Climate finance in China: How are 23 pilot cities doing?

The pilots now cover 1,500 projects, but questions remain over missing private capital, which projects are eligible and a lack of adaptation work.

In China, “green finance” is a more familiar term than climate finance, because the country has been putting together a framework for the former since 2016. Green finance includes green loans, green securities (including bonds and shares), green development funds, and green insurance. Image: , CC BY-SA 3.0, via Flickr.

In Chongqing, China’s south-western megacity, a local energy firm has obtained a 470 million yuan (US$60 million) loan from the Bank of China to fund a Combined Cooling, Heat and Power (CCHP) station.

Because the project aims to help raise energy efficiency for nearby businesses, it qualifies as a climate investment – which means receiving a hefty discount on market interest rates. A project official indicated that one fewer percentage point of interest would reduce annual financing costs by over 40 million yuan.

The preferential loans are being offered via a “government–bank–business” platform, created by the local government specifically to fund climate investments. Both businesses and banks can sign up to Chongqing’s platform, which is overseen by local environmental authorities.

Businesses upload materials to the platform explaining how their project will help cut emissions. If the environmental bureau approves, it adds the project to the database. Banks then select projects they want to fund, in line with their investment aims.

The Chongqing platform is a typical tool used in the climate finance pilots. In October 2020, shortly after China had announced its target to be carbon neutral before 2060, the central government published guidance on promoting climate finance. It called for investments to support China’s national climate action plan – known as its Nationally Determined Contribution in UN parlance – with local finance and investment pilot schemes to lead the way.

The government published plans for those pilot schemes in December 2021, formally starting the undertaking. Two years on, what progress has been made? What climate finance characteristics have emerged in China?

Pilots and project databases

In August 2022, the Ministry of Ecology and Environment (MEE) published a list of 23 jurisdictions undertaking pilot climate finance schemes. It comprised 12 cities and 11 sub-city administrative districts. As of mid-October this year, 18 of those had got underway, according to figures from Southern Finance, a business media outlet.

Mitigation is already mainstream, with some sectors showing market competitiveness. That limits investor returns and enthusiasm. Investors won’t be able to help meet those challenges without public-sector intervention.

Chen Yingjie, senior project official, Greenovation Hub

Of those, eight had published local working plans, 10 had published documents such as project application guides or assessment standards, and 16 had set up bodies or online platforms to administer the actual investments. According to Ding Hui, head of the general office at the MEE’s Department of Climate Change, details of 1,500 projects had been collected by the end of 2022, with investment needs totalling around 2 trillion yuan.

The 23 pilots were selected from 30 applications, noted Cui Ying, deputy head of the International Institute of Green Finance at the Central University of Finance and Economics, with selections made based on the “overall local circumstances.

There were hard requirements, such as a three-year record of meeting climate targets and an absence of major polluting or environmentally harmful incidents,” she said. “The localities’ experiences with climate change efforts were also considered. For example, had they previously been designated as a low-carbon or climate-adaptable city, or run a carbon market? Plans for the future were also assessed, including for organisational frameworks, local policies, and promotion of [financial] products” such as green bonds and funds.

Each pilot has its own characteristics, representing certain aspects of the fight against climate change, said Chen Yingjie, senior project official with environmental thinktank Greenovation Hub’s climate and energy group. For example, traditional coal-producing cities Taiyuan and Changzhi in Shanxi province, along with Baotou in Inner Mongolia, are focusing on attracting finance to help with transitioning “two high” industries – those high in both carbon emissions and air pollutant emissions.

Further south, the Wuchang district in Wuhan is a regional centre for carbon trading, and Liuzhou in Guangxi, a province that’s particularly vulnerable to extreme weather events, will be focusing on building climate resilience.

Shortly after the list of pilot schemes was announced, the MEE published reference standards for projects to be approved by local authorities for entry into their databases, and subsequently for perusal and selection by investors. The standards also stated provincial environmental authorities should, by the end of October 2023, have arranged for the first batch of projects to be added to the local databases.

