Tackling the global climate crisis won’t come cheap. Innovative financing tools capable of bridging the annual funding gap of approximately $10 trillion until 2050 to limit the temperature rise to 1.5°C are required to address this. Although still in the early stages of development in Nepal, green bonds and carbon markets have emerged as powerful instruments to mobilise capital and incentivise sustainable practices.

For a developing nation like Nepal, balancing the dual priorities of economic growth and environmental sustainability is crucial, especially when leveraging its vast forest reserves and renewable energy potential. Significant challenges, including regulatory gaps, underdeveloped markets and limited technical expertise, need to be overcome to realise this potential.

This article explores the global applications of green bonds and carbon markets, identifies their opportunities and uses, introduces the Green Finance Taxonomy and outlines the framework needed to establish a robust climate finance ecosystem in Nepal. By unlocking the potential of green bonds and carbon markets, Nepal is taking a vital step towards sustainable development.

What Are Green Bonds?

issued to raise capital specifically for climate-related or environmental projects that deliver tangible environmental benefits. This is facilitated through a "use of proceeds" clause, which ensures that monitoring, reporting and compliance controls are in place for the transparent and effective utilisation of bond proceeds. Eligible projects include renewable energy generation, energy efficiency, water and wastewater management and climate change adaptation. Green bonds are typically issued by supranational, sovereign, sub-national entities and corporations.

The issuance process involves identifying eligible projects, creating a framework and obtaining third-party verification. Managing the proceeds of green bonds requires tracking, allocation and reporting to ensure transparency, prevent greenwashing, and confirm that the funds are directed towards genuine environmental benefits. For example, if a green bond is issued to finance a solar power plant, the issuer is mandated to periodically report on the amount of funds disbursed, the number of solar panels installed, the amount of energy generated and the estimated reduction in greenhouse gas emissions.

Green bonds form part of the global GSSS (green, social, sustainable, sustainability-linked) bond market. The GSSS bond issue market grew from $15 billion in 2013 to $1.07 trillion in 2023. The global green bond market itself has seen exponential growth, rising from $11 billion in 2013 to approximately $575 billion in 2023. While Europe leads with $341 billion issued in 2023, there is increasing participation from the United States, Australia, and the Middle East.

International Carbon Markets

Carbon credits and offsets are the tools used in international carbon markets. While carbon credits operate in the compliance market, carbon offsets operate in the voluntary market.

Carbon credits, issued by national or international government agencies, are tradeable certificates representing the reduction of one metric ton of CO2. They are used in the context of emissions trading in which companies are given a fixed number of credits and can later purchase or sell credits. Carbon credits exist where there is a “cap-and-trade” system. The “cap-and-trade system” establishes a cap on maximum emissions, promoting lower emission generation and investments in energy efficiency.

Renewable Energy Certificates (RECs) are issued when electricity is generated from renewable sources and sold separately from the actual electricity produced. Carbon offsets are created when entities finance projects that reduce GHG emissions. These fall into one of 2 categories, being nature-based solutions such as reforestation and restoration activities or engineered solutions such as carbon capture or energy generation. There are no mandates governing voluntary market participation as this is a voluntary mechanism. However, fragmented carbon compliance markets such as the EU Emissions Trading Scheme (ETS) have developed, enabling companies to buy and sell carbon credits to other companies.

The cost and quality of carbon instruments varies as they are determined by: real removal of CO2 emissions, measurable and tangible long-term impact, risk management, independent verification, and community benefits. For instance, to support their carbon-neutrality targets, Microsoft purchased 2 million carbon credits in 2021 from various projects, focusing on renewable energy generation and reforestation. Charm Industrial is one such project converting waste biomass into bio-oil, removing 5,000 tons of CO2.

Opportunities for Green Bonds in Nepal

As a country with vast hydropower potential and demand for infrastructure development, Nepal is a natural candidate to secure green investments. Sectors like urban development, transportation and waste management also present significant opportunities for green bond issuance.

They key areas for green bond investments in Nepal include:

● Renewable Energy Development Assets: Sustainable financing mechanisms for hydropower projects, solar energy projects, and wind farms promoting rural electrification and economic growth.

● Sustainable Urban Development: Funding eco-friendly transportation systems such as electric buses, EV charging infrastructure and other smart urban planning initiatives.

● Waste Management Solutions: Supporting projects focused on waste-to-energy conversion, recycling infrastructure and sustainable landfills.

In October, NMB Bank and the International Finance Corporation (IFC) joined hands for a $50 million green bond issue. The proceeds will go into eligible climate assets dedicated to EV retail & distribution and solar projects, making it the first green bond issue in Nepal. This aligns with developing Nepal’s long-term debt capital market and climate financing landscape while attracting international players.

Leveraging Carbon Markets in Nepal

Nepal’s extensive forest cover, accounting for approximately 40% of land area, presents untapped potential for generating revenue through carbon credits. This can occur through carbon sequestration, a natural process where trees and plants capture carbon from the atmosphere, and can be achieved through community-based forest management, reforestation and climate-smart agriculture, attracting buyers from compliance and voluntary markets.

Biogas Support Program, which is managed with support from the World Bank and UNFCCC, one of the key projects in Nepal. It transforms organic waste into biogas for cooking and has been highly successful in rural areas. Two projects under this program were issued carbon credits by the UNFCCC. Together, generate 170,000 carbon credits annually. This highlights Nepal’s potential in leveraging carbon markets to fund climate-resilient technologies and benefit local communities.

