We only have one planet, and as a society, we have crossed the tipping point of the demands we make on it. The problems we face are complex, and by not fixing the imbalances, the dangers that face us threaten our very existence. But with any challenge that seems so big, there lies an opportunity to do things better. We are all vulnerable to environmental risks, but those who live in poverty face more extreme consequences.
In 2008, the World Bank launched the “Strategic Framework for Development and Climate Change” to help stimulate and coordinate public and private sector activity to combat climate change. The World Bank Green Bonds are an example of the kind of innovation the World Bank is trying to encourage within this framework, today, a US$500+ billion market.
Green bonds are financial instruments that finance green projects and provide investors with regular or fixed-income payments. Over the last 14 years, green bonds have become an important tool for addressing the impacts of climate change and related challenges. Clean water and food security are at risk in the world today, and about 1 million of the world’s 8 million animal and plant species face extinction. Climate change threatens communities and economies, and it poses risks for agriculture, food, and water supplies. A lot of financing is needed to address these challenges. It’s critical to connect environmental projects with capital markets and investors and channel capital towards sustainable development and green bonds are a way to make that connection.
The increasing number of research and patents in blockchain discussing the use of Blockchain for Bonds, particularly Green Bonds, proves the impact of distributed ledger technology to help scale climate action.
In February 2019, the first “Blockchain Green Bond” was issued by BBVA. Similar to the World Bank, BBVA used the technology primarily to simplify processes and streamline negotiation timeframes with investors. The financial sector has been experimenting with Distributed Ledger Technology (DLT) for several years like well-known Corda (known as CorDapps) ecosystem started development in 2015 with a large number of financial institutions, completing its first live securities lending transaction on the platform between Credit Suisse and ING in March 2018. Later in the same year, the World Bank in partnership with Commonwealth Bank of Australia, issued the first “Bond” using Blockchain.
The application of DLT on Green Bonds can be broadly used in these areas:
- Structuring, issuance and distribution
- Transfer of ownership, payment and settlement
- Benchmarking and reporting
The first two areas are applicable to all bond types. As demonstrated by examples from the World Bank and BBVA, these areas represent the main areas explored, while the area of benchmarking and reporting opportunities are yet to be realized.
Although technology and proof of concepts are moving fast, regulatory aspects are still lacking behind. Countries like the UK, USA, Switzerland, Luxembourg, Germany, China, Japan, and Singapore are among those more engaged in the readiness process that will help advance the use of blockchain across all areas of a bond.
Efficiency improvement comes as an important aspect of cost reduction. Blockchain can help reduce the number of actors involved in the bond process. Not only does it facilitate immediate distribution with smart contracts and handle complex rules for competitive bidding, but it can also reduce reconciliation activities with cryptographic signatures, remove the need for anti-fraud or error checks, and improve settlements from 2-3 days settlement period to instant.
Although cost reduction alone represents a great opportunity to adopt DLT, many other benefits offer even greater opportunities to the Green Bond market. ex: enhanced “credibility” can totally transform current practices as DLT is combined with other data technologies such as the Internet of Things (IoT), which can allow investors to have direct and real-time access to the environmental impact of their investments like streamlining reporting and benchmarking activities
The data provided by these digital ecosystems offers the opportunity for fragmentation of green asset ownership or the aggregation of many smaller assets into a bond. This type of innovation can potentially democratize access to sustainable finance. This means that anyone could potentially become an investor in sustainable assets, projects, or activities.
“ As the green bond market has led the way for other types of environmental financial products, we hope that this foray into using blockchain for impact metrics can be the start of mainstreaming work around digital tokens for environmental impact and natural capital.”
-Ashley Schulten, head of responsible investing for Global Fixed Income at BlackRock
The concept of “Bonds as a Service” aims to increase accessibility to bond issuance via the use of automation and digitization. But there is a need for more research and development to ensure that any vulnerabilities are not exploited; for example, code weaknesses have been exploited by bad actors, and deficiencies in existing DLTs are addressed.
Green bonds are ascending in terms of popularity as the world aims to Build Back Better in the recovery from the COVID-19 pandemic, with their growth beating even the most optimistic expectations. Issuance of green, social, sustainable, and sustainability-linked bonds doubled in the first half of 2021, and in some cases tripled compared to the same period a year earlier, according to the Financial Times. Sustainability bonds, issued to finance or refinance green and social projects, have done even better, surging from $71 billion throughout 2020 to $90.4 billion in the first half of 2021 and expect to perform similarly in 2022. Less widespread but also fast-growing are sustainability-linked bonds. These set specific sustainability performance targets that increase bond interest due if the beneficiary does not meet them. Targets might include the number of recycled materials used in manufacturing by a certain date or the share of renewable energy generated by a utility. In 2021, $40 billion have been launched, compared to $9 billion in 2020. Similarly, social bonds, which raise money to promote positive social outcomes, tripled in value in 2021 compared to 2020, according to the Financial Times.
Yet while the market for green bonds has expanded compared to financial markets as a whole, we are talking about a drop in the ocean. Finance with distributed ledger technology drives change and moves us to a more sustainable future. As blockchain technology continues to disrupt the finance sector through decentralization, immutability, and cost/capital efficiencies, we should be proud to be part of this revolution. The pandemic taught the entire world how we can do things differently, with blockchain technology bringing more transparency and innovation into the financial space and notably green bonds while reporting so that investors can see the social value that their decisions are having. We can anticipate in the near future that levels of green bonds and the alignment of countries across the world will be very positive. We are on this journey together. If we all choose to make a positive contribution, we can make the world a better place for everyone.
