What are Green Bonds, and How Do They Work:
Let’s understand Green Bonds!! Sustainability is currently at the forefront of many corporate goals. Now more than ever, climate change has become an essential topic across countries and international organizations. This is unsurprising, as the effects of climate change are widespread. However, the increased awareness of sustainability has also created a market need,particularly in the financial sector.
More companies and individual investors are seeking ways to use the financial sector to become more environmentally responsible. This need led to the development of green bonds.
What are Green Bonds?
Put simply, green bonds are financial instruments used to raise money for existing or new environmentally responsible projects. They are bonds used to fund projects that either contribute to reducing carbon emissions or have significant social benefits.
This means that climate bonds and green bonds are not the same. Climate bonds are financial instruments that strictly raise funds for climate-related projects. On the flip side, green bonds fund projects relating to sustainability. This includes renewable energy projects, conservation, responsible waste management, and agriculture.
There is another category of bonds called blue bonds. While blue bonds are also related to environmental sustainability, the projects they fund are ocean-related.
Over the years, the popularity of green bonds has skyrocketed. According to S&P Global, bond issuers sold green bonds worth $443.7 billion in 2022 alone. The World Bank is one of the world’s most prominent green bond issuers. The Bank has issued about $18 billion in green bonds since 2008.
How Do Green Bonds Work?
Green bonds work like regular bonds. Essentially, borrowers (government or corporate institutions) issue bonds to raise funds for environmental projects in areas like carbon capture and pollution reduction. Once the bond is issued, the issuer pays specific interest payments to the investor. Upon the bond’s maturity, the issuer pays the face value of the bond.
Problems of Green Bonds
Like every other financial instrument, green bonds have their downsides. These include greenwashing, complexity, and lack of transparency. However, greenwashing is the most common challenge with green bonds.
Greenwashing occurs when issuers present green bonds as more environmentally responsible than they actually are. For instance, issuers can sell bonds that support projects that are not necessarily climate-friendly or sustainable. Yet, investors will buy such bonds under the impression that they are contributing to the sustainability drive.
Some countries have taken legal steps to reduce greenwashing. For instance, the United Kingdom recently released its proposed rules on investment labels. The regulations require that financial institutions place the appropriate tag on their green products to avoid misleading investors.
Green bonds are undoubtedly a revolutionary financial instrument. However, their environmental benefits can only be reaped with appropriate regulation. Thus, more countries need to pay attention to regulating green bonds and ensuring that the funds raised are directed toward environmental projects.