Green Bonds: Catalysts for Transformative Change in Developing Economies

By Kelly Yam, Northeastern University

Green bonds are debt instruments designed to raise capital specifically for projects with positive environmental impacts, such as renewable energy or sustainable infrastructure. First introduced in developed markets in the late 2000s, they gained traction as investors and governments grew increasingly conscious of the environmental impacts of traditional industries. The market has since grown significantly, with global issuance exceeding $588 billion in 2023, reflecting their increasing appeal. This growth reflects not only investor interest in environmentally responsible investments but also the increasing recognition that sustainable finance is integral to addressing climate change and promoting long-term economic stability. Key international initiatives, such as the UN Sustainable Development Goals (SDGs) and the Paris Agreement, have further emphasized the importance of sustainable finance. These initiatives have created a policy environment which encourages both public and private sector investors to prioritize investments that align with global sustainability objectives. While the adoption of green bonds in developing countries faces unique challenges, such as rapid urbanization, economic pressures, and issues like greenwashing and corruption, when effectively integrated, they offer potential long-term benefits by driving sustainable development, promoting economic growth, and addressing critical environmental challenges.

Factors Driving the Adoption of Green Bonds

Several factors contribute to the increase in the adoption of green bonds in developing countries, with climate vulnerability being one such factor. Developing countries often face severe impacts from climate change. Many nations, particularly small island states like the Maldives, Tuvalu, and Pacific Island countries, face risks from rising sea levels and extreme weather events. The Intergovernmental Panel on Climate Change (IPCC) estimates that by 2100, global sea levels could rise by as much as 1.1 meters if emissions continue unchecked, threatening to submerge large portions of these nations' landmasses. Similarly, countries in sub-Saharan Africa and South Asia are increasingly exposed to extreme droughts, floods, and cyclones, which undermine food security and economic stability. Green bonds serve as a tool to finance climate resilience projects, such as constructing seawalls, enhancing early warning systems, and developing renewable energy infrastructure, and helps reduce long-term economic risks. For instance, Fiji’s $50 million sovereign green bond in 2017 financed projects ranging from coastal adaptation to renewable energy expansion, setting a precedent for small island nations.

A lack of access to capital for sustainable infrastructure is another significant challenge driving the adoption of green bonds. Developing countries often face substantial financing gaps for critical projects, and green bonds provide a structured pathway to attract foreign investors who are increasingly interested in funding sustainable development initiatives. Successful green

bond-funded projects highlight their potential impact: for example, in 2021, South Africa issued a $3 billion green bond to fund solar and wind energy projects, including the 100 MW Redstone Concentrated Solar Power (CSP) Project. The project played a crucial role in diversifying South Africa's energy mix, expanding access to clean electricity, reducing dependence on coal, contributing to the country’s decarbonization efforts, and demonstrating how green bonds can support energy transitions in coal-reliant economies. In Southeast Asia, the Philippines leveraged a $154 million green bond to develop sustainable water management systems, improving resource efficiency and reducing vulnerability to droughts (Ferrer & Arias-Rocha, 2019). These projects often rely on funding from international investors and institutions like the World Bank, the International Finance Corporation (IFC), and regional development banks. Such organizations not only provide capital but also offer technical assistance, risk mitigation tools, and credit enhancements that help attract private investment. According to the Climate Bonds Initiative, 30% of green bond investments in developing countries are supported by multilateral institutions, underscoring their pivotal role.

International commitments further support green bond adoption. Many developing countries are signatories to international climate agreements, meaning they have formally agreed to support and implement the principles and actions outlined in global treaties. Agreements such as the Paris Climate Accord and outcomes from COP meetings emphasize how sustainable finance is necessary to meet global climate targets. For instance, the Paris Agreement set a goal to limit global warming to well below 2 degrees Celsius, which requires an estimated $3-5 trillion in annual investment in climate-related infrastructure by 2030. Organizations like the International Monetary Fund (IMF) and the World Bank play crucial roles by applying pressure and providing financial incentives for countries to adopt green finance tools. For example, the World Bank’s Climate Change Action Plan outlines strategies to develop countries’ green bond and loan markets and other innovative financing instruments, including sustainability-linked loans and green mortgages. Additionally, the IMF has proposed integrating climate considerations into macroeconomic assessments, encouraging countries to prioritize sustainable investments.

