Leaders of the G20 met in the Chinese city of Hangzhou earlier this month and released a final Communique that for the first time highlighted green finance as an effective means to support global sustainable growth.

The Communique builds on the work of the G20 Green Finance Study Group, a Chinese initiative co-chaired by the People’s Bank of China. In addition to this development, seven Chinese government ministries jointly released Guidelines for Establishing the Green Financial System a few days before the G20 Summit, laying out action points on how China can green its financial system. Together, these announcements mark a major milestone in creating a vision for green finance that governments can adopt.

Policy Signal for Systemic Change

There’s been a lot of discussion in recent years on how to internalize externalities (such as a chemical plant’s damage to the environment or a rooftop solar power system’s contribution to clean air) in order to move funds away from polluting sectors like fossil fuels and toward green sectors like renewable energy. But the scope of “green finance” really hasn’t been fully defined or agreed upon in China or internationally. In China, green finance has been more oriented towards environmental protection, while in the Western countries it is more about climate change.

The Guidelines for Establishing the Green Financial System as well as the G20 Green Finance Synthesis Report (developed by the G20 Green Finance Study Group) both set out to give a clear definition of green finance. The documents call for finance from banks, corporations and investors to be directed at “economic activities that are supportive of environment improvement, climate change mitigation and more efficient resource utilization,” including the “financing, operation and risk management for projects in areas such as environmental protection, energy savings, clean energy, green transportation and green buildings”.

It is also worth highlighting that the definition does not only refer to the money needed to finance economic activities, but also the regulatory and policy regimes needed to enable such financing. This gives a clear policy signal for systemic change in the financial and environmental governance system. With the right policies, countries can break down some of the current barriers to green finance, such as the lack of long-term financing from banks for green infrastructure projects (called “maturity mismatch” in financial jargon) and corporations not disclosing information about their environmental performance to investors (known as “information asymmetry”).

Measures to Increase Green Finance in China

China’s new Guidelines call for government ministries and financial institutions to collaborate on the development of a wide range of financial instruments to move money from high-polluting to low-polluting sectors, including green credits, green bonds, green insurance, green equity indices, green development funds and carbon finance (for more information on these instruments, please refer to the report “Establishing China’s Green Financial System” written by the Green Finance Task Force of the People’s Bank of China). The government will also utilize a spectrum of policy tools, including the use of the central bank’s relending operations, interest subsidies and guarantees to incentivize green investment.

Two recommendations are particularly relevant to the international community’s current concerns about China’s financial system. The first relates to green bonds. Since the People’s Bank of China and the National Development and Reform Commission separately issued their directives on green bonds at the end of 2015, the market has witnessed exponential growth. In the past seven months alone, Chinese financial institutions and corporations issued 120 billion yuan ($18 billion) of green bonds, 40 percent of the world’s total. Following this rapid growth, there have been concerns about “greenwashing,” or businesses using green bonds to finance polluting projects instead of green ones due to a lack of a solid reporting and verification system. The Guidelines call for harmonization of the two domestic green bond standards and development of third-party verification bodies in line with international practices.

Chinese overseas investment is another concern in the international community, due to Chinese financial institutions and corporations not paying enough attention to the integration of environmental and social considerations. To safeguard the reputation of China’s initiatives like the “Belt and Road Initiative,” the country’s plan to enhance connectivity and economic integration with neighboring countries, the Guidelines call for Chinese banks, corporations and multilateral development banks to: strengthen environmental risk management to protect communities; improve companies’ environmental performance disclosure to inform better investment decisions; issue green bonds to raise finance for green infrastructure projects; enhance green supply chain management to protect natural resources; and explore the use of environmental pollution liability insurance to mitigate environmental risks.

The Guidelines will be implemented by the relevant Chinese ministries. At the international level, the Guidelines encourage more international cooperation on green finance under the G20 framework, which is well reflected in the G20 Green Finance Synthesis Report and Leaders’ Communique. Ma Jun, chief economist of the People’s Bank of China, and Simon Zadek, co-director of UNEP Inquiry, view China’s effort as “the world’s first attempt at an integrated policy package to promote an ambitious shift toward a green economy.”

Now the next question is: How can we get others to follow China’s lead?