What are Municipal Green Bonds and how are global cities using them to finance green projects?

Cities account for two-thirds of global energy consumption and more than 70% of annual global carbon emissions. Decarbonizing them requires more than just the traditional public sector financing.

Municipal Green Bonds (MGBs) could help, particularly when access to capital markets is becoming more accessible. MGBs are a fixed-income financial instrument city governments use to raise funds through the debt capital market. Like other municipal bonds, MGBs allow municipalities to borrow a specific amount from investors, periodically paying them interest at an agreed-upon rate until the bond matures and the principal investment is paid back.

MGBs are unique because they exclusively fund projects, activities or assets with an environmental benefit. They can support initiatives like renewable energy, energy efficiency or clean transportation projects.

Cities can delve deeper into which projects are eligible for an MGB through
guidelines such as the International Capital Market Association’s Green Bond Principles and the Climate Bond Initiative’s Standards Scheme.

Green sectors often face financing gaps that MGBs can help plug, especially in emerging economies. By focusing on green projects, MGBs have also improved aspects of urban governance in some cities, allowing them to diversify their resource streams away from traditional channels, encouraging citizens to participate in climate action directly and financing low-carbon urban infrastructure.

Green projects often require significant investments. Cross-country experience shows that local governments in most countries generate limited resources from their local tax and non-tax measures, meaning cities often depend on national and sub-national grants.

Given the rising debt burden on national governments after the onset of the COVID-19 pandemic and the ongoing polycrisis, it’s critical that cities can independently tap into capital markets to fund climate-resilient projects when traditional revenue streams don’t fill the bill. MGBs can reduce the dependence of city governments on public financial resources or conventional banking channels, allowing them to diversify their resource base and fund projects that may not otherwise be possible.

This has worked in Toronto, where the city government is using green bonds to achieve net zero greenhouse gas emissions by 2040. The city is supplementing its capital budget by raising funds through a series of green bonds issued under the Green Debenture Program. The proceeds from these green bonds finance ‘eligible’ capital projects, like increasing installed renewable energy generation capacity, energy efficiency and green building projects.

Through a sustained program, Toronto has raised nearly $1 billion through green bond issuances. The city reduced its dependence on federal funding by accessing the bond market and expediting critical environmental projects.

By attracting individual and retail investors, MGBs also benefit cities by encouraging direct participation from citizens and environmentally conscious investors in local climate action. This increases and helps sustain civic engagement on climate strategies such as net zero plans, involving citizens in their design and adoption at the city level.

We see this evidence in Cape Town, South Africa, where the city government issued a green bond in response to a severe water crisis from 2015 to 2018. Cape Town’s ZAR 1 billion Green Bond was used to fund and refund water management projects according to local priorities, helping create a water-resilient city. Cape Town encouraged its residents to invest in green bonds, leading to a diversified investor base.

Moreover, investors are demanding opportunities for socially and environmentally sustainable investments that can also help them meet their non-financial reporting mandates. The city has updated investors on the ultimate use of the green bonds and related proceeds. This attracts investors and has led to higher citizen engagement and community-driven commitment to meet local challenges. Besides resolving immediate local issues, this green bond will also serve long-term priorities, such as implementing technological solutions for saving water and bolstering low-carbon transportation.

City governments worldwide are looking to diversify from high-carbon towards low-carbon, climate-resilient (LCR) projects to limit global temperature rise to 1.5°C. Transitioning to low-carbon infrastructure will incur incremental costs of 4.5% relative to business-as-usual. But this cost can result in wider co-benefits, including better health, less traffic congestion and improved energy security. MGBs can finance LCR projects while ensuring efficient use of public capital.

San Francisco has successfully used green bonds to finance LCR projects since 2015. In 2015, the Public Utilities Commission issued green bonds to fund critical repairs in the 90-year-old Mountain Tunnel as a part of a rehabilitation project. The tunnel is an integral part of the Hetch Hetchy Regional Water System that supplies a continuous drinking water supply to 2.7 million people in the Bay area. In the absence of timely repairs, the deficiencies in the tunnel infrastructure could have adversely impacted the drinking water quality.

Other cities can follow the lead of Toronto, San Francisco, and Cape Town in embracing MGBs. Doing so would not only bolster a city’s climate adaptation and mitigation efforts but also contribute to a city’s long-term resilience. Governments and relevant stakeholders should seize this opportunity to prioritize sustainability projects for the future well-being of our cities.

By engaging with residents, businesses and investors, the city can ensure that resulting outcomes are community-driven and aligned with local needs. This will foster shared ownership in achieving sustainability goals and ensure transparent governance that builds trust and attracts further support.