Sovereign Climate Bonds: Policy Innovation for a Just Transition in Developing Countries

Abstract

This paper proposes sovereign climate-aligned bonds (SCBs) as an innovation that could mobilise climate investment towards developing countries. The research focuses on identifying the mechanisms underlying the issuance of SCBs in developing countries to unlock climate investment from capital markets and what they imply for facilitating just transitions. The research bridges scholarship across three fields: policy innovation, climate finance and just transitions, undertaking semi-structured interviews in two samples: SCB direct managers and intermediary and expert organisations. Drawing on Seychelles’s blue bond and Indonesia’s green sukuk as case studies, the research found that gaps in the public budgets of both countries were the main triggers for issuing SCBs and internationally, the influence of international organisations (World Bank and UNDP). Domestically, national wealth, access to international markets, alignment of the instruments' characteristics with political agendas and compatibility with regulations were key factors. SCB benefits, such as capital mobilisation, new investors and transparency, were perceived to outweigh additionality concerns or reputational risks (though higher transaction costs compared with non-green issuances remained a consideration). SCBs may be used as political statements in support of climate agendas, surpassing the perceived benefits of the mobilised capital. A legacy of exclusive dynamics in private markets remains a structural barrier for SCBs to be transformational in addressing climate change. Risk-return rationales and the exclusion of climate from countries’ risk profiling place developing countries in a more challenging position. While these instruments may not be sufficient to close the climate investment gap, they have an important role to play.