Sustainable finance for green recovery

The whole world is now facing 'double whammy' of climate change and pandemic. Bangladesh is no exception. The second wave of the corona virus infection has been affecting both lives and livelihoods making the hope of early recovery from this unprecedented crisis quite uncertain. Simultaneously, the climate change has also been very erratic. Given these multi-pronged challenges, it is not surprising that the policymakers of Bangladesh will be making concerted efforts to bring the global leaders on the same platform to work for a green recovery. In fact, Bangladesh Premier anticipated this dangerous outlook and wrote in September last year that, "Climate change, pandemics and destruction of nature are common threats. They should unite us in working towards a common solution: a cleaner, greener and safer world." (The Financial Times, September 28, 2020). One of the common strategies must be accelerating green growth as a part of the recovery from the pandemic by focusing more sharply on sustainable finance. This view was echoed in a recently held international webinar organised by Bangladesh Institute of Capital Market. Experts from both home and abroad pushed for an environmentally sustainable, socially responsible and inclusive growth process in this critical juncture of our time. They emphasised on a long-term, well connected and beyond self- preserving growth policies that work for the many and not a few. Obviously, sustainable finance came out as the centerpiece of this paradigm shifting policy discourse. I had the privilege of speaking both at the inaugural and panel discussions where well-known experts from all around the globe participated. Let me share my mind here on this topic.

I started with the idea of green recovery from the pandemic. It was needed, I said, mainly because the pandemic has been more disastrous in the densely populated, highly polluted and unplanned ugly urbanised cities than anywhere else. With this reality in mind I thought the upcoming COP26 or the global climate conference in November this year in Glasgow, Scotland will be the right forum to push the agenda like Loss and Damage and other climate issues in addition to how to design a common strategy to fight both the pandemic and climate change. Bangladesh Premier Sheikh Hasina who is the leader of the Climate Vulnerable Forum of 48 vulnerable countries will certainly be raising the relevant issues of climate vulnerabilities with her counterparts of the developed countries in this forum. The host UK may also be aligned with CVF agenda including the Loss and Damage issue. We are aware of the moral consensus that the global leaders reached for higher international cooperation for net-zero carbon emission at the Paris Climate Agreement in 2015 and as well as realising SDGs. In addition to this, the countries were asked to do the most they could with domestic reform and resource mobilisation. Also, there was an understanding that the factors that affected resource flows from the private sector, including such matters as trade agreements, investment frameworks and subsidies will also be jointly addressed. Moreover, there was an agreement among the leaders that the capital would be mobilised for inclusion of the underserved and, for sustainable infrastructures and innovations. As a follow up of this moral compass the sustainability deserves to be mainstreamed ensuring that ESG (Environment, Social and Governance) factors are integrated into risk management in addition to elaborate disclosures.

The momentum for sustainable finance was, indeed, building with many private actors coming forward with sustainable financing commitments. This was suddenly disrupted when the pandemic began to raise its ugly head. However, despite this set back, there is an imperative for aligning the financial systems with the financing needs of the inclusive and sustainable economy. Planning for the long-term investment in both large and small projects with the support of the corporates who can mobilise capital and transfer risk is at the core of this green transition.

Bangladesh has done quite well in reorienting the banks towards inclusive and sustainable finance in addition to their widespread digitisation which itself is a greening exercise. It has been creating fiscal space for green investment by first creating a Climate Change Trust Fund and then providing nearly 8 per cent of the annual budget for climate adaptation in various sectors. However, more interesting has been the pro-active green financing strategy pursued by Bangladesh Bank, the central Bank of the country, right from 2009 when the whole world was deep into the global financial crisis. Bangladesh Bank as a pioneer of sustainable financing not only created long term green transformation fund for energy efficiency in the textile and leather sectors but also provided green refinance to the financial institution to support small and medium enterprises to go green with about fifty green products. It also gave a sustainable finance taxonomy in addition to ESG risk management guidelines to the financial institutions. The central bank also provided recognition to those financial institutions who went for green products. They also get better CAMELS rating from the regulator which enhanced their reputational incentives to go green. In other words, besides targeting inflation the central bank as regulator has creative tools to address climate change and other pressing concerns. Bangladesh Bank was pioneer in directing its regulatory powers for inclusive and sustainable finance.