Government and Policy Incentives

Government and policy incentives promote the adoption of green bonds in developing countries, as they create a favorable environment that attracts investors and ensures the credibility of green projects. Governments worldwide are fostering green investment through tax incentives, streamlined regulatory approvals, and supportive policy frameworks. For example, India offers tax breaks and regulatory support to encourage green bond issuance, making it easier for companies to access capital for renewable energy and infrastructure projects. Similarly, Brazil has established a regulatory framework to promote sustainable finance, which includes incentives for green bond issuers and guidelines to ensure transparency. These policies reduce barriers to entry and make green investments more attractive by lowering costs and providing regulatory certainty.

Adherence to recognized green bond standards further boosts credibility and investor confidence by establishing clear, consistent criteria for sustainable investments. Key frameworks, such as the Green Bond Principles (GBP) developed by the International Capital Market Association (ICMA) and the Climate Bonds Standard, outline comprehensive guidelines for what constitutes a green project. These standards ensure that funds raised are used for legitimate environmental initiatives and that issuers maintain transparency through regular reporting. By aligning with these guidelines, issuers can attract more investors, who are assured of the environmental integrity and financial accountability of their investments. Furthermore, these frameworks contribute to international consistency, enabling cross-border investments and market comparability. As more countries and companies adopt these standards, alignment with established principles ultimately ensures that green bonds remain a credible, transparent, and effective tool for financing in developing nations.

Partnerships with development banks also enhance the effectiveness of green bond initiatives by reducing risks and lowering the cost of capital. These partnerships assist in facilitating sustainable investments by offering credit guarantees, co-financing arrangements, and technical expertise. Successful collaborations, such as those between the African Development Bank (AfDB) and various African governments, have demonstrated how development banks can make green projects more attractive to private investors. For instance, the AfDB played an important role in funding Morocco’s Ouarzazate Solar Complex. By providing over $400 million in financing and attracting additional investments from international partners, the AfDB helped enable the project, which now generates clean energy for over one million Moroccans and reduces carbon emissions by approximately 760,000 tons annually. Such partnerships help ensure that green bonds can be effectively utilized to meet national and international sustainability goals.

Challenges and Barriers to Growth

While green bonds offer significant potential for financing sustainable development, their adoption in developing countries is not without challenges. Many developing nations face unique barriers that can hinder the growth and effectiveness of green bond markets. Understanding and overcoming issues such as inconsistent standards, limited investor awareness, and competing development priorities, is crucial in order for these countries to benefit from green finance.

A lack of globally standardized criteria for green bonds undermines their growth, particularly in developing nations. There is no universally accepted legal and commercial definition of a green bond, which results in difficulties with verifying and demonstrating the environmental benefits of sustainable projects. This inconsistency can lead to "greenwashing," where projects are misrepresented as environmentally friendly without delivering sustainability impacts. Such practices undermine investor confidence, deterring both local and international financing. To address this challenge, the adoption of global standards, such as the Green Bond Principles (GBP) and the Climate Bonds Standard, is crucial. These frameworks provide clear guidelines for project selection, use of proceeds, and impact reporting. However, the lack of regulatory enforcement and proper monitoring in some developing nations remains a key issue. As of 2021, the Climate Bonds Initiative estimated that only 5% of green bonds issued in developing countries were fully aligned with international green bond standards. Developing countries need to strengthen their regulatory oversight and ensure adherence to these standards, thereby boosting transparency and credibility in their green bond markets.

The lack of investor awareness about green bonds presents another significant barrier to their growth in developing countries. Many investors, especially in emerging markets, may not be familiar with the benefits or mechanics of green bonds. This situation, compounded by the absence of marketing initiatives or programs to promote the benefits of green investments, causes investors to be skeptical about their financial and environmental returns. This gap in awareness means that even when green bonds are issued, they may fail to attract the capital needed to fund projects. Governments, financial institutions, and development banks can play a key role in addressing this issue by launching awareness campaigns and offering training programs. For example, the European Bank for Reconstruction and Development (EBRD) has played a key role in promoting green finance literacy in Eastern Europe through various educational initiatives. These programs include workshops and guidelines that enhance knowledge about green financing and energy efficiency, providing practical training and resources to local businesses and financial institutions. These initiatives should target institutional investors, such as pension funds and insurance companies, to demonstrate how green bonds can provide stable returns while contributing to sustainability goals.

