World Bank Unlocks Capital Markets For Climate Action
The World Bank has made the second repayment of bonds issued under an innovative pilot program that uses auctions and price guarantees, delivered in the form of bonds, to promote private sector investment in climate action.
The program, known as the Pilot Auction Facility (PAF), is first-of-its-kind in using these instruments to encourage investments that reduce greenhouse gas emissions.
The value of bonds repaid—$9.6 million—is linked to the performance of private sector projects that reduce greenhouse gas emissions.
Bondholders have the option to redeem bonds in exchange for carbon credits they receive by reducing greenhouse gas emissions.
The payment value reflects the equivalent of 3.4 million metric tons of reduced carbon dioxide emissions. More than 95% of the bonds in the second repayment were redeemed, demonstrating the ability of the PAF to create incentives to achieve climate results from the private sector.
When businesses reduce greenhouse gas emissions from the atmosphere, they receive credits which they can sell. But due to falling prices of carbon credits, businesses have fewer incentives to invest in climate-friendly projects.
Supported by donor funding, the PAF creates incentives for continued investments in projects that combat climate change by guaranteeing a minimum price on carbon credits.
The price guarantees are delivered in the form of specialized bonds issued by the World Bank (International Bank for Reconstruction and Development, or IBRD).
The bonds pay zero interest and redeem annually, providing a redemption amount for each eligible carbon credit delivered. Since the PAF was launched in 2015, the World Bank has issued $54 million in these bonds.
The most recent bond redemption was on November 29, 2017. The carbon credits came from projects such as landfill gas-to-energy projects in Brazil, Chile, Malaysia, Mexico, Thailand, and Uruguay; wastewater treatment and biogas utilization projects in Thailand; and a nitrous oxide abatement project in Egypt.
The bonds will continue redeeming until 2020. Over 60 firms from around the world bid for the bonds through auctions, with 24 firms winning price guarantees.
Companies compete by bidding the least amount of incentive they need to run their operations in a climate-friendly way. In this way, the auctions determine the price guarantees, and PAF rewards only the most efficient companies.
Because the price guarantee is delivered in the form of a bond, bondholders have flexibility in how they redeem the guarantees: should they have less credits to redeem than allowed by the bond, they can sell the bonds to other firms, incentivizing continued climate action.
Some investors chose to use this flexibility and traded bonds or carbon credits among themselves, enabling the redemption of over 95% of the value of options expiring this year.
The Pilot Auction Facility demonstrates that we can support global climate goals by using capital market instruments in innovative ways," said Arunma Oteh, Vice President and Treasurer of the World Bank. "The World Bank bonds supporting the facility are social impact bonds in the truest sense because they are directly linked to the performance of projects in fostering important carbon emission reduction results on the ground."
“Auctions maximize the reach of limited public funding and leverage private investments in clean technologies,” said James Close, World Bank Director for Climate Change. “The World Bank Group stands ready to assist countries to achieve their Paris Agreement goals through innovative finance mechanisms like climate auctions.”
Héctor Rangel, Director of Gases de Metano S.A. de C.V said, “The PAF has enabled us to invest in technologies that convert waste to clean energy in two cities in Mexico, powering up to 40 percent of public lighting in the city of Juarez and 15 percent of public lighting in the city of Chihuahua.”
“This has offered additional benefits to the local community, such as improved air quality and jobs. It has also made it feasible for us to invest in expanding the collection of methane gas from the municipal landfills in both cities,” Héctor Rangel said.
Building on the pilot phase, the World Bank is expanding into a broader Climate Auctions Program. The World Bank is also exploring how to use auctions to help countries to implement their goals under the Paris Climate Agreement.