Fintech on Friday: Digital revolution heralds dawn for green finance
The recent Leaders’ Summit on Climate saw an historic exchange of virtual messages between East and West. US president Joe Biden pledged to cut carbon emissions by more than 50 per cent below 2005 levels by the end of this “decisive decade”. Chinese president Xi Jinping prioritised commitment to “harmony between man and nature”.
What is fast becoming clear is the key role financial services must play in realising the politicians’ promises. Climate change and sustainability are global concerns, bridging cultures and nationalities. Green infrastructure has, in turn, developed into a critical piece to this puzzle, fuelled by green bonds.
The contemporaneous development of digital assets and core fintech capabilities completes the equation as smart, green financing options continue to enable a revolution in climate solutions.
Finding the money
In 2020, $350bn worth of green bonds and $105bn of socially responsible bonds were issued worldwide. But according to the Climate Bond Initiative (CBI), climate solutions alone will require $100tn of potential bond financing. To reach this goal, green projects cannot rely on institutional and sovereign investment alone. It must tap into global capital markets.
However, among key obstacles to attracting global investment are concerns about compliance and large investment sizes of infrastructure projects. While there are some quality controls, such as CBI’s Climate Bond Standards, traditional capital markets have not provided the kind of transparency or disclosure requirements necessary to enforce these standards.
‘Greenwashing’ has proved rampant. Many issuers rush to reap benefits of ‘green’ projects, while failing to deploy funds to fulfil green mandates. Intended use must be connected to actual use, through effective monitoring and enforcement. So, while the need is clear, investment has been relatively scarce.
Global ecosystem
The dawn of digital bonds brings with it financial innovation, providing new, global channels for investment resources and liquidity that promises to create a true global financial ecosystem for green finance.
Transaction costs may be reduced by up to 90 per cent, while operating efficiency and market depth are simultaneously improved, generating more attractive net returns and reducing repatriation risk for investors.
Operational advantages will allow digital investments to be divided into arbitrarily small sizes, allowing participation by the masses in an area previously the sole responsibility of mega-corporations, institutions, and sovereign entities.
Smart contracts can fully automate processes, while big data and AI ensure real-time investment and risk management services. In 2020, one early mover, Singapore-based food/agriculture giant Olam International, issued S$400m ($300m) of digital bonds.
Blockchain promises to play a core role, owing to its transparency, immutably, and traceability. Investors can confirm use of capital in real-time as regulatory bodies will likewise be able to monitor green activities to ensure that intended use translates directly into actual use.
Smart contracts will simultaneously highlight clarity and consensus as to contract details, automate the distribution of remuneration, and automatically activate/execute contract covenants and penalties in the case of any violations. With transparency and compliance enabled in this way, investment risk reduces dramatically, providing a safe investment environment, with reduced risk that allows for exceptional monitoring capabilities by both investors and regulatory bodies.
Furthermore, transactions and repatriations can be executed virtually, in real-time, even potentially currency-free, eliminating sovereign and system-based barriers to investment.
In 2020, President Xi announced to the UN General Assembly China’s intentions to become a carbon neutral country by 2060. In 2019, China issued $59bn of green bonds. However, according to the CBI, only half of that complies with international standards, owing mostly to inability to monitor use of capital.
Going forward, China has developed the Blockchain Service Network (BSN), signalling the arrival of a new financing ecosystem across China and, eventually, throughout the Belt and Road and Regional Comprehensive Economic Partnership (RCEP), as well.
A way forward
The global nature of climate change and sheer magnitude of investment needed to address it, alongside other social responsibility initiatives, requires full, global engagement. Relying solely on a few global institutions and sovereign entities will simply not suffice and efforts, to date, have fallen woefully short.
But fintech offers a way to activate and enable global standards, to engage the world as a whole, to allow both institutions and individuals to participate in a relatively low-risk/low-cost system, that can be closely monitored, providing full transparency along with market-driven returns. In short, it gives us a way to invest in green initiatives and tackle cross-border issues as a true global community.
Charles Chang is director of the Fintech Research Center, Fanhai International School of Finance, Fudan University, Shanghai
