Strengthening the BRI sustainable infrastructure connectivity requires enormous investments, in which green finance can play a decisive role. China, during its Presidency of the G20 in 2016, integrated green finance into the G20 Agenda for the first time in history and acted as the co-chair in the subsequentially formed G20 Green Finance Study Group. In the following 3 years, China has been advocating the discussion on green finance among G20 countries. In 2017, central banks and financial institutions of several countries launched the Network for Greening the Financial System (NGFS) to popularize green finance and low-carbon investments. Following that, in 2018, the Green Finance Committee of China Society for Finance and Banking and the City of London Corporation’s Green Finance Initiative led an initiative to develop the Green Investment Principles (GIP), which was signed jointly by 27 financial institutions at the 2nd BRI Forum for International Cooperation on 25 April 2019.
China has been a leader in the development of green finance and aims to strengthen BRI sustainable infrastructure connectivity and promoting green finance. In this process, however, there are various challenges. Some are specific challenges regarding green finance, while others are the same as investing in traditional infrastructure (such as political and regulatory risks, technical risks, massive early-stage funding requirements, long investment cycles and investors’ lack of specific professional knowledge).
Challenges for building the BRI sustainable infrastructure connectivity through green finance
(1) Mismatch of maturity
Sustainable infrastructure projects commonly have long investment cycles, require large investments at the early stages and incur low operating costs at the later stages. The finance of such projects relies severely on bank loans, which, however, are often unable to provide sufficient long-term funds due to short-term liabilities. The tightening of bottom-line restrictions against environmental and social risks exacerbates the mismatches and leads to investment shortages. Besides, limited public finance and public acceptance of sustainable infrastructure as well as poor user paying mechanism are problems that are typically faced by a great number of developing countries. As such, operating costs saved can hardly cover early-stage investments, making it difficult to effectively fulfill long-term financing demand with capital supplies that requires high liquidity.
(2) Investment risks
Sustainable infrastructure projects often require higher clarity and accountability of political commitments and institutional frameworks for construction, finance and operation. Due to their longer-term nature, price variation of public services and changes in demand during operation also affects expectations for returns and thus investors’ willingness to participate . Other green infrastructure investments risks include the lack of a standardized definition of sustainable infrastructure and inadequate capabilities in managing environmental and social risk.
(3) Information asymmetry
Although the correlation between sustainable infrastructure and sustainable development has been widely recognized, there exists no methodology or tool for quantitative analysis on this correlation. Some BRI developing countries lack sufficient statistics to measure effects of sustainable infrastructure on broader economic, environmental and social sustainability. Lacking transparent data and disclosure of environmental, social and governance (ESG) information deters both sustainable-minded and less-sustainable minded investors as well as governments from investing in such infrastructure.
(4) Challenges for cross-border connectivity
Sustainable infrastructure that spans several countries and/or regions is subject to specific risks:
- challenge to synchronize project plans: Imbalances in economic and financial capabilities and disparities of countries’ priorities in infrastructure projects affects political commitments to plan and implement infrastructure projects. The relatively weak financial foundations and capital markets in some BRI countries may further restrict these countries’ acceptance of sustainable infrastructure projects. Besides, cross-border projects exhibit political and foreign exchange risks and investors may not be willing to bear higher risks if there is no corresponding insurance and risk hedging mechanism.
- challenges to coordinate norms and regulations: Many connectivity projects are slowed down because of differences in standards, norms and procedues.
- challenges from regional capacity differences: Planning and implementing large-scale infrastructure projects requires an in-depth understanding of technical, financial and operational details. While some countries possess the necessary capacities to plan an implement such projects, working across regions also requires working across very different levels of capacities, particularly when promoting sustainable infrastructure projects. In consequence, the local technological level, operational capacity and labor quality often cannot meet the standard requirements of connectivity projects.
Policy suggestions on building the BRI sustainable infrastructure connectivity through green finance
(1) Establishing policy framework and working guidance
BRI developing countries often bear higher political risks and financing costs due to the lack of stable, favorable policies, China should propose the establishment of a BRI cooperation platform by harmonizing relevant regulations and standards of all BRI countries, encourage innovation of financing tools, improve information transparency, and articulate risk monitoring and evaluation standards for project preparation and execution. Once incoherent regulations cause conflicts in cross-border infrastructure financing, multilateral institutions, such as the Asian Infrastructure Investment Bank (AIIB), should play a leading role to provide safeguards and dispute resolutions against risks (e.g. currency and exchange rate risks).
