Green Bonds as a Catalyst for the Green Transformation?
ResearchZEW study on the impact of green bonds
Green bonds are intended to channel capital into sustainable projects – but do they actually deliver on this promise? A new ZEW policy brief shows: when governments issue green bonds, they can use auction design to steer institutional investors towards a more sustainable orientation. Banks that offer green bonds are also increasingly granting loans with a positive climate impact. However, the positive climate effects are seen mainly among companies that are already above average in terms of sustainability.
“Green bonds certainly have the potential to generate positive environmental effects. For example, by encouraging institutional investors to increase their investments in green financial products or by motivating banks to provide loans with a positive climate impact,” says Karolin Kirschenmann, deputy head of ZEW's Research Unit “Pensions and Sustainable Financial Markets”. “But to accelerate the transformation of carbon-intensive industries, financial products that create more targeted incentives, such as transition bonds or transition loans, as well as reliable long-term frameworks are needed.”
Strategic auction design increases sustainability impact
The researchers demonstrate that the design of auctions for green government bonds can create strategic incentives. Investors who commit in advance to a “greener” portfolio can secure advantages in the bidding process. The self-commitment increases their willingness to pay, meaning higher auction revenues can be achieved, which more than compensate for any costs arising from the commitment. The effect on demand for further green financial products therefore goes beyond the individual bond purchase, making institutional portfolios more sustainable overall.
For this to materialise, the auction design must make such strategic commitments visible and harness them: “In order for green bonds to play a pivotal role in the ecological transformation, governments should actively shape their design. For instance, through appropriate auction mechanisms,” Kirschenmann concludes. “These provide investors with incentives to commit to green portfolios even before the auction to gain a strategic advantage in the allocation process.”
Banks primarily finance firms that are already green
The ZEW policy brief highlights that, following the issuance of green bonds, banks significantly increase their lending to environmentally friendly companies – particularly through sustainability-linked loans to new clients. Such loans are often tied to measurable sustainability targets, which demonstrably lead to lower emissions. Interestingly, even banks that have not issued their own green bonds are also increasingly participating in these loans (“green spillovers”) once other institutions stimulate the market.
But most of the additional capital flows to companies that are already above average in terms of sustainability. For carbon-intensive firms that are facing a demanding transformation process, the effect does not materialise. Here, the researchers identify a need for action. Financial products that target the transformation process more precisely (e.g. transition bonds or transition loans), together with favourable and reliable long-term regulatory frameworks, could create incentives for private capital to be channelled directly into transformation projects.
