London brokers turn attention to green finance


Bonds providing a hedge against the risk of governments missing their climate commitments could give investors the necessary confidence to invest in low-carbon projects, Professor Michael Mainelli from Z/Yen, a City of London-based risk management firm, told EURACTIV in an interview.

The biggest obstacle to investment in green projects is a general lack of confidence in government policy being enacted, Mainelli argued. He pointed out that when the EU’s emissions trading scheme (EU ETS; see EURACTIV LinksDossier) was inaugurated, politicians agreed that carbon prices need to stand at about €25-€30/tonne, but in reality, the market crashed in 2007 when too many permits were issued and the price is still nowhere near that.

High carbon prices are crucial to the profitability of renewable energy projects, the financial expert argued. “And they depend on government policy,” he said, adding that policies such as feed-in tariff rates are equally important.

Mainelli presented the idea of index-linked bonds as a way for governments to guarantee investors that they will get a return on their low-carbon investments, regardless of whether the government keeps its climate pledges.

“The basic idea here is that governments would pay interest on their own debt, and they would pay more interest if they failed to meet their carbon targets,” he said.

The targets of the bonds could vary, Mainelli said. He cited as examples carbon prices, where the government pays interest if carbon is below a set price, and feed-in tariffs, where the government pays if it does not maintain a set rate or fails to reach the country’s emissions reduction target.

To illuminate the issue, Mainelli offered a scenario whereby a large pension fund puts €500 million euros into a wind farm that produces at €90/MWh, when the current price of electricity stands at €85/MWh. At the same time, it buys government bonds priced at a feed-in tariff of €110/MWh.

In case in reality the tariff turns out to be only €100, the investor’s profit from the wind farm is only €10/MWh, instead of the expected €20, but it is making €10 on the French government.

The idea differs from many other bonds proposals in that it is simple and does not involve forfeiting returns out of concern for the climate, Mainelli stressed.

“What makes us really subversive – one of the things I find interesting as we’ve been chatting to governments – is that they begin to realise that they’ve got to put their money where their mouth is,” Mainelli said. He argued that index-linked carbon bonds are analogous to inflation-linked bonds that governments had to start issuing in the beginning of the 1980s, when people lost confidence in their government’s ability to control inflation.

“But of course the uncomfortable truth is that they just don’t like it because if they fail to make their targets, then they’ll have to pay a lot of interest,” he added.

Nevertheless, as OECD governments prepare to issue $9 trillion in debt in the next three years due to the financial crisis, compared to only €18 trillion in the past 40 years, they are now seriously considering the idea, Mainelli said.

“So it’s like any supply and demand situation: supply is going through the roof but demand is dropping. And the suppliers, the governments, are going to have to come up with interesting ways of selling their debt. And this is one of them,” Mainelli concluded.

Michael Mainelli was speaking to Susanna Ala-Kurikka.

To read the interview in full, please click here

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