And here comes the broader role of the capital market. Indeed, capital markets can provide a critical channel to enable long-term debts or equity-backed securities to be sold to institutional investors such as pension funds, insurers and sovereign wealth funds. The latter funds have long-term liabilities and, therefore, need to match these with long-term assets.

THE CAPITAL MARKET AS A SOURCE OF SUSTAINABLE FINANCE: The capital market channels household savings towards building the productive capacities of the economy in better ways than banks and financial institutions do.  There are two reasons why the capital market does it better. First, capital market eliminates the need for intermediation by banks and financial institutions.

As a result, the savers can enjoy the entire return their savings generate without sharing it with intermediaries. Better returns motivate them to save more and, as a result, more investments happen. Second, compared to banks and financial institutions, the capital market enables long-term investments better because capital market instruments such as bonds and stocks are long-term in nature.  As the investors in capital market instruments can sell the instruments in the market any time, they buy them without worrying too much about their long-term nature. 

In absence of a stock market, for example, the equity investors in a company would need to hold their investments in perpetuity. Also, in the absence of a secondary market for bonds, investors in a 20-year bond, for example, would be required to hold the bonds for 20 years.  That's why, in the absence of a secondary market, investors' appetite for long-term instruments such as stocks and bonds would be much lower.  As a result, long-term projects for building power plants, roads, ports, factories would not be funded adequately. In such circumstances, employment opportunities would be inadequate and the economy would operate at a suboptimal level.  So, we need to have a capital market for optimal functioning of the economy. 

Also, the capital market should be as efficient as possible, i.e., the market should be such that the market prices of the instruments such as stocks and bonds fully reflect the economic fundamentals of the issuers of the instruments. Often it is argued that the stock market in our country is not efficient and the market is speculative. If that is the case, the investors are unable to generate optimum returns and companies are unable to raise capital at low costs. Such a market fails to deliver its ultimate purpose of contributing to the development and growth of the economy. For our market to be efficient, regulators need to ensure adequate and high-quality disclosures by the issuers of stocks and bonds and investors and capital market professionals should have the ability and willingness to price capital market products based on those disclosures.

 INCORPORATING SUSTAINABILITY IN ALL TYPES OF FINANCING: Globally, there has been a lot of initiatives in the recent years to incorporate ESG (environment, social and governance) considerations in financing decisions.  Many of the leading global asset managers who manage tens of trillions of dollars have committed to uphold ESG principles.

Commitment to environment is particularly important for Bangladesh which is a low-lying delta facing worst kind of climate challenges. We, therefore, need to take leadership in taking environmental considerations in financing for our own existence.

Also, every financing decision should take major societal concerns such as addressing inequality into account.  Equal opportunity for all was one of the founding principles of our country.  Bangabandhu Sheikh Mujibur Rahman, the father of our nation, fought all his whole life for social equity.   Unfortunately, income and wealth inequality has been rising in our country in the recent years. All our financing tools and capital market products need to be designed to create entrepreneurship opportunities for the disadvantaged people of our country so that we can reduce income and wealth inequality.

Also, commitment to corporate governance is critically important for us. It is often argued that many companies in Bangladesh are unable to reach their potentials due to the lack of corporate governance.  Corruption is a major concern in our country.  Our regulators need to ensure that the companies that get access to financing from the public market are well-governed and they are free from all types of corruption.

Some suggestions on how to develop a capital market that serves our economy and ensures sustainability:      

WE NEED TO HAVE FAITH IN MARKET FORCES: Many investors in Bangladesh seem to believe that it is the job of the regulars to keep the market index up. The financial press and even the policymakers seem to have similar views.  As a result, many regulatory actions try to keep the market index artificially up.  Setting price floors of listed securities was such an action. 