Competing development priorities also pose a significant challenge to the growth of green bonds in developing countries. Developing countries often face economic, social, and infrastructural challenges, which can divert attention and resources away from green initiatives. Governments may prioritize immediate needs such as poverty alleviation, healthcare, and infrastructure development over long-term sustainability projects. This competition for limited resources can hinder the growth of green bond markets, as funding for environmental projects may be viewed as secondary. According to a 2021 United Nations Development Programme (UNDP) report, many developing countries are under pressure to balance environmental goals with addressing poverty and inequality. To overcome this barrier, it is essential to align green bond initiatives with broader development goals, demonstrating how sustainable investments can address multiple priorities simultaneously. International financial support and technical assistance from development banks can also help bridge funding gaps, ensuring that green projects receive the necessary investment without compromising other critical development needs.

However, corruption adds another layer of complexity, potentially undermining the effectiveness of green bond investments. In some cases, funds intended for sustainable projects are misallocated or diverted, leading to inefficiencies and even project failures. Weak governance structures and inadequate oversight mechanisms can create opportunities for unethical practices, such as inflating project costs, awarding contracts through non-transparent processes, or diverting resources to unrelated projects. This lack of accountability reduces investor confidence and hampers the ability of green bonds to drive genuine progress toward sustainability goals. Investors prioritize transparency and accountability to ensure their capital contributes to legitimate, impactful projects. One well known example of mismanagement of funds that occurred in Brazil. The Amazon Fund, created to finance environmental conservation, faced significant scrutiny over allegations of mismanagement and corruption. Investigations highlighted concerns about resources being diverted or misused by intermediaries rather than directly benefiting conservation efforts. For example, only about 40% of the allocated oversight funds were used between 2019 and 2021. This situation was exacerbated by political dynamics and fragmented governance, which allowed interest groups, including influential agribusiness sectors, to exert considerable control over environmental policies and fund allocations. When corruption risks are high, potential investors may perceive these markets as too risky, limiting the flow of capital into sustainable initiatives. Strengthening regulatory frameworks, enhancing transparency, and implementing rigorous reporting standards are essential steps to mitigate corruption risks and build investor trust in the green bond market.

Conclusion

Green bonds represent a transformative opportunity to tackle global environmental challenges while fostering inclusive economic growth in developing nations. By channeling investments into projects like renewable energy, sustainable infrastructure, and climate adaptation, green bonds have the potential to drive long-term, sustainable growth. According to the International Finance Corporation, emerging market GSSS bond issuance surged 45% in 2023, reaching $209 billion, which demonstrates robust growth in sustainable finance sectors. The potential of green bonds extends beyond financing; they create pathways for economic diversification and resilience, especially in nations facing acute climate risks and development needs.

Private sector participation and public-private partnerships (PPPs) are essential in scaling these investments. Successful case studies, such as Colombia’s $200 million green bond for climate adaptation and Morocco's renewable energy projects demonstrate how policy innovation—like tax incentives and transparent regulatory frameworks—can catalyze green bond issuance and attract international capital. These partnerships reduce risks, enhance project bankability, and ensure that funds are allocated to impactful initiatives, further strengthening investor confidence. The International Finance Corporation (IFC) notes that PPPs have already mobilized over $70 billion for green infrastructure globally, demonstrating how blending public and private resources can drive large-scale environmental and economic transformation.

Looking ahead, green bonds are poised to play an increasingly significant role in the global financial landscape. Green bonds represent more than just a financial instrument—they are a catalyst for achieving broader global goals, including climate resilience, sustainable economic growth, and social equity. As their adoption accelerates, particularly in emerging markets, they have the potential to bridge financing gaps for critical infrastructure, drive the transition to low-carbon economies, and support the United Nations Sustainable Development Goals (SDGs). Emerging financial instruments, such as blue bonds for ocean conservation and sustainability-linked bonds, offer additional avenues for growth. With many emerging markets recognizing the economic and environmental benefits of sustainable finance, expanding green bond markets in developing nations is not just an opportunity but a necessity. Through innovative financial tools, global partnerships, and policy reforms, green bonds can be the cornerstone of a more sustainable and equitable future.

Cover photo taken from Freepik pic.