Sustainable Future Bonds: Boosting MDB Lending and Improving the Global Reserve System

Rio de Janeiro, Brazil. Photo by Davi Costa via Unsplash.

Amid warnings from the Intergovernmental Panel on Climate Change that it is “now or never” to make the investments necessary to limit warming to 1.5°C and avoid catastrophic costs, policymakers are in Paris this week to discuss the international financial architecture and how to efficiently mobilize sufficient resources for a green transition.

Multilateral development banks (MDBs) are crucial players to finance a green transition, but they need sufficient funding to reach their transformative potential. Given that major shareholders appear reluctant to increase MDB capital, hybrid capital arrangements that leverage foreign exchange reserves, which are in excess in many countries, could be a way to effectively mobilize fresh finance.

A new journal article published in Global Policy by Kevin P. Gallagher and Marina Zucker-Marques proposes the creation of Sustainable Future Bonds, a hybrid capital arrangement designed to unleash the potential of foreign reserves for development purposes:

Here’s how it would work:
  1. MDBs issue Sustainable Future Bonds, a fixed-income instrument with perpetual maturity – or expected to be rolled over into perpetuity – considered a permanent contribution to MDB resources.
  2. Central banks would use a small fraction of foreign reserves to purchase Sustainable Future Bonds.
  3. MDBs would leverage their new resources, expand their balance sheet and increase lending to their clients.
  4. The liquidity of Sustainable Future Bonds would be supported by a mutual agreement between central banks.
What it would yield:
  • Rechanneling just 0.5 percent of global foreign reserves could result in a mobilization of at least $45 billion per year in fresh capital to MDBs.
  • At that pace, by 2030, MDBs will have $260 billion in capital injections, which, depending on their leverage capacity, could result in new lending from $1.6 trillion to $1.9 trillion.
  • Plus, Sustainable Future Bonds would strengthen the international reserve system by supplying central banks with an additional safe asset for their portfolios.

Holding excess reserves carries significant social costs. By rechanneling excess reserves to MDB funding, countries could not only mitigate these costs, but contribute to financing green transitions in the Global South. Sustainable Future Bonds offer a timely, viable and safe alternative for investing in a sustainable future.

This journal article was previously published in June 2023 as a policy brief.

Read the Journal Article Read the Policy Brief