It is not the job of regulators to ensure any specific price of any security or generate high volumes of trade.  The market will discover the prices of securities and create trade volume based on demand and supply of securities.  The main job of the regulators is to ensure that there is information symmetry in the market and that there is no price manipulation.

IPOS NEED TO BE COMPETITIVELY PRICED:  In most cases, IPO shares in Bangladesh are priced on the face value.  There have been some attempts to use the book-building method so that a market-driven price of IPO shares could be established. 

Whatever pricing method is used, it seems the IPOs in Bangladesh have systematically been underpriced which is evident from the fact that IPO shares almost always doubles or triples in value when secondary trading starts.  Such systematic underpricing of IPO shares discourages good companies from getting listed. Therefore, there should be a mechanism for more competitive IPO pricing.

Also, if IPO shares are priced competitively, there won't be any systematic windfall gains by IPO investors and regulators won't be required to prescribe quotas to distribute the windfall gains among various group of investors.

INSTITUTIONAL INVESTORS SHOULD COMMIT TO THE PRINCIPLE OF ESG FINANCING: As it has already been done in many developed and emerging financial markets, the institutional investors in our country should adhere to ESG principles in their investment decisions.  The regulators may also consider imposing ESG guidelines to the institutional investors.

BONDS AND SUKUKS SHOULD BE CALLED GREEN BONDS OR GREEN SUKUKS WHEN THEY FINANCE GREEN PROJECTS: Recently, we have noticed an initiative of a large local conglomerate to issue sukuks to finance their renewable energy ventures.  These sukuks or bonds that finance such ventures should be called green sukuks or green bonds. I was pleased to learn that the Standard Chartered Bank has got the approval of BSEC to launch the first green bond of Taka one billion crore for Sajida Foundation. I understand many more are in their pipeline. If we can brand these green bonds or sukuks smartly with all the support from fiscal authorities, they may attract more ESG investors and there will be a vibrant market for ESG financing in Bangladesh.

NEED MORE TRUST IN FINANCIAL REPORTING: The standard of financial disclosures in our country remains very low.  To improve the standard of financial reporting the government has recently formed the financial reporting council.  The financial reporting council and the financial market regulators need to ensure credibility of financial reporting for the financial markets to develop.

CORPORATE GOVERNANCE STANDARDS NEED TO BE ENHANCED: High standards of corporate governance and professionalisation of management are critical for scaling up business operations and companies to serve the interests of all the stakeholders. 

Even some listed companies in Bangladesh do not meet the minimum corporate governance and financial reporting standards. Such companies need to enhance their governance standards or get delisted from the public market.

RAISING EQUITY CAPITAL FROM PUBLIC MARKET SHOULD NOT BE OPEN TO ALL: As most of our retailer investors are unsophisticated in terms of their knowledge of financial products, markets and reporting, BSEC should be extremely selective in allowing companies to raise capital from the public market. Only the well-governed companies with reliable financial disclosures should be allowed to issue securities in the public market.

NEED BETTER COORDINATION AND COHESIVENESS WITHIN AND AMONG THE REGULATORY AUTHORITIES: Vested interest groups often benefit from lack of coordination and cohesiveness within and among the regulatory authorities.  Some activities of one regulatory authority have implications on the activities of other regulatory activities.  Such activities need to be well-coordinated. 

MORE EFFORTS ARE NEEDED TO STRENGTHEN THE DEMAND SIDE OF THE CAPITAL MARKET PRODUCTS: The life insurance industry and pension funds are the main long-term investors in the capital markets globally.  The insurance industry in Bangladesh is very small.  The pension funds are small and mostly unfunded. We need stronger efforts to develop the insurance and pension industries as an essential part of developing the capital market.

To conclude, our well-run financial institutions can certainly support bankable sustainable financing provided the regulators and the government create needed space for them. Let's always think long and remain connected to the real economy. Otherwise, the sustainable finance cannot flourish.

Dr Atiur Rahman is Bangabandhu Chair Professor, Dhaka University and former Governor, Bangladesh Bank. [email protected]