Japan is Breaking New Ground With its Climate Transition Bonds
The following is an excerpt from an op-ed by Asia Society Policy Institute Senior Program Officer Yi Chen and Director of Asia-Pacific Sustainability Alistair Ritchie originally published in Nikkei Asia.
February 12, 2024, by Yi Chen and Alistair Ritchie
Japan plans to issue 20 trillion yen ($135 billion) of climate transition bonds over the next 10 years in a transformative move to support upfront investment in the green transition of its power and industrial sectors and to catalyze private investment in low-carbon technologies such as green hydrogen.
A debut sale of 1.6 trillion yen of such bonds is set to begin this week.
The securities will be the world's first sovereign climate transition bonds, following the precedent set with the 2017 sale of corporate transition bonds by a unit of Hong Kong power utility CLP Holding. Since then, Japanese companies have also waded into the market.
Crucially, the Japanese government issue will also be the first transition bond to be backed by emissions trading system (ETS) revenues.
Japan launched its national ETS last April as a voluntary market. Today, over 670 companies responsible for 40% of the country's total emissions are participating in the system.
Beginning in 2033, revenue generated from the auction of emission allowances for power generators will be used to repay the transition bonds. Additionally, a levy on fossil fuel imports, to be implemented from 2028, will go toward paying off the debt too.
Japan's move should be truly inspiring for other countries in Asia and globally that have nascent or emerging emissions trading systems, including China, Indonesia and India.
Many countries face an urgent need for more climate finance to be able to achieve their 2030 greenhouse gas emissions reduction targets under the Paris Agreement and to reduce their potential exposure to punitive tariffs under systems like the EU's Carbon Border Adjustment Mechanism as well as to achieve increasingly ambitious longer-term targets.
While emissions trading systems hold the potential to serve as a major financing source, it can take time to turn them into a significant revenue stream, as this requires scaling up the share of allowances allocated by auction and increasing the carbon price through tightening the cap on allowance allocations.
Japan's innovative approach could effectively bridge the current climate funding gap by leveraging future ETS revenue and its fossil fuel levy. The link between Japan's ETS and its transition bond is expected to be straightforward as long as the ETS evolves over the next decade such that it can generate adequate, timely revenue.
