How to ensure small businesses get the funding needed for green development
- Sustainable development funds are not reaching the small and medium-sized enterprises that need them most and are crucial for building a low-carbon economy
- New digital platforms can help match green start-ups with suitable investors, but traditional markets must also lower barriers that keep SMEs out
Last year was a banner year for sustainable finance, with the creation of the Glasgow Financial Alliance for Net Zero (GFANZ), managing over US$130 trillion in assets, sustainability bond issuance up to US$1 trillion, and record inflows of more than US$120 billion to environmental, social and governance targeted funds.
Indeed, there seems no shortage of cash for ESG. Does this mean the global transition to a low-carbon economy is on track? Yes and no.
For sure, mobilising finance to reward ESG-compliant companies is absolutely necessary. However, simply classifying financial assets as ESG does not deliver better outcomes if those funds cannot land where they are most needed. For this to change, built-in imbalances in global finance need to be overcome.
The first imbalance is between emerging and developed markets. Over half of global investment in net-zero initiatives should be channelled into the developing world. Asia alone requires US$3 trillion annually up to 2030 to achieve the UN Sustainable Development Goals (SDGs).
And yet, critically, most of the ESG-tagged assets are in Europe, while only 10 per cent are in Asia.
The second imbalance is between large and small companies or projects. The shortage of funds for micro, small and medium-sized enterprises (MSMEs) is a clear market failure. MSMEs create over 80 per cent of all jobs in developed or emerging markets, and contribute significantly to growth, social stability and innovation. Yet they are persistently finance-starved, even when the world is awash with liquidity.
The pandemic has widened the global trade finance gap to US$1.7 trillion, making things even harder for MSMEs. A 2017 World Bank study estimated that 65 million MSMEs globally have credit constraints. Funding these enterprises could help to lift 2 to 3 billion people out of poverty.
The fact is that global finance is structured in such a way that it is not profitable to lend small amounts to small enterprises.
A high-earning banker would prefer to lend to two or three borrowers requiring US$30 million-US$50 million each with good collateral, rather than worry about a loan book of US$100 million from 1,000 small borrowers with scant credit records.
Such imbalances have serious consequences for the global fight against climate change. Since SMEs account for over 40 per cent of the emissions from value chains yet are too small to access banks and stock markets, how can they contribute seriously to building a net-zero economy?
These inequities occur everywhere even when intentions are good. Hong Kong’s Green and Sustainable Finance Grant Scheme offers a telling example. The scheme aims to make it easier and cheaper to invest in green projects by subsidising the cost of legal, accounting and auditing fees.
In its first few months, the scheme mainly supported large, well-established companies, which arguably didn’t really need a helping hand. Even lowering the minimum loan threshold from US$25 million to US$12.5 million in this year’s budget is unlikely to attract more SMEs, since by definition, most have revenues of less than US$20 million.
The market reality is that for both big banks and SMEs, it is simply not worth the time, money or paperwork needed to process small loans. Many factory owners find it easier to get a second mortgage or consult a money lender than jump through hoops to meet well-meaning “know your customer” and anti-money-laundering conditions.
The good news is that digitalisation can help drastically lower the cost of loan processing and create the trusted data needed to improve risk management. Today, individuals can open bank accounts and access modest loans in a matter of minutes, as ANT Finance and WeBank have shown. Can we scale up this model for SME financing, with an ESG twist?
Any ESG-oriented project or company should be able to “list” their credentials and funding requirements on a digital platform, using ESG data formats linked via blockchain technology to existing audit providers or cloud platforms that draw data from hardware such as sensors, smart cameras and robots.
By standardising ESG data and using AI-driven analysis, deserving companies and projects could be matched with interested investors.
The world is awash with start-ups and innovators offering net-zero or SDG-targeted solutions. Their greatest problem is that the market for funding is fragmented, geographically constrained and difficult to penetrate.
While universities, banks, and multinationals have launched incubators or start-up competitions with the best of intentions, such schemes are top-heavy and lack scalability.
We are not asking for new digital platforms to be created overnight. The marketplaces that match supply and demand through standard bulletin boards, data credentialing, and trusted clearing and payment platforms, are none other than today’s stock markets. Some 54,000 companies are currently listed worldwide, but the entry barriers remain too high for MSMEs.
Luckily, stock markets do aim to support ESG, with Hong Kong, Singapore and Jakarta all having shown interest in launching wide-scale voluntary carbon markets. These platforms would match holders of nature-based or climate technology assets with potential buyers of carbon credits through a secure and trusted process that could be global at both ends. But why stop at carbon credits?
By opening up these platforms to ESG-positive projects or companies, carbon credits and ESG fund-matching become part of the same game.
Market failure occurs because a lack of transparency and liquidity forces players to pay high transaction costs. If stock markets behave only as monopolies, no one wins. When they lower social costs for everyone, new opportunities arise. If Hong Kong is serious about innovation and ESG, it must break away from “business as usual”.
Pamela Mar is executive vice-president, knowledge and applications, at the Fung Group. Andrew Sheng is a distinguished fellow at the Asia Global Institute, University of Hong Kong. The views expressed here are the authors’ own