The Role of the Green Finance Taxonomy

Green Finance Taxonomy, which was launched recently by the Nepal Rastra Bank (NRB), is a significant milestone in Nepal’s climate finance journey. This legislation provides a framework for defining green activities, laying the foundation for credible climate finance mechanisms such as the classification of green activities, alignment with global standards and monitoring and evaluation. The Green Finance Taxonomy plays an important role in advancing the green bond and carbon credit markets by providing a clear, standardised framework for identifying and classifying investments. Nepal’s capital market is at the early development stages to attract green finance. For instance, the Securities Board of Nepal (SEBON) has incorporated provisions for green bonds and debentures which has facilitated the issuance of three energy bonds and four agricultural bonds with coupon rates of between 4-10.35%. This is typically lower than that of traditional bonds. These bonds have been issued by the Agriculture Development Bank Ltd, NMB Bank, and the Nepal Infrastructure Bank.

Establishing a Green Bond Framework

To establish a credible green bond market, the government needs to develop a comprehensive guideline for green bond issuance which includes a criterion for project eligibility, certification schemes and monitoring and reporting standards as well as cooperation with the private sector, bilateral partners and policy coordination. This will ensure transparency, accountability and environmental impact. This framework should include clear criteria for project eligibility to ensure that projects with verifiable environmental benefits are funded and prioritised. A robust certification process which involves independent third-party verifiers is essential for this.

The framework must mandate impact reporting standards that provide investors with detailed, periodic reports on how funds are utilised and the measurable environmental outcomes. Creating a central registry of green bonds could enhance market oversight and prevent misallocation of resources. Capacity building by engaging stakeholders like private sector players and development partners in the design and implementation of this framework will bolster international credibility. Private sector players need to be incentivised with tax breaks, concessional loans and public-private partnerships in order to create a supportive ecosystem for the growth of green bonds and the entire GSSS bond ecosystem.

Establishing a Carbon Credit and Offsets Framework

To unlock the potential of carbon credits in Nepal, the government must establish a robust framework that ensures the credibility, scalability and inclusivity of carbon credit generation and trading. It should include standardised methodologies for project development to ensure consistency in measuring, reporting and verifying emissions reductions or removals. The framework must mandate independent third-party verification to validate project claims and ensure compliance with international standards, such as those established by the Verified Carbon Standards (VCS) or the Climate Action Reserve (CAR).

Nepal has a low grid factor which limits the scope for carbon credit issues to domestic players and industries. While setting a well-defined domestic baseline specifying the reference level of emissions reduction is crucial, leveraging the true potential of carbon credits and offsets in Nepal requires close coordination and partnerships with international players. This entails integrating into international REC trading platforms in order to monetise renewable energy and the opportunity for parties in international markets to lower their carbon footprint even if they have no choice but to purchase electricity from their fossil-fuel powered national grid.

This includes capacity building initiatives such as agents, strategic partnerships with multilateral agencies and development partners who provide funding, technical assistance and support in navigating best practices. By developing a robust and transparent carbon credit framework, Nepal can position itself as a key player in the carbon market while advancing its development goals.

Barriers to Scaling Green Bonds and the Carbon Market

Despite the promising opportunities, Nepal faces several systemic barriers. These include:

1. Regulatory Gaps: The absence of a clear legal and institutional framework for green bond issuance and carbon credit trading limits the scalability of these instruments.

2. Capacity Constraints: Limited technical expertise in developing, certifying, and managing climate finance projects hampers Nepal’s ability to fully leverage these tools.

3. Market Fragmentation: Nepal's lack of integration with global climate finance markets reduces investor interest and restricts access to international capital.

4. Verification and Monitoring Challenges: Ensuring compliance with international standards for carbon credits and green bonds remains a critical hurdle globally, given the technical and financial demands of project validation and well as the costs involved. Both markets rely heavily on private governance regimes which mean they do not have the same enforcement mechanisms as public regulation. This also results in different ESG ratings among agencies making it difficult to compare carbon credit projects.

Conclusion

Green bonds and carbon credits represent powerful tools for addressing the global climate crisis and offer Nepal a pathway to mobilise resources, attract international investment and drive sustainable development. With abundant hydropower resources, expansive forest cover and growing energy infrastructure, Nepal is uniquely positioned to be a regional leader and attract cross-border investments, paving the way for a low-carbon future. The launch of the Green Finance Taxonomy is a promising step, but much work remains to establish robust frameworks, build capacity and foster market confidence. A great example of capacity building initiatives is showcased by Bizbell Pvt Ltd which has had two of their hydropower projects certified by the Hydropower Sustainability Standards (HSS), showcasing their commitment to responsible infrastructure development and meeting global standards.

By working with strategic development partners, engaging stakeholders, and prioritising policy reforms, Nepal can unlock the transformative potential of green finance. The time to act is now—transforming ambition into action and challenges into opportunities.

(Team Ventures is an industry-agnostic alternative investment firm with a diverse portfolio spanning the energy, technology, real estate, manufacturing, financial institutions, agri-infrastructure, and electric vehicles segment.)

(This opinion article was originally published in  January 2025 issue  of New Business Age Magazine.)