How blockchain technology will reshape green finance
With the Paris Agreement being reviewed and countries’ commitments updated at the 26th United Nations climate change conference (COP26) last November, there is no doubt that green finance will remain a major topic this year. At the same time, we have seen blockchain technology grow from a fringe and futuristic technology to a powerful tool with many real-world applications, particularly in green finance where transparent and traceable information is critical in measuring and monitoring climate impact.
Here are just some of the ways blockchain technology will revolutionise green finance.
Digitised monitoring of proceeds in green bonds and loans
New green financial products will continue to emerge over time, but two of the major current products are green bonds and green loans. As regulatory focus on climate change continues to grow, there will be increased demand for the transparency and granularity of these products, which can only demonstrate positive environmental impact if the underlying data is measurable, verifiable and able to be relied upon by third parties.
Today, the monitoring of use of proceeds, underlying asset performance and environmental impact is generally done through periodic manual processes. This leaves the potential for human error and reduces the timeliness of data. These non-digitised data sets are not easily referenced over time and do not fit neatly into future carbon accounting, or ratings and reporting regimes.
These issues were addressed by the Bank for International Settlements Innovation Hub and Hong Kong Monetary Authority last year when they joined forces with the technology industry on Project Genesis. This was an Asia Pacific-based landmark project exploring how the tokenisation of green bonds — combined with real-time tracking of environmental outputs — can improve sustainable investment.
While not yet mainstream, we will see an increasing use of technology solutions for the monitoring of green bond and loan compliance in the coming year.
One of these solutions are blockchain-based systems supported by Internet of Things (IoT) devices. These can provide asset owners or operators, investors, lenders, ratings agencies and other stakeholders with verifiable, tamper-proof and real-time data at the asset level. And because this is a digitised process, the monitoring of proceeds can happen at a fraction of the cost and time, which means better financing terms for all.
New technology-enhanced financial products
Green finance is a powerful tool in our fight against climate change. We are expecting to see innovative financing products this year that package multiple existing financial products for green assets together.
An example of this may be the packaging of environmental products in the returns generated by debt or other instruments used to finance climate-friendly assets — all in digital form. Digital monitoring, reporting and verification of assets, combined with tokenised financial instruments and environmental financial products makes it possible to deliver returns composed of both vanilla interest or dividends and distributions of environmental products, enhancing both total return and evidencing positive climate impact.
Automated ESG-linked financing
Beyond just green finance, we will likely see the development of fully digital environmental, social, and governance (ESG)-linked financing. These are automated digital products where returns delivered to the holder are determined by a fully transparent and decentralised process, without relying on any third party.
For example, consider a bond or loan where there is a coupon or interest step-up as a result of an emissions target not being met. In a fully digital automated solution, both the determination of achievement of the target and penalty payment for failure could be set and executed through an agreed data feed and suite of smart contracts. This not only creates a more efficient process but also ensures it is free from bias, error and dispute.
Temporal matching of electricity consumption
While hundreds of corporations have committed to 100% renewable or zero carbon energy for their operations, this has typically been based on periodic calculation of electricity consumption (semi-annual or annual). In 2021, Google pledged to match supply with demand in real-time. We will see more large companies, especially in tech, follow suit in the next year, redefining the concept of “100% renewable” and inevitably changing the renewable energy market.
Temporal or time matching of energy means hourly (or another short time period) matching of consumption with generation of renewable energy between buyer and seller. As there has been growing demand for greater transparency in sustainability in general, this is yet another way corporations are answering the call. They are seeking to show that they are not just purchasing renewable energy certificates at a much later date to offset past consumption, but that renewable energy is constantly being sourced on a near real-time basis.
A blockchain-based system combined with the IoT will play an important role in this trend. Such a system means that real-time matching is possible with a high degree of provenance as it can both record immutable data on consumption and generation at their source.
Carbon meta-registries using distributed ledger technology
At the heart of green finance and net-zero goals is the Paris Agreement. With the latest COP producing some breakthrough pledges, countries continue to face the challenge of implementing the commitments set out in nationally determined contributions (NDCs). These include climate-related targets for greenhouse gas emission reductions, policies in response to climate change and as a contribution to achieve the global targets set out in the Paris Agreement.
With both voluntary and compliance markets claiming emission reductions and without a global registry, it has been difficult to account for what positive environmental impact has actually taken place and who should get the credit.
This year, we are likely to hear more about meta-registries — regional and possibly global online ledgers to help track, manage and account for in-country and cross-border transfers of new and existing carbon credits, renewable energy certificates and other “environmental attributes” across independent carbon markets and registry systems around the world.
Information provider IHS Markit already announced its plans for such a registry earlier this year. This particular meta-registry plans to leverage distributed ledger technology, which would help solve issues like double counting and ultimately, more accurately reflect a country’s NDC.
As there is a growing urgency for climate solutions, we will see many more innovations in green finance and climate tech in 2022. While these are not the only available tools in the fight against climate change, we will surely see blockchain technology and green finance play an important role together, and be more efficiently implemented to help us reach our climate goals faster.