Greening capital markets in the Eastern Partnership countries: The role of green bond markets

The OECD – one of EU4Environment implementing partners – is launching a new project on greening capital markets in six EaP countries and the role of green bonds in mobilising additional resources for green investments in the region. The aim of this work is to analyse the level of development of the (debt) capital markets and identify what EaP governments could do to effectively introduce and encourage the expansion of green bond markets as a way to leverage traditional banking finance for green projects in these countries.

Capital markets in the EaP region

Initial analysis shows that EaP local capital markets face important difficulties to develop and mature, mostly due to unstable political environments and unpredictable economic developments. There are relatively active bond markets in Azerbaijan, Belarus, and Ukraine but most concentrate on government bonds rather than serving as a source of private sector financing. Institutional investors (pension funds, insurance companies, sovereign wealth funds) usually invest in low or zero-return government securities or bank deposits and play a limited role in financing investments. The number of private equity and venture capital funds across the region is still very limited.

Regular bonds vs green bonds

A bond is a fixed-income debt instrument which allows the bond issuer to raise money (debt) from bond holders against the obligation to repay the debt over a certain period of time and at a certain interest rate. Bonds can be issued by public authorities, credit institutions, companies and supranational institutions in the primary markets.

Bonds are among the key instruments of the capital market traditionally used to raise debt for projects which need a significant amount of financing. Bond finance is a natural fit for low-carbon infrastructure assets, such as renewable energy infrastructure, which is characterised by high upfront capital costs and long-term income streams. Compared to bank lending, bonds provide an alternative and often competitive source of finance for real sector companies. Bonds offer a lower cost of capital, can have longer maturities and are more liquid. The absence or the relatively low level of collateral requirements is yet another attractive feature of bonds.

Green and climate-aligned bonds are similar to regular bonds but their proceeds are explicitly earmarked for green investments. Compared to regular bonds, green bonds represent a considerable innovation through their focus on the green use of proceeds, tracking, impact reporting and external reviews. The features of bonds, in general, and of green bonds, in particular, make them an essential source of finance for green investments that EaP countries could benefit from in order to fund the transition to a low-carbon and resilient economy.

Globally, the green bonds market has grown exponentially over the last 10 years and has moved away from a niche and into the mainstream debt capital market. According to the Climate Bonds Initiative, in 2019, the financing raised globally through green bonds amounted to about USD 250 billion, marking a new global record in the green bonds market. Recently, and particularly as a result of the COVID-19 crisis, demand for sustainability bonds, a hybrid between green and social bonds, has also increased. Such bonds can effectively become yet another source of green finance in the region.

Green bonds in the EaP countries

The EaP countries are lagging behind other regions in the world in tapping into bonds markets to finance green investments. Currently, green bonds markets in the EaP countries are practically non-existent. The lack of bankable green projects has been a major barrier to increased green finance in the EaP countries. EaP governments need to do a lot more to create genuine demand for green investments (e.g. through more stringent environmental regulations, using limited public resources in a smart way, setting risk mitigation mechanisms for investments in new technologies) and start aggregating projects to create bigger portfolios that can attract investors. Demonstrable governments’ commitment to achieving low-carbon transition can motivate higher demand for green financing and the search of new sources of finance such as green bonds.

Published on September 16, 2020


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