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Green Investment Institutions: International Experience in Developing Green Finance

On August 31, 2016, seven Chinese ministries jointly issued the Guidelines for Establishing the Green Financial System. One of the policy measures is to launch national and local green development funds to mobilize private capital for green development. Such institutions have already been established in other countries in the form of green funds or green banks. By analyzing these institutions, this working paper provides references for the Chinese governments to set up similar institutions.

Executive Summary

In December 2015, the 21st Meeting of the Parties (COP 21) of the United Nations Framework Convention on Climate Change (UNFCCC) was held in Paris, France. In the meeting, countries adopted the Paris Agreement, which stated that Parties will limit the increase in the global average temperature to 2 °C above preindustrial levels, and pursue efforts to limit the temperature increase to 1.5 °C above preindustrial levels. To achieve this target, the existing global industrial system must transfer into a low-carbon system. Such a transition will require tremendous financial support. However, many existing financing barriers in green industries have led to lack of investments from the private sector. Responding to this, some national and local governments have established green funds and green banks to increase green investments by leveraging public capital to “crowd in” private investments.

Since 2010, new kinds of public financial institutions have been established to achieve low-carbon economic restructuring and promote the development of green industries. Some of these institutions are referred to as funds and some as banks, but as green investment institutions, they are similar or identical in nature.  In March 2016, The Outline of the 13th Five-Year Plan for the National Economic and Social Development of the People’s Republic of China proposed establishing the green financial system and launching Green Development Funds. Some local governments have also been exploring the idea of establishing green investment institutions. The purpose of this working paper is to provide references for the Chinese governments, and aid them in setting up similar institutions by analyzing the cases of 11 established green investment institutions world-wide.

Findings of this working paper reveal first a difference in mission between green investment institutions in developed and developing countries. Such institutions in developed countries mainly aim at addressing climate change and promoting the transition to green economy. Therefore, these institutions focus primarily on renewable energy and energy efficiency projects, which have financial benefits through electricity generation or reduced energy consumption. However, developing countries often need to deal with environmental pollution, in addition to addressing climate change. Therefore, green investment institutions are also used in support of environmental remediation projects.

As public financial institutions, green investment institutions are initially financed almost exclusively by governments, but in different ways. Ministries of finance usually provide direct funding to national green funds, and carbon taxes are occasionally used as a source. There are a variety of sources for local green investment institutions, including revenues from emission trading schemes, utility surcharges, disaster recovery grants, and green bonds. Green bonds are an emerging financial instrument. Their structure is identical to normal bonds and can be easily integrated into bond markets to provide funding for green investment institutions.

Green investment institutions have unique business models, and function in a different way from government agencies providing grants or corporations maximizing profits. Their business models include: 1) using limited public funds to leverage and “crowd in” private investments; 2) recycling capital to maintain long-term green impacts; 3) using a variety of financial instruments and providing tailored financing solutions; 4) establishing information disclosure mechanism to improve industry transparency and investor confidence and reducing financing costs of green projects.

Financial instruments used by green investment institutions correspond to the target industries and projects. The institutions usually provide commercial loans and risk mitigation tools to projects generating financial benefits, and concessional loans to projects with less financial benefits. Equity investments are comparatively riskier thus require more caution in investment selection. Green investment institutions adopt a variety of procedures and protocols to manage risks, including applying the principle of diversification, rigorous risk assessment and project appraisal procedures, and information disclosure. Information disclosure mechanisms and performance assessment objectives provide private investors with investment information that enhances investor confidence.

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