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Green bonds could reduce liquidity in 'vanilla' sovereign bonds

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Green bonds could reduce liquidity in 'vanilla' sovereign bonds

The development of sovereign green bonds in Europe risks drying up liquidity in "vanilla" sovereign bonds, while the development of sector-specific debt financing mechanisms could contribute to the loss of democratic accountability in government expenditure, according to speakers at the AFME European Government Bond Conference in Brussels on Nov. 13.

Green bond issuance has been boosted by sovereign support, according to Anne Leclercq, director of treasury and capital markets at the Belgian Debt Agency, whose government was the third EU sovereign to issue a green bond.

She said that while this is "an achievement," it is still "very small as opposed to the trillions needed" in order to adequately address climate change. Still, the introduction of sovereign green bonds has been crucial in enlarging the market, improving liquidity and "validating its existence," she said.

Belgium issued its sovereign green bond, worth $5.55 billion, in March. Other European countries including France and Poland have issued similar green bonds, which can be used to finance environmentally friendly projects.

Yet Leclercq and other speakers at the Brussels event voiced concerns around sector-specific bonds being used as a mechanism for governments to finance themselves, and an increase in green bonds potentially reducing liquidity in European sovereign bonds.

Liquidity in the European debt markets was a mounting concern among attendees, with one Italian banker noting that demand for government bonds has significantly reduced amid a variety of pressure points.

He listed the threat of a crisis in Italy, the ECB's decision to end quantitative easing at the end of year, cost of capital and uncertainty in both emerging markets and the policy of U.S. President Donald Trump, as having had a dampening effect.

Thorsten Meyer Larsen, of the Danish central bank, said a policy of issuing green bonds would "take whatever amount we'd want to support away from the core product [sovereign bonds]." The market wants issuance of 10-year bonds to add liquidity and supply, not green bonds, he said.

Sir Robert Stheeman, CEO of the U.K. Debt Management Office, warned of the dangers of fragmentation.

"That comes ultimately at a wider cost you may not be able to quantify very easily," he said.

Leclercq questioned the wisdom of "chopping up the budget" of national governments to be financed by different types of bonds — for instance, the financing of defense.

"Dedicated bonds will fragment the market … it goes against the principle of standardization."

Larsen said the potential parceling of governmental budgets shifted decision-making away from democratically elected politician, and give that power to the financial markets instead.

There was also concern about how standardized green bonds could actually be, without a clear way of measuring green credentials.

Leclercq suggested a green rating, similar to a credit rating, based on a classification including economic sectors and activities, and policy objectives.