Can Innovations in finance really support the blue economy?

Nick Trueman

Welcome to “The Angle” from T. Rowe Price. Sharper insights on the forces shaping financial markets begin here.

In this inaugural season of the angle, we're diving into the world of the blue economy. I'm Nick Trueman and I'm your host as we seek to learn more about this intriguing and rapidly evolving area of the world economy and sustainable financing.

In other episodes in the series, we've focused on the importance of the world's water resources for economic development, and the threats they're facing. Today, we're taking a new angle - the role of financing in the blue economy ecosystem. Specifically, we're delving into the evolution of blue financing as a vital tool to support sustainable development of the blue economy.

My guests today are Samy Muaddi and Matt Lawton. Samy is head of Emerging Markets Fixed Income at T. Rowe Price, and an adjunct professor at Georgetown University. Matt is a fixed income impact portfolio manager at T Rowe Price. He has extensive industry knowledge, and for the last several years has had a laser focus on impact investing - itself an area of innovation in finance to support sustainable initiatives.

Samy, Matt, thanks very much for being with me today.

Matt Lawton

Thank you, Nick. Thank you, Samy, Nice to be with you.

Samy Muaddi

Thank you both. Great to speak.

Nick Trueman

So Matt, let me start with you. We’ve learned about the blue economy and its importance to global economic activity, jobs, communities. We know there are major funding gaps when it comes to supporting sustainable initiatives in this area, particularly those that can help address the United Nations Sustainable Development Goals or SDGs. How are innovations in finance working to help plug these gaps?

Matt Lawton

Sure, Nick, thanks for the question. As you rightly note, despite all of the efforts and investments that have taken place over the years, the United Nations Sustainable Development Goals, or SDGs, remain severely underfunded. According to a U.N. report published in July of 2023, there's yet still an estimated $4 trillion annual funding gap that needs to close to reach the global SDG targets by 2030.

Funding in support of these SDGs can come through both public as well as private sector channels. And one funding mechanism that can serve as a bridge to the SDGs are what are known as ESG use of proceeds bonds. Examples of ESG use of proceeds bonds include green bonds, social bonds, and sustainability bonds. These are debt instruments where proceeds are used to finance discreteenvironmental, and, or social projects that in turn hopefully produce positive impact outcomes, again in support of the 17 U.N. SDGs.

Now, the very first of these markets to develop was the labeled green bond market, and that began in 2007 with the European Investment Bank issuing what was known as a climate awareness bond, which was used to fund environmental projects. And in the time since, we've seen tremendous growth, advancement, and innovation within the space. We've seen the advent of social bonds which finance social projects such as affordable housing, microfinance lending, as well as sustainability bonds, which finance both environmental as well as social projects.

We've also seen the universe of issuers expand in terms of both depth and breadth. We now see ESG bonds in diverse markets, from sovereigns to corporates to development banks, to asset backed issuers, just to name a few. And one more recent example of innovation within the ESG bond market would be blue bonds. And blue bonds, which are a subset of green bonds, are debt securities, where proceeds are used to finance initiatives promoting ocean friendly projects and critical clean water resources protection. And I would say interest, engagement, and enthusiasm around blue bonds has been noticeably increasing within the capital markets, specifically among issuers, investors and underwriters. And that's really exciting, because the market is starting to view blue financing now as a potential accelerant in helping to drive further growth and innovation within the broader ESG bond market.

Nick Trueman

Samy let me bring you in here. As Matt has explained, blue financing is a relatively new concept. Can you describe the nature of the market and its potential to help address the needs of sustainable development?

Samy Muaddi

Thanks, Nick. Let let's take a step back here. I always think history can be informative. So, before the United States was even formed in 1774, one of the first pieces of paper debt obligation issued was for the New York colony issued by the New York Waterworks Authority. It was meant to fund a steam engine, water storage, and distribution for an expanding colony. So actually the first blue bond is quite old, and I think what Matt and I are talking about here (blue finance) is maybe more in its modern incarnation.

And why are we here today? I think we are here as a financial community to help amplify the existing work of scientists, and academics, and policymakers, and civil society representatives. I think awareness about the importance of water resources, in my mind, I always think back to that image from space The Blue Marble 1972. And so, there is a foundation of existing work built on this. However, the human population has more than doubled since that photo was taken. So our usage of water resources, and then obviously the impacts of climate change is 90% of excess energy retained by Earth is absorbed by the ocean. We know the impact that has. The impact is expanding faster than the resources addressing it, and so it's our responsibility as a financial community to try to amplify that work and to participate in a solution here.

Now, historically, green bonds have tended to dominate the ESG labeled bond issuance. Blue financing, I understand, as I said in its modern incarnation, is new, but we absolutely see it gaining momentum. Water is a unifying theme in this industry. It's tied to our history, our culture, our communities, and we believe the blue bond market is at a tipping point. And as Matt suggests, maybe it mimics where that green bond market was 10 to 15 years ago.

These projects have been historically underfunded. And I would just really highlight the urgency here. Time is not on our side, and we seek as a financial community to again amplify the existing work that's happened for decades from other members of the ecosystem here.

Nick Trueman

Thanks for that Samy. From an issuer’s perspective Matt - what are the main objectives of issuing blue bonds?

