
ICMA (2018) also proposes a classification of the different types of green bonds in the market: standard green use of proceeds bonds (standard recourse-to-the-issuer debt obligations aligned with the GBP), green revenue bonds (non-recourse-to-the issuer debt obligations aligned with the GBP in which the credit exposure in the bond is to the pledged cash flows of the revenue streams, fees, taxes etc. and whose use of proceeds go to related or unrelated green projects), green project bonds (project bonds for a single or multiple green projects for which the investor has direct exposure to the risk of the projects with or without potential recourse to the issuer, and that is aligned with the GBP) and green securitised bonds (bonds collateralised by one or more specific green projects, including but not limited to covered bonds, asset-backed securities, mortgage-backed securities and other structures and aligned with the GBP and for which the first source of repayment is generally the cash flows of the assets).
In this respect, the GLP recommend an external review only “when appropriate” and the review may be “partial, covering only certain aspects of a borrower’s green loan or associated green loan framework”. In addition, self-certification can also be an option (see LMA 2018). Such an approach is mainly due to the tentative to diminish the administrative burden for borrowers linked to the issuance of a green loan.
Examples of green rating are S&P’s Global Ratings Green Evaluation and Moody’s Green Bonds Assessment. S&P foresees five classes: GB1 (excellent), GB2 (very good), GB3 (good), GB4 (fair), GB5 (poor). Moody’s considers four main classes (E1, E2, E3, E4) and an overall score out of 100.
One of the most important examples of these reporting standards are the GlobalReportingInitiative (GRI) Sustainability Reporting. These standards help companies to disclose their sustainability information by reporting their impact on the economy, the environment and society, but are also used to identify and manage related risks and find new opportunities. These Standards are composed of three universal Standards (foundation, general disclosures and management approach) that are applicable to all organisations and 33 topic-specific standards that organisations can select and use in economic, environmental and social series. See also (GRI 2016). Other examples of industry standards are the AA1000AS developed by AccountAbility, or the ISAE3000 developed by the International Federation of Accountants (IFAC).
Initiated during the Kyoto Protocol in 1997, the ETS is a European policy plan meant to reduce greenhouse gas emissions through a cap-and-trade system, a system where an overall cap representing the maximum amount of greenhouse gas (GHG) emissions is set for every firm and companies can buy and sell trade carbon permits in order to reach emissions targets. Under this legislation, companies have specific requirements, such as monitoring and reporting on emissions to the regulator, producing annual reports, and obtaining verifications by a certification body. Verifiers generally have both national and international competences. They review GHG emissions monitoring and reporting systems, verify the emissions baseline and the installation’s annual emissions.
Outside of the ETS, many carbon footprint products and services addressing corporate needs are provided by verifiers. Companies can determine the carbon footprint of a specific event, which might not only include direct carbon emissions, but also other types of emissions. Companies can choose to implement and develop a voluntary carbon footprint reporting which can participate in fostering a positive company image.