Innovative Floating Rate Green Bond for the Reduction of Air Pollution in China—An Application to the Shanxi Province’s Case

ideas4action@wharton.upenn.edu Environmental Sustainability, IdeaHub, Infrastructure & Economic Development, South-East Asia

Green Bonds combine fixed income financial instruments with the need to raise capital for low-carbon or green projects—assets or business activities and an environmental benefit.1 With rising capital needs for funding green projects, a growing investor focus on green financial instruments, and mature corporations’ awareness regarding social responsibilities, the volume of total green bonds has increased constantly in the past few years. Although there are many successes in promoting green initiatives, China, still lags far behind in the development of green bonds.

Shanxi province is among the regions most severely affected by air pollution. This area, the main provider of coal resources in China, is highly dependent on revenue from coal and mining and their affiliated industries, and is exposed to devastating air pollution challenges. However, the deceleration of economic growth and consequential lack of government funding hinder the local government’s ability to support sufficient investment in air pollution reduction initiatives, especially within high-carbon emission industries.

Our proposal recommends the issuance of green bonds aimed at financing air pollution reduction initiatives, including but not limited to technological upgrades, reconstruction of industrial composition, and air purification strategies in Shanxi province. The local government will be responsible for setting the coupon rate and face value and cooperating with professional organizations in developing selection criteria and processes to access eligible green programs. The key measurements and characteristics of each bond product will be released into the market in the same way as conventional bonds, to gain credit ratings and scrutiny. One of the most notable features of the bond is that the annually paid coupon rate will fluctuate negatively in correlation with specific performance indicators. Air quality improvement will lead to a more moderate coupon payment, while low effectiveness will result in a higher payment burden for the borrower. We believe that by using green bonds and linking the coupon rate with an Air Quality Index (AQI), the capital can be raised with the purpose of improving air quality while incentivizing the local government to maximize the effectiveness of the fund. Investors will also benefit from constant payments that are no less than conventional bonds with the same maturity.

Team Five out of Five
Jiangjie Qiu, The University of Hong Kong, Class of 2018
Sol Kim, The University of Hong Kong, Class of 2018
Xiaoming Zhong, The University of Hong Kong, Class of 2017
Junzi Wang, The University of Hong Kong, Class of 2018
Xinyue Huang, The University of Hong Kong, Class of 2018