Banks are being encouraged to sign up to sustainable development. But, asks Brian Caplen, will the strategy hurt or enhance profits?
Hiro Mizuno, chief investment officer of Japan's $1400bn Government Investment Pension Fund, the largest in the world, caused a stir at a UN Environment Programme (UNEP) event in Paris when he described green bonds as "lose-lose". They lose for issuers because they are expensive and lose for investors because they are illiquid, he said.
Several bankers at the UNEP financial institutions global roundtable, which saw the launch of the group's Principles for Responsible Banking, disagreed with Mr Mizuno's premise. They said that demand for green bonds far outstripped supply and cited examples of pricing coming in at or below that of more conventional bonds.
Regardless, it raises an important issue: how should banks manage the transition to sustainable lending in a world economy that is itself far away from being organised on a sustainable basis? The challenge is especially acute in emerging markets, where the discovery of raw materials – natural gas in Mozambique, for example – offers a once-in-a-lifetime route out of poverty. Subsistence farmers in the emerging world also face huge difficulties in changing their operating methods, even if they are causing environmental degradation, as their margins for error are so small.
Banks need to respond with a pragmatic approach by lending in a way that incentivises good practice but maintains a project's viability. They cannot afford to give up on these businesses and to do so would cause both huge suffering and opportunity cost.
As a country's economy becomes more developed the business model changes and the tension between sustainability and profits lessens. In some developed markets the risks of lending to unreformed businesses have now become so great that they are leading to higher costs in the bank capital that must be held against them. This makes it attractive to offer companies that tick all the sustainable boxes lower interest rates. Hence, sustainability is now enhancing profits not reducing them.
With regulators, investors and banks all pushing in the same direction, the prospects for a smooth transition must surely improve but it will be a long journey.