Matt Lawton

That's a really important question, Nick. So why would an issuer even consider issuing a blue bond in the first place? In my conversations with capital market participants, again, issuers, investors and underwriters, three themes have surfaced to this question. So one, Blue Bonds can potentially offer access to a larger and more diverse investor base, thereby providing a deeper pool of funding and secondly, issuing a credible and ambitious blue bond could lead to reputational benefits from an issuer's perspective. That is, blue Bonds can provide a positive signal, from the issuer to the capital markets, that sustainability is a strategic priority for the enterprise. And for some investors, that may be an important consideration in deciding whether to purchase the bonds.
And then lastly, potential internal benefits for companies issuing blue bonds as well, such as more deeply embedding sustainability and water considerations into corporate culture, business decisions, providing the ability to better identify and manage risks in terms of how water affects their enterprise from both an operational, as well as financial perspective.

So again, although the market is in its nascent stages today, I think there are a number of noble considerations as to why we should expect to see issuer interest increase going forward.

Nick Trueman

So Samy from Matt we've heard about issuer interest increasing, and some very logical and thoughtful reasons behind that. Perhaps you can touch on some of the areas where blue financing is needed. Is it in specific countries, in specific regions, or specific segments? So perhaps you can dive into some of that, please.

Samy Muaddi

Yeah, Nick, the short answer is everywhere, and I think I'm going to run out of time going through all the details on it but let me give it a shot. Northern Africa and Western Asia are absolutely water stressed regions, and this can have a significant impact and lead even to civil unrest if unaddressed. And Latin America needs are more focused on aquaculture and agriculture. Asia must contend with elevated levels of plastic pollution. If we translate that to the sector level - transportation, nearly 80% of international trade of goods is transported by ship. Marine transportation of goods, as well as passengers, is a significant contributor to greenhouse gas emissions. Transitioning the sector to low carbon could require over a trillion dollars of investment to upgrade those fleets to alternative fuels.

Let's transition now to agriculture. Huge water consumer - demand for agriculture and aquaculture is going to remain high. As I mentioned, the global population that we haven't built the infrastructure to handle as many people as we have today versus 30, 40 years ago when some of this infrastructure was built. These water intensive industries will need investment to become more sustainable. Agriculture accounts for 70% of freshwater usage. Aquaculture is a substantial food source for much of the world. So to keep up with that demand, sustainable aquaculture is going to need nearly $200 billion in capital investment over the next ten years.

If we move to utilities, maybe let's just start with a human story. On some of my trips to Brazil, we've gone into favela communities, so these are the communities built on hills. And I could just tell you limited experience, but firsthand experience, it's tough to get clean water uphill and then there's a huge problem of dirty water coming downhill, and that impacts people every day. We have the technology to fix that, it just needs to get funded by water utilities.

Access to clean, reliable water effective waste management is really critical and essential to human life. Access to clean water is a human right as passed by the UN General Assembly in in 2010. And then governments certainly have invested in projects to curb ocean pollution, but I would just point out we're in a significant period of sovereign debt distress, probably the most significant period I've seen in my 18-year career. Probably the most significant in the industry for the last 30 or 40 years. And so the public sector balance sheet is constrained because of high debt burden and higher interest rates. So I think there's room for the private sector to be part of the solution here and something we can continue to expand on in our conversation.

Nick Trueman

I want to talk about governance. So both Matt and you have explained that blue bonds are at an early stage of development. There has been a lot, quite rightly, probably in the press around greenwashing in recent years. So greenwashing is the idea that something labeled as having green or environmental credentials may not live up to those claims.

There is significant discussion and debate around what qualifies as green or in this case, what qualifies as blue. I've heard these concerns myself. Is there a problem with blue washing? So perhaps, Matt, I can, I can start with you to talk about regulation, standards within the industry, and how we can tackle some of these issues.

Matt Lawton

Sure, Nick. Just to maybe level set in terms of how we define this term greenwashing or blue washing, as you say. This could be an issuer or even an investor that's misstating or even overstating their sustainability principles or asserted outcomes. An example could be an issuer raises funds through a blue bond, communicates to the market an intention to deploy those proceeds into a specific project, and turns out they use those proceeds for something else that maybe wasn't as particularly impactful as we thought.
And without doubt, we have seen instances of greenwashing or blue washing where we'll say parties have fallen short living up to their external messaging or external promises that they may have previously conveyed to the market. And in some ways, I think this is a consequence of the environment that we're in where ESG labels have been applied quite broadly, and in some cases quite liberally. Beyond regulation, industry groups such as the International Capital Markets Association, abbreviated ICMA, have provided guidance to the markets and on certain aspects of ESG bonds, at least such as impact reporting and measurement that's helping to elevate those standards. So it's my expectation that that over time we'll see certainly these regulatory frameworks evolve and it's certainly my hope that we'll see standards continue to strengthen.

Investors have to do their part, too. And we believe it's important that, you know, investors carry out their own independent assessment of these blue bonds to ensure that they are credible, ambitious, and believed to be free of any sort of blue washing. Impact investing is one channel that can be part of the solution.

Nick Trueman

Matt/Samy - thank you so much for your engagement on this really important topic today. I've really enjoyed the discussion.

Matt Lawton

Thanks Nick. Thank you Samy.

Samy Muaddi

Thank you Nick. Thanks Matt.

Nick Trueman

If I were to summarize the key takeaways from today are blue financing is going to play a key role in initiatives to enable more sustainable development of the blue economy. But there are big challenges, especially around substantiating and measuring outcomes, and that's why it's very important to have a robust process in place to help mitigate potential risks.

It sounds like the opportunity to create positive environmental and social impact is greater than ever.

Thank you for listening to “The Angle”. We look forward to your company on future episodes.

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The $200 billion in capital investment to support sustainable aquaculture over the next 10 years was part of a 2019 report by Nature Conservancy.

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