But by the middle of October, only 14 pilots had done this, according to data from Southern Finance. An expert told China Dialogue that progress has been varied across the different pilots. Climate actions had been good in some places, they said, such as the Liangjiang New District in Chongqing, Xihai’an New District in Qingdao, and Xixian New Area in Shaanxi.

These places had been getting ready to apply for climate financing pilots even before China announced the dual carbon targets (to peak its CO2 emissions before 2030 and reach carbon neutrality before 2060). But in several pilots elsewhere, not very much work has been done since pilot status was awarded, and any that has been is mostly targeted at meeting the government’s own assessments of progress. For example, in some cases, the MEE’s reference standards are used as-is, while elsewhere, refinements are made to take local circumstances into account, making the standards more useful for matching projects with funding.

“It turns out the project database approach actually suits local circumstances in China,” Xie Wenhong, China programme manager for the Climate Bonds Initiative (CBI), told China Dialogue. Originally, everyone thought the “good and green” projects would be snapped up by investors early on and never make it to the database, he said. But in practice, it turned out that many smaller financial institutions, including local branches of bigger banks – as well as smaller urban and rural commercial banks – don’t have the capabilities needed to quickly and adequately decide whether a project falls under the “climate” heading.

“It’s a complicated business. You need to know what technical taxonomy to use… what data you need and where you can find it, how to assess the data’s quality, and how to check if it’s accurate,” he notes. “[Smaller banks] always lack expertise or dedicated budgets for these. But when they see a project in the database, they know it qualifies.”

Green genes live on in climate finance

In China, “green finance” is a more familiar term than climate finance, because the country has been putting together a framework for the former since 2016. Official documents show its aim is to “support environmental improvements, combat climate change, and make efficient use of resources.”

Green finance includes green loans, green securities (including bonds and shares), green development funds, and green insurance. While building that framework, the government published taxonomies of green industries, to help with evaluating projects, selecting those that would qualify for green loans, and which sectors to support with green bonds. These documents form an important point of reference for climate finance.

This has led to climate finance being described as an important part of green finance. Like green finance, it includes loans, bonds and funds – in fact, climate finance accounts for a large share of them. Li Xiaowen is deputy secretary general of the Climate Investment and Finance Association, which is part of the Chinese Society for Environmental Sciences. She said that 90 per cent of green loans by banks and financial institutions are in the climate domain. Industry insiders told China Dialogue that 70 per cent would be a conservative estimate for the percentage of green loans going to climate projects.

But, over the last few years, some unique characteristics of climate finance have emerged in China. One is that with such projects, climate benefits may not be as obvious as the environmental benefits associated with, say, a traditional pollution-reduction or recycling project. Therefore, professional scientific assessments are needed. It may be for this reason that climate finance and green finance are managed by different authorities.

A comparison of official documents by China Dialogue shows that with climate finance, the MEE takes the lead, with input from the financial authorities, including the People’s Bank of China, the China Banking and Insurance Regulatory Commission, and the China Securities Regulatory Commission. When it comes to green finance, the opposite is true: financial institutions take the lead, with environmental authorities less prominent.

This also leads to differences in how policies are implemented on the ground. Cui Ying told China Dialogue: “Green finance and climate finance emphasise different things. The former is focused on producing and making available new financial products. The latter takes a more macro view of how to support the dual carbon targets through institutional design, and stresses the importance of the project databases.”

Despite being largely usurped by it, some of green finance’s genetic code lives on in climate finance, and in fact impacted the early thinking on it. “Sometimes, decisions being made on climate projects reflect the logic of old industrial policy,” said Xie Hongwen.

“Historically, investment went to green industries in need of support. This means, to some extent, the criteria for choosing climate projects… are not strictly based on climate science. The methodology for assessing the climate performance of projects, as well as the green industry and project taxonomy, has been significantly improved and refined in recent years following the introduction of the dual carbon targets. But there may be a need to further improve the consistency of the evaluation criteria with the relevant climate targets, as well as the granularity of the project taxonomy.”

