Green bonds key to climate finance, but challenges remain: IEEFA report

Mumbai: As India transitions to a low-carbon economy, the demand for green bonds – debt instruments used to fund green projects – is expected to see continued growth. However, regulatory hurdles, market inefficiencies, shrinking green premium, and increasing public scrutiny could restrict their trajectory, according to the Institute of Energy Economics and Financial Analysis (IEEFA) finds.

One of the most pressing issues revolves around how green bonds are labelled and perceived by the market, states a briefing note IEEFA, which examines issues related to energy markets, trends, and policies.

“Green bond labelling is central to the credibility, transparency and effectiveness of green bonds. However, green bonds face significant challenges that can undermine their efficacy – most notably, greenwashing,” says Labanya Prakash Jena, consultant for sustainable finance at IEEFA, and one of the authors of the briefing note. 

“The absence of robust monitoring and reporting mechanisms exacerbates greenwashing, and addressing this is important to ensure that green bonds achieve their intended purpose of financing genuinely sustainable projects,” Jena emphasises.

“While frameworks such as the Green Bond Principles by the International Capital Market Association and the Climate Bonds Standard have gained international recognition, their adoption and interpretation vary across markets. Inconsistent standards increase the risk of fragmented markets,” says co-author Vandana Vuppuluri, an alumna of the Indian Institute of Management, Rohtak.

The authors also highlight the high costs associated with issuing green bonds. Although green bonds carry reputational benefits and may attract a broader base of environmentally conscious investors, the expenses involved in compliance, certification, and reporting can be prohibitive for smaller entities. This has created an uneven playing field, largely restricting green bond issuance to well-resourced corporates and sovereigns.

The green premium – the cost advantage that many issuers gain from issuing green bonds – offers several benefits.

Recent studies suggest that the green premium is shrinking, averaging between minus 5 and minus 2 basis points, and in some cases, has even become negative. This raises questions about how long green bonds will retain their pricing edge.

“While green bonds are not a standalone solution for climate change, they are essential to financing a low-carbon transition. They are most impactful when paired with broader climate policies and financial strategies. Ultimately, their success depends on the interplay between market mechanisms, regulatory frameworks, and stakeholder commitment to environmental goals,” notes Vuppuluri.