Green and sustainable debt issuance has been growing rapidly in the Middle East, despite the comparative lack of regulation of green financial instruments. In 2021, the total issuance of green and sustainability-linked debt in the region increased more than four times compared to 2020. In these early stages of the climate transition, there is a critical need for patient, high-risk capital for investments in sectors whose paths to decarbonisation are dependent on technologies that are still in the early stages of development, such as iron and steel, heavy road transport, and shipping. A new report titled “ Financing a Net-Zero Middle East” by Boston Consulting Group (BCG) shows how regulatory pressure in most Middle East countries is not yet strong enough to compel banks to take immediate action on climate issues, even though climate change poses an array of risks to their portfolio. Larger banks in fossil fuel-exporting countries typically have high exposures to the oil and gas industry and other high-emitting sectors of the economy such as transportation, construction and infrastructure, and shipping.
Shelly Trench, Managing Director and Partner at Boston Consulting Group and co-author of the report said “The Middle East banking sector has an opportunity to benefit significantly from financing the transition of the oil and gas industry and other strategically important sectors to cleaner, more sustainable technologies. Regulators and policymakers could address this challenge by establishing carbon prices that adequately represent the cost of greenhouse gases and are aligned with international carbon price levels. In addition, they could create financial and other incentives to support decarbonisation and develop environmental and industrial policies that align with climate objectives”.
Considering development banks and funds have a critical role to play in supporting green investments, BCG’s report offers three core recommendations to meet the above mandate:
- Providing financing for non-bankable green projects with lower risk-adjusted returns or higher investment risks, such as supporting research and development of innovative technologies such as renewable power and CCUS.
- Mobilising private capital investments in green projects by improving their risk-adjusted returns with various risk mitigation instruments.
- Using their expertise to provide support and advice to policymakers and regulators on the reforms needed to scale up climate finance.
Regional bank alliances prove key to this end, such as the Net Zero Banking Alliance (NZBA) and the Science-Based Targets initiative (SBTi), as well as joining working groups such as the Partnership for Carbon Accounting Financials, to influence the global standard-setters.
The report further draws on the need for key regulatory interventions to drive climate action through climate reporting and disclosure to then create taxonomies of sustainable activities. The Network for Greening the Financial System (NGFS), an association of central banks and supervisors, is a key forum for coordinating these efforts and exchanging best practices among regulators. Currently, several of the Middle East region’s financial services regulators have already joined NGFS, including the Abu Dhabi Financial Services Regulatory Authority, the Dubai Financial Services Authority, the Financial Regulatory Authority of Egypt, and the central banks of Egypt, Jordan, Lebanon, Morocco, and Tunisia.
The report highlights another potential intervention such as the creation of carbon pricing structures that could stimulate demand for investments in renewables and low-carbon technologies while reducing subsidies for high-carbon projects, levelling the playing field and making cleaner projects more economically attractive. For instance, Abu Dhabi Global Markets (ADGM), one of the UAE’s international financial centres, is working on a regulatory framework for the first-ever regulated voluntary carbon market and supporting the UAE’s transition to net zero greenhouse gas emissions.
Emmanuel Givanakis, CEO of the Financial Services Regulatory Authority at (ADGM), said: “The Financial Services Regulatory Authority at ADGM is facilitating, through a proposed comprehensive sustainable finance regulatory framework, the ability to establish the world’s first regulated voluntary carbon exchange and clearing house, where carbon offsets, while traded and settled as spot commodities, are treated as regulated financial instruments. ADGM and the Authority are dedicated to fostering a sustainable finance ecosystem. We are strongly positioned to host financial products and services that will make a positive impact on the UAE’s and global efforts to achieve net zero”.
At the initial stage, the roles of regulators and development finance will be key, with the former developing the policies and regulations needed to stimulate demand for climate finance in the region, while development finance institutions can help attract private sector investment by de-risking investment in climate projects via blended finance solutions.
“With time, as climate finance regulation is rolled out and green projects become more bankable, banks and financial institutions will become the key source of funding for the climate transition. Until then, Middle Eastern banks would benefit from reviewing the impact of transition risk on their portfolios and preparing themselves for the future by declaring portfolio emissions reduction targets and joining global alliances to exchange best practices. Doing nothing means maintaining their portfolios’ ever-increasing exposure to the impacts of climate change—a far riskier option”, concludes Aytech Pseunokov, Project Leader at Boston Consulting Group.
Learn more about climate and sustainability at BCG Middle East here.