Challenges for climate finance

One of the strengths of climate finance in China is the existence of a reasonably complete and coherent top-down policy framework. However, the field faces the same challenges it does elsewhere in the world.

One such is insufficient investment in climate adaptation projects. There are two issues with them. Firstly, the perceived and actual returns on adaptation investments are low, which translates to lower investor interest. With mitigation projects such as wind and solar power, or electric vehicles, it is clear where the profit will come from.

“Mitigation is already mainstream, with some sectors showing market competitiveness,” said Chen Yingjie. But strong externalities remain in fields such as adaptation and biodiversity, which involve long-running and expensive projects, and where the benefits are seen as being primarily for public good, he noted. “That limits investor returns and enthusiasm. Investors won’t be able to help meet those challenges without public-sector intervention.”

Secondly, it is more difficult to assess the effectiveness of adaptation work. “It’s easy to work out how successful a mitigation project has been – you just work out the reduced emissions,” Cui Ying explained. “But it’s hard to come up with a single measure for adaptation. There’s talk about using the size of the population benefitting as a measure, but even that is hard to define and would differ across different types of projects. And if something is hard to measure, it’s hard to set standards for, and is a challenge in itself.”

Another issue is the urgent need for more private capital. In 2021, the National Centre for Climate Change Strategy calculated that China would need to invest a total 139 trillion yuan in the climate sector by 2060, or 3.5 trillion yuan annually, in order to achieve its dual carbon goals. With current levels of investment, there remains a gap of over 1.6 trillion a year. In the same year, Chai Qimin, director of the centre’s department of strategy and planning, revealed that public climate finance alone stood at about 470 billion yuan a year. Private investment is needed to close the gap.

But, as Xie Wenhong points out, more could be done to raise awareness of climate investment among private sector investors, and demand for quality projects is not high enough. This is because of the bankability of some sectors and projects over others, along with the lack of effective incentives, and the capacity challenges for smaller financial institutions to conduct climate-performance assessments.

It is possible that Chinese investors aren’t as aware of climate financing as their overseas counterparts, and still need government encouragement. The pilot projects are one attempt at doing that. Another commonly suggested solution is the existing model of public–private hybrid financing.

Do the pilot projects have real climate benefits?

Globally, greenwashing concerns persist, with some worried it is spreading from industry into the investment sector. A study of the World Bank’s climate project portfolio for the 2000-2022 period found hundreds of climate-tagged projects that had little to do with climate change. The study’s authors recommended that projects should be accompanied by a clear explanation of how they reduce emissions – including an estimate of reductions – or help increase resilience.

In China, it is not uncommon for “green” projects to be shoehorned into databases intended only for “climate” projects. One reason for this is a lack of applicable standards: the most “official” standard currently available comes from the Climate Investment and Finance Association, and it is not widely used among investors. Additionally, if the MEE wants to encourage the publication of financial standards, it will have to coordinate with the financial authorities, which have their own priorities. Another issue is that green financing approaches still have significant influence on how projects are selected.

Nonetheless, many green projects (such as waste recycling) will have some climate benefits. Commenting on this, Chen Yingjie said: “If there’s a real climate benefit, we don’t object to tagging a project as eligible for climate finance. What’s important is working out how much money is being used to create how much benefit. For example, some part of an investment in infrastructure may go to increasing climate resilience. That’s to be encouraged, but it doesn’t mean the entire cost of the project should be identified as climate finance.”

A lack of oversight allows greenwashing to continue, she said, adding that better monitoring, reporting and verification (MRV) of funding flows is needed, along with accountability. That will require investment institutions to properly assess the effectiveness of projects, and make the necessary disclosures.

Currently, much greenwashing goes unpunished, noted Xie Wenhong. “First, at least, we need to stop greenwashing. If there are no costs associated with the practice, the market would be disrupted and quickly discredited.”

This article was originally published on China Dialogue under a Creative Commons licence.

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