Can digitalization be the answer?


2021 has been a banner year for sustainable finance, with the creation of the Glasgow Financial Alliance for Net Zero (GFANZ) managing over US$140 trillion (RM590.650 billion) in assets; sustainability bond issuance of up to US$1 trillion (RM4.22 trillion) and record inflows of over US$120 billion (RM506.27 billion) into funds targeted at environment, social and governance (ESG).

Funds do not seem to be lacking today for ESG. Does this mean that the global transition to a low-carbon economy is now on track? Yes and no.

It is certain that mobilizing finance to reward ESG-compliant companies via the financial markets is absolutely necessary.

However, simply classifying financial assets as ESG does not produce better results if those funds cannot land where they are most needed. Above all, they must overcome two imbalances inherent in global finance.

The first imbalance is between emerging markets and developed markets. More than half of global investment towards net zero needs to be made in the developing world – Asia alone needs US$3 trillion (RM12.66 trillion) per year by 2030 to achieve the United Nations Sustainable Development Goals (SDGs).

And yet, critically, most ESG-labeled assets are in Europe, and only 10% are in Asia. Asia therefore still lacks ESG funding.

The second imbalance is between large and small companies or projects. The shortage of funds for micro, small and medium enterprises (MSMEs) is a sad story of market failure.

MSMEs create more than 80% of all jobs in developed or emerging markets and contribute significantly to growth, social stability and innovation. And yet they are constantly underfunded, even when the world is awash with cash.

The pandemic has widened the global trade finance gap to US$1.7 trillion (RM7.17 trillion), borne mainly by MSMEs. McKinsey estimated that 65 million MSMEs have credit constraints worldwide.

Financing these companies can potentially lift two to three billion people out of poverty. The fact is that global finance as it is currently structured does not find it profitable to lend or invest small amounts to small businesses.

A high-income banker would rather lend to two or three borrowers requiring between US$30 million and US$50 million (RM126.57 million to RM210.94 million) each with good collateral, than worry about a loan portfolio of US$100 million (RM421). 89mil) of a thousand small borrowers with poor credit records.

As a result, most banks are chasing big borrowers, instead of choosing to serve small ones.

These imbalances have serious consequences for our global climate struggle. Given that SMEs account for over 40% of emissions reductions in value chains and are too small to access banks and stock markets, how can they seriously contribute to achieving NetZero?

These inequalities occur everywhere even when the intentions are good. Hong Kong’s Green and Sustainable Finance Grant Scheme is an eloquent example.

The program aims to reduce green finance issuance costs by subsidizing issuance costs, including attorney, accountant, sustainability auditor and other professional fees.

During its first months, the program mainly supported large, well-established companies, which probably did not really need this support.

Even the lowering of the minimum lending threshold from US$25 million (RM105.47 million) to US$12.5 million (RM52.74 million) in the recent budget is unlikely to attract more SMEs to apply, because by definition, most SMEs have revenues of less than 20 US dollars. million (RM84.38mil).

The reality of the market is that for both large banks and SMEs, it’s just not worth the paperwork and credentials needed to process small loans.

Many factory owners find it faster and easier to get a second mortgage or consult with a lender than to go through the hoops of a good meeting, which means “know your customer and the terms anti-money laundering”.

The good news is that digitization can help by dramatically reducing the cost of loan processing while creating reliable data needed to improve risk management.

Today, individuals can open bank accounts and access small loans in minutes, as ANT Finance and WeBank have shown. Can we scale the same model for SME financing, with an ESG twist?

Any ESG-oriented project or company should be able to “list” their credentials and funding needs through a digital platform, using blockchain-verified ESG data formats against existing audit providers or platforms. cloud forms pulling data from simple hardware such as sensors, smart cameras, and robots.

Standardizing ESG data and AI-based analysis could connect deserving companies and projects with interested investors, who could then provide funding and expertise with speed, scale and reach.

The world is currently teeming with startups and innovators offering net-zero or SDG-targeted solutions. Their biggest problem is that the market for talent, funding and branding is fragmented, geographically limited and difficult to penetrate.

While universities, banks and multinationals have launched incubators or startup competitions with the best intentions, these programs are very cumbersome and lack scalability.

We are not asking that new digital platforms be created overnight. The markets that match supply and demand on a daily basis through standard bulletin boards, identification data and reliable clearing and payment platforms are none other than today’s stock markets. . A total of 54,000 companies are currently listed worldwide, but entry barriers are still too high for MSMEs.

Fortunately, stock markets aim to support ESG, with Hong Kong, Singapore and Jakarta all exploring the launch of large-scale voluntary carbon markets.

These platforms would connect holders of natural or technological climate assets with potential buyers of carbon credits through an accredited, secure and reliable process that could be global on both sides (investors and carbon assets). But why stop at carbon credits?

By opening up these platforms to ESG positive projects or companies, carbon credits and matching ESG funds are part of the same game.

Market failure occurs because market participants pay too high transaction costs due to non-transparency and liquidity. If stock markets only behave like monopolies, nobody wins.

When they reduce social costs for everyone, new opportunities arise. If Hong Kong is serious about innovation and ESG, it’s time to take risks and step out of the status quo.

Andrew Sheng writes about global issues from an Asian perspective. The opinions expressed here are those of the author.


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