The Economist - USA (2020-02-15)

The EconomistFebruary 15th 2020 Finance & economics 65

1

E

arlier thismonth wsp, a mid-size Ca-

nadian consultancy, announced that it

had amended the terms of a loan of $1.2bn.

What made it unusual was that the interest

rate hinges on hitting three targets. The

company wants to reduce greenhouse-gas

emissions from its operations, increase

revenues from green sources, such as re-

newable energy, and raise the share of

women in management. For every goal that

it meets (or misses), its interest payments

will fall (or rise) by a set amount.

Such sustainability-linked loans are

booming. The first loan was made in 2017;

two years later issuance had risen to

$122bn, according to Bloombergnef, an en-

ergy consultancy. They now make up a

quarter of sustainable-debt issuance

(which is itself around 1% of global debt is-

suance). That is less than green bonds,

which tie the proceeds of bond issues to in-

vestment in environmentally friendly pro-

jects. But the newfangled loans are quickly

making up ground.

Sustainability-linked loans are not

linked to specific projects. Borrowers sim-

ply get rewarded (or penalised) based on

their performance on some environmen-

tal, social and governance (esg) measures.

Green metrics, such as carbon emissions,

are common.

That flexibility over how the money is

spent explains why the loans are so popu-

lar. Good public relations is another rea-

son. Many firms in industries blamed for

the world’s ills have issued loans. The sin-

gle biggest issuer last year was Shell, an oil

giant, with $10bn linked to reducing its car-

bon footprint. Other borrowers include

fast-food chains and airlines. Interest rates

may be nudged down by around 0.05-0.1

percentage points for good behaviour.

As with many forms of sustainable fi-

nance, greenwashing is a worry. One po-

tential problem is the data on which the

change in borrowing costs depend. Mike

Wilkins of s&p Global, a credit-rating agen-

cy, says that the use of self-reported figures

is a concern. Another option is to rely on

esg scores calculated by specialist data

firms and some credit-rating companies.

Dozens of loans are based on these. But the

esg-raters use opaque methods and rarely

agree on which companies are sustainable.

Even with reliable data, it is unclear

how ambitious the targets are. Many issu-

ers do not publicly disclose their exact

goals, which are usually thrashed out with

thelenders.Somecompanieshavestarted

asking if their pre-existing esg targets

qualifythemfora cheaperloan,saysDan

Shurey,ofing, a bank.Manyexpectthat

regulatorswilleventuallysetstandards.

Theideahasspreadtothebondmarket.

InSeptemberEnel,anItalianenergycom-

pany,issuedthefirstsustainability-linked

bond.If it doesnotincreasetheshareofre-

newablesinitstotalgenerationcapacity

from46%todayto55%by2021,theinterest

ratewillgoupfrom2.7%to2.9%.

Investorsarekeen.Enel’sbondoffering

wasalmostthreetimesoversubscribed.A

similarbondissuethenextmonthbythe

companywasevenmorepopular.Bothbig

institutional investorsand smaller, sus-

tainability-focused ones are getting on

board.Linkedlendingoffersthema wayto

addtotheiresgportfolioandburnishtheir

greencredentials.Andif thecompanyfails

tohititstarget,theymakemoremoney

intothebargain.^7

Companies are tying their loans to

measures of do-goodery

Sustainability-linked debt

Green paper

I

n 1979 an imfnegotiator met Julius Nyer-

ere, Tanzania’s socialist president, and

urged him to weaken the country’s curren-

cy. “I will devalue the shilling over my dead

body,” Nyerere fumed afterwards. Over the

next decade, many African leaders took

similar stands. But faced with worsening

terms of trade and foreign-currency short-

ages, they eventually let their currencies

slide. Tanzania bowed to the inevitable in

1986, after Nyerere had left office. Most Af-

rican exchange rates are now about where

markets think they should be.

Could governments go further? An un-

dervalued currency makes a country’s ex-

ports cheaper, and so acts as an implicit

subsidy to firms that sell abroad. That can

counterbalance institutional failures, such

as the difficulty of enforcing contracts,

which hurt exporters more than they do lo-

cal businesses—barbers, taxi-drivers and

the like. Exposure to world markets also

helps companies learn and improve.

Dani Rodrik of Harvard University ar-

gues that governments in developing

countries should not simply aim for an

“equilibrium” exchange rate, as the imf

would urge, but actively engineer under-

valuation. That may entail measures such

as capital controls or reserve accumula-

tion. Some Asian countries, including Chi-

na, adopted this strategy as they industrial-

ised. Empirical studies suggest that

undervaluation boosts growth, and more

so in poor countries than in rich ones.

Strange, then, that those African coun-

tries that do manage their currencies are

still trying to prop them up. Nigeria re-

stricts access to foreign exchange to keep

the naira strong. Ethiopia’s drive to become

an Asian-style hub for export manufactur-

ing has been hindered by an overvalued

birr (though a new imfprogramme could

weaken it). A group of eight mostly franco-

phone west African countries are changing

the name of their currency but not, telling-

ly, the rate at which it is pegged to the euro.

The last devaluation, in 1994, sparked riots.

A tendency to keep the currency strong

is built into the structure of African econo-

mies. Commodity exports and aid inflows

raise demand for local currencies, making

them stronger. Governments fear depre-

ciation because they depend on imported

capital to finance infrastructure projects; a

weak currency forces them to raise more

revenue to pay back foreign debts.

Depreciation also pushes up the cost of

imported goods, including food, medicine

KAMPALA

Why do African countries like their

currencies strong?

African currencies

Value judgments

Currency appreciation