Countries worldwide are moving away from fossil fuels. The main reason is due to carbon emission's impact on the environment and their population's health. For instance, 63 countries have committed to reducing global emissions by 50% under their new Nationally Determined Contributions (NDC) submission.
But asides from the direct environmental and health benefits of embracing cleaner energy, there are economic advantages too. In emerging countries such as Brazil, Russia, India and China, the move towards a green economy is estimated to create over 213 million jobs. In addition, it could generate $10.2 trillion in investment opportunities within green sectors. These sectors include renewable energy, green buildings, sustainable transport, including water, waste, land management.
However, Nigeria requires about $122 billion to develop green sectors and, more broadly, the Sustainable Development Goals (SDGs) from now till 2030. There's been a significant effort in raising the finance required. The government issued green bonds in 2017 and 2019—valued at ₦25.7 billion combined—used to finance projects in renewable energy, education, and afforestation sectors. But, much more finance is required. A funding gap estimated between $59 billion and $63 billion annually is needed to achieve sustainable investment in Nigeria.
So how can we restructure the financial system to deliver the finance required for green sectors?
Your Nigerian Economist discusses five ways we can achieve this restructuring. And it would include banking, insurance, institutional investors, and capital markets.
The first is by developing a framework where financial institutions can create loans for green projects.
Think about the Federal Mortgage Bank of Nigeria (FMBN). It has a primary objective to increase liquidity in the mortgage market. But sustainability should also be a major pillar of the banking sector as additional loans become disbursed. So, the FMBN can provide green mortgages for properties that meet a specified environmental or energy efficiency standard.
In addition, the bank can reduce interest rates to encourage the adoption of green loans or increase the loan amount. However, such disbursements must follow international standards such as the World Bank's Environmental and Social Framework that put forward standard loan terms and establish legal, documentation, and design standards.
However, there is the point of identifying a "green project". To do this, the bank can obtain data on environmental or energy efficiency standards to deem a project green.
The next method is by offering blended finance.
While giving loans to green projects can be a sustainable practice, it comes with several risks. For instance, the design and construction of green buildings are relatively more expensive than conventional buildings. Similarly, given the novel nature of green sectors, there is a scarcity of experienced consultants and contractors in green construction, increasing the cost of hiring skilled workers.
These risks can affect the profitability, cost, and ability to complete projects. Still, the government can mitigate them by engaging in blended finance transactions with private sector investors such as commercial banks, institutional investors, and international banks. The government can also provide guarantees or invest in equity or debt to curb these risks. This type of financing brings me to the next point, more common in the Nigerian context—green bonds.
Green bonds and sustainability-linked bonds
States, federal governments and even commercial banks like Access Bank have raised money by issuing green bonds.
The issuance of Nigeria's first green domestic bond in 2017 created a new green asset class. So, there already exists a governance framework, project identification, structuring, reporting and external verification process to support the issuance of subsequent green bonds. These would support subsequent green bonds issuance and facilitate their proceeds towards green projects.
Another asset class is sustainability-linked bonds. Unlike green bonds, there is no guarantee to use their proceeds for green or sustainable purposes. However, financial institutions can adjust such bonds' structural characteristics (e.g., interest rates), favouring issuers that meet pre-defined sustainability metrics or criteria.
But all of these frameworks also need the backing of monetary authorities.
Adopting green monetary policies
Physical risks such as forest fires can affect the prices of agriculture and forest commodities, thus affecting inflation and the macroeconomy. So with climate change affecting the transmission channels of monetary policy, the Central Bank of Nigeria (CBN) should consider including climate risks in its macroeconomic models and forecasting tools.
How? The CBN can vary the interest rate it charges on its development financing programmes based on the borrower's climate-related lending decision. For instance, a borrower could be interested in using their funds to contribute towards climate change mitigation. Some borrowers may also be intending to decarbonise their business models. Furthermore, the CBN can offer relatively lower interest rates to borrowers that put forward low-carbon assets as collateral.
Also, certain loans could only be eligible to borrowers that disclose climate-related information or low-carbon investments. For instance, accessibility to agricultural credit programmes such as the CBN's Anchor Borrowers' Programme can be on certain environmental compliance conditions. Brazil stands out as an example. Here, farmers get inputs based on their agreements to use them in environmentally-friendly proportions and engage in sustainable farming practices.
Finally, policies governing the use of collateral should advocate for the acceptance of sustainable collateral. Some examples of this include energy-efficient housing. This could incentivise banks to lend or capital markets to fund environmentally friendly projects.
The last area I would touch on is the Development Bank of Nigeria (DBN).
One unique thing about development Banks is their position in delivering sustainable investments. They have significant institutional support from the government and an understanding of the green sectors that require technical support. The stance of 450 Development Banks globally corroborates this point. Since the pandemic outbreak, they've channelled finance towards post-COVID economic recovery and achieving the SDGs. As such, the Development Bank of Nigeria (DBN), focusing on providing loans to small business owners, can increase and mainstream green finance within its operations.
Adopting an institution-wide approach will ensure that the DBN liaises with other government parastatals. This collaboration would help to avoid financing carbon-intensive activities. The DBN can also leverage the green bond market to raise long-term finance.
The available sustainable finance in Nigeria remains inadequate to capitalise on the job and investment opportunities in the green economy. Nevertheless, the financial system can be rejigged to create the needed finance and unlock job and investment opportunities.
The financing inflow owing to the COVID-19 pandemic presents a unique opportunity for the government and private sector players to raise additional finance targeted towards the green sectors.
To achieve this, Your Nigerian Economist has put forward five solutions—developing a green loan market, offering blended finance instruments, issuing green and sustainability-linked bonds, adopting green monetary policies, and greening the Development Bank of Nigeria. These are starters towards scaling up sustainable finance.