(2) Encouraging more institutions to sign the GIP
Initiated by the Green Finance Committee of China Society for Finance and Banking and the City of London Corporation’s Green Finance Initiative, the Green Investment Principles (GIP) set out 7 principles to green BRI-related investments:
- incorporating sustainability into corporate governance,
- understanding environmental, social and governance (ESG) risks,
- disclosing environmental information,
- strengthening communication with stakeholders,
- making full use of green financial instruments,
- adopting green supply chain management,
- and building capacity through multilateral cooperation.
In a sense, the GPI redefined the BRI with green and sustainable development, uplifting existing investment initiatives to a higher level. In the future, China should encourage more institutions to sign the GIP, so as to provide sufficient financial support for building sustainable infrastructure connectivity and, at the same time, support environmental protection against climate change in a more coordinated way.
(3) Tightening cooperation between development financial institutions
Sustainable infrastructure is a public good with large needs for investments, long investment cycles, strong externalities, but only little direct, short-term economic benefits. Therefore, to provide a stable and affordable financial support for BRI sustainable infrastructure connectivity in the long-term, development financing institutions, such as the AIIB and the China Development Bank (CDB), should provide funding discounts (concessionary loans), leverage public funds and cooperate with peer institutions more actively. Given their advantages in sovereign credit ratings, they can obtain long-term, stable development financing at relatively low costs, which then constitutes medium- and long-term financial safeguards for sustainable infrastructure projects. In addition, by providing development financing discounts, they help alleviate the financial burden of local governments while reducing risk expectations and capital costs. Moreover, in the face of a large number of sustainable infrastructure projects with large investment scales, long investment cycles and high risks, it is essential for multilateral development banks to form effective partnerships with each other, as well as with other development financial institutions.
(4) Encouraging green investment by commercial financial institutions
Apart from development financial institutions, it is equally important to motivate commercial financial institutions to invest in sustainable infrastructure with innovative financial instruments such as green loans, green bonds, green funds and green equity financing. Coordination and complementation between public and private financial institutions could give rise to innovative financing structures. Co-financing, hybrid financing or structures with syndicated loans, for example, can be created between development financial institutions, governments, sovereign wealth funds and private financial institutions. Alternatively, by dividing investments into several phases based on different risk-return relations at different stages, scarce financial capacity can be used more rationally with extensive private resources.
With China’s leading position in green finance and the internationalization of RMB, China could issue RMB bonds for cross-border green infrastructure projects or cross-border green bonds based on China’s green bond standards. China could also establish regional, bilateral and multilateral green infrastructure funds, promote the use of Public-Private Partnership (PPP) in green projects, develop tools and products such as sustainable infrastructure indicator, and promote sustainable infrastructure to be classified as an investable asset in BRI countries.
(5) Supporting green technology financing
The application of new technologies is crucial to build sustainable infrastructure connectivity. Different from traditional infrastructure, technological innovation in clean energy, energy efficiency, green transportation and green buildings, as efficient means to realize the global sustainable development goals, is pushing the global economic low-carbon transformation. However, compared to developed countries, BRI countries are at a relatively disadvantageous position in this regard. China is the largest developing country and has obtained advanced R&D and production capacity in many sustainable infrastructure sectors, such as renewable energy, ultra-high voltage power transmission, nuclear power, high-speed rail and ICT infrastructure. As a result, China, supported by the AIIB and the New Development Bank, should lead the formation of technology and service standards that are suitable for developing countries, support R&D activities and platform building of sustainable infrastructure technologies, and provide consultancy to other developing countries in establishing policy frameworks. From the financial perspective, China should establish a BRI green technology investment fund to facilitate transfers and transformation of green and advanced technologies between BRI countries.
(6) Strengthening capacity-building and knowledge-sharing
Challenged by the mission of sustainable development, the BRI requires effective and efficient communication on green finance between countries with different social norms. Through institutional design and policy arrangements, innovative green finance tools and methodologies, and international cooperation on green finance, China, as a leading country in green finance, should help strengthen capacity-building and knowledge-sharing in BRI countries to remove obstacles for capital flowing into sustainable infrastructure projects.
Meanwhile, governments, associations and research centers should make domestic financial institutions and corporations aware of environmental and social risks of BRI investments and equip them with quantitative analysis method to evaluate the risks as part of their internal risk control.
This document was translated from its Chinese original by Hanzhi Lu.
Professor Yao Wang is the Dean of the International Institute of Green Finance (IIGF) at the Central University of Finance and Economics. She also serves as Deputy Secretary General of Green Finance Committee (GFC) of the China Society for Finance and Banking, as Secretary General of the Green Securities Committee (GSC) of the Securities Association of China, as fellow at the University of Cambridge Institute for Sustainability Leadership (CISL), as advisor to the Sustainable Finance Programme at the Smith School of Enterprise and the Environment at the University of Oxford and as consultant for the Luxembourg Stock Exchange.
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