Emerging Market Green Bonds

July 20, 2023
Little mantis ready to jump

At a Glance

There is an urgent need to grow green bonds and other debt instruments that promote sustainability to give emerging economies the financing they need to meet climate targets. The market has expanded greatly over the past decade—but it is fragile, with events in 2022 triggering a drop in issuance, although a rebound is expected in 2023–2024, a study by IFC and asset manager Amundi finds. Actions that can be taken to make this asset class more investor friendly include requiring issuers to disclose how the bond helps achieve sustainability targets, more targeted interventions by central banks, and deploying technologies like blockchain to make transactions more transparent. 

Rapid growth in the use of green bonds and other debt instruments that raise money for sustainable causes bodes well for the emerging markets that are striving to overhaul their economies to meet climate targets.

Green, social, sustainability, and sustainability-linked (GSSS) bonds are key to ensuring capital is channeled from international investors to developing countries where it is needed most. And with international efforts to tackle climate change and cut emissions gathering pace, GSSS issuance is set to accelerate in coming years, according to a joint study by IFC and asset manager Amundi.

That will add to the asset class’s impressive expansion over the 10 years since the first ever sales of green bonds—securities that specify proceeds must be spent on environmentally beneficial projects.

But despite the popularity of GSSS securities among both issuers and investors, that growth remains fragile.

The IFC-Amundi report, the fifth edition, shows that 2022 was a troubled year for international capital markets amid growing geopolitical tensions in the wake of Russia’s invasion of Ukraine and tightening monetary policy in major economies responding to a spike in inflation. Global fixed income issuance fell by 26 percent from a year earlier, the study shows. Encouragingly, sales of GSSS bonds proved more resilient, falling a more modest 13 percent.

But this was still the sector’s first-ever annual fall and a significant setback in the context of the 68 percent growth in GSSS sales seen the previous year.

Any decline in GSSS markets is an ominous development because it represents a reversal of private investment flows toward sustainable projects in economies that would otherwise face difficulties funding their own energy transitions.

Still, green bond issuance is regaining the momentum lost last year, according to the report, which predicts sales will bounce back in 2023 to grow 14 percent year-on-year in emerging markets outside China. That acceleration will ease to a more modest 11 percent increase in 2024.

China will act as a drag, however, on account of its slow recovery from the pandemic. Green bond issuance growth for the broader emerging markets category including China will see a 1 percent fall in 2023, followed by a recovery of around 11 percent growth in 2024, bringing the cumulative increase to around 10 percent over the next two years, according to the report’s forecasts.

This highlights an urgent need to boost the viability of the GSSS asset class in emerging markets where local investment is scarce and governments’ fiscal resources are weak in comparison to advanced economies. Failure to underpin these markets will leave developing countries struggling to meet climate targets.

GSSS markets are central to international progress on climate change because they are the most effective mechanism for ensuring private capital is allocated to developing economies. It is essential, therefore, that international development finance institutions act to underpin sustainable finance, deploying resources to backstop risky emerging markets and lure in private investors. As the report highlights, backing synthetic securitizations and shepherding regulatory reforms to make international markets more investor friendly are some of the options available for multilateral institutions to nurture further market growth.

The report also recommends imposing tighter disclosure requirements and pursuing greater harmonization of green investment taxonomies between jurisdictions. This would help overcome a major hindrance to the viability of the asset class in developing economies, namely the higher risk of so-called greenwashing, where issuers misstate the use of proceeds in order to access green finance markets. Tighter regulation and higher standards of disclosure would help combat this and reduce the riskiness of emerging markets in the eyes of private investors.