Japan considers itself not just a pioneer in climate finance, but also a champion of the now widely held view that richer countries should help poorer countries. Towards the end of last year, Vietnam signed a deal with France, Germany and other EU members – along with developed economies such as the UK and US – to support Vietnam’s transition to net zero by 2050. The agreement, made at the COP 27 climate summit in Egypt, mobilises $15.5 billion (€14.3 billion) of public and private finance. The organisation behind it, known as the Just Energy Transition Partnership (JETP), enables developed-market countries to support less wealthy nations in their carbon transition. With its help, Vietnam should now be able to accelerate its action on greenhouse gas (GHG) emissions and transition from fossil fuels to clean energy. Speaking after the deal was made, UK prime minister Rishi Sunak lauded the JEPT as “a game-changer in the fight against climate change”. In Japan, sustainability experts say the JETP partnership is underpinned by principles that form the crux of Japan’s strategy to achieve net zero by 2050. These financial principles involve support for industrial sectors that find the carbon transition most challenging. The issuance of transition bonds by sectors that cannot achieve net-zero emissions quickly, such as steel, chemicals and oil, has surged in Japan recently. The country will issue around 35.5 trillion yen (€250 billion) in government bonds for the fiscal year 2023/24 to help such companies reduce their carbon footprints speedily, according to Reuters.

“The definition of transition finance in Japan is much more comprehensive today amidst challenges such as geopolitical crisis, a post-Covid world, ageing demographics and the carbon neutrality target.”

The vision for a carbon-neutral society can only be realised by financing the transition toward steady decarbonisation, mainly in GHG-intensive industries. Fincity.Tokyo (FCT) – a body founded by the city’s metropolitan government and businesses to elevate Japan’s status as a financial hub – recently hosted an expert panel to explore how Japan is mobilising finance with this objective in mind. Experts on the panel urged global stakeholders to take a leaf out of Japan’s book by funding investments that will help high-emitting industries – including those in wider Asia – reach the net-zero target. FCT’s executive director, Keiichi Aritomo, highlighted its focus on green transformation in supply chains, working with the World Alliance of International Financial Centers (WAIFC) to analyse data and make value chains more transparent for sustainable investors. The activities are not just about Japan’s famously large corporations, but also their supply chain constituents – raising finance for sustainability projects among small and medium enterprises in the Association of Southeast Asian Nations, for example. “The definition of transition finance in Japan is much more comprehensive today amidst challenges such as geopolitical crisis, a post-Covid world, ageing demographics and the carbon neutrality target,” said Aritomo.

Impacting supply chains

One of the goals of an ongoing WAIFC project in collaboration with FCT is to develop a solution that will achieve net-zero GHG emissions along entire supply chains. These are known as ‘scope 3’ emissions – that is, those in supply chains over which individual companies that benefit from their suppliers’ activities have little control. A supply chain, of course, can be multinational, with much of it in emerging markets. Ikeda Satoshi, chief sustainable finance officer at Japan Financial Services Agency, said: “Japan has a sizeable asset industry collaborating with asset managers who typically allocate to major MNCs [finished goods manufacturers or service providers] well positioned to outsource to lower-tier suppliers or raw material suppliers in emerging markets.” The questions FCT and WAIFC are trying to answer involve who should be held accountable, the key measures needed, and how solutions such as artificial intelligence, big data, smart contracts and other technological innovations might play a part. Another consideration is how to secure funding.

The “maverick” investor

Policymakers and regulators were not ready to embrace the breakthrough concept of transition finance when it first emerged. According to Ikeda, the green taxonomy was popular among regulators, and Japan was the “maverick” that initiated working with transition finance. “Today, [Japan] has demonstrated its efficacy as a pillar of sustainable finance policies in multiple jurisdictions,” said Ikeda. The country was an early advocate of the importance of transition and innovation finance, he argued, citing as an example the Climate Innovation Finance Strategy, adopted in 2020 to support the United Nations Sustainable Development Goals and the 2015 Paris Agreement. Japan also submitted its ‘nationally determined contribution’ to GHG reduction in April 2021, pledging a 46% reduction by 2030 compared with 2013, and carbon neutrality by 2050. Transition finance is often misinterpreted as a subcategory of ‘green’ or ‘less green’ finance, he observed. “Transition finance is a dynamic process to fill gaps against specific targets – such as Japan halving its emissions by 2030 or going carbon-neutral by 2050. Companies need to take action towards accomplishing these goals, and transition finance incentivises their progress.”

Why green taxonomy is not the answer

Ikeda expressed his reservations about the EU’s green taxonomy, highlighting its limited scope for accommodating the various ‘shades of green’ that are an outcome of the EU’s regional variations. Referring to another of its critics – Ben Caldecott, director of Oxford Sustainable Finance Programme – he said: “Green in 2020 will be different from green in 2030, and green in Germany will not be the same as green in a developing country or even another G7 country. “The threshold for assessment of greenness would not be free from political influence or lobbying either, and it could be slow-moving relative to changes in science and evolving client preferences.” More importantly, the taxonomy reinforces a view that green is niche and not mainstream. “We must overcome the deficiencies of the green taxonomy by establishing transition finance standards based on carbon-emission data that brings granular visibility across the value chain,” Ikeda said. Sector roadmaps are practical tools that capture and depict movement toward transition, in contrast to the static categorisation of economic activities.

Guidelines and roadmaps

Japan is leading the way forward with a sector and entity-based approach, according to Ikeda. As a reference for companies, investors and external reviewers, Japan’s relevant government ministries published basic guidelines on climate transition finance and sector-specific technical roadmaps. The country’s financial services agency and various government ministries formulated guidelines to establish transition finance in line with the International Capital Market Association’s climate transition finance handbook. Examples and interpretations of recommended disclosure elements serve as a reference point for fundraisers and investors who want to consider action points that match international standards of transition finance. For instance, to aid investor decision-making, four disclosure elements are recommended, including environmental materiality and science-based strategies and transparency. A technology roadmap is an attempt to address carbon neutrality credibly, by being comprehensive (covering approximately 70% of carbon emissions in Japan), ambitious (aiming for carbon neutrality by 2050 and alignment with the Paris Agreement) and feasible (so that transition realised through the implementation of policies such as basic energy plans and a green growth strategy).

Results of model projects

About 12 model projects were developed in 2021, aligned with guidelines on the shipping, chemical, iron/steel, energy, aviation and heavy engineering sectors. For example, Japan Airlines issued transition bonds to achieve its CO2 reduction targets by 2030 through projects such as upgrading its fleet with fuel-efficient aircraft. The framework for the issuance of transition bonds was developed based on external reviews that confirmed the framework aligned with relevant market standards. “Dynamism, flexibility and interaction constitute the cornerstones of Japan’s transition finance initiative,” said Ikeda. “In our sector and entity-based approach, each company develops a credible transition strategy, which is evaluated and reviewed by investors, financial institutions and external evaluators based on clear guidelines on effective practices but not rigid standards.” The Asia Transition Finance Study Group was established by private financial institutions in September 2021 to explore the concept of Asia Transition Finance (ATF). The group published two reports – the Asia Transition Finance Activity Report and Asia Transition Finance Guidelines – and a technology report, which served as a final recommendation at the Asia Green Growth Partnership ministerial meeting in September last year.

North versus south

David Semaya, executive chairman and representative director of Sumitomo Mitsui Trust Asset Management, shared his insights and experiences from COP 27. Acknowledging the difference between northern and southern perspectives on the transition topic, he said the roadmap to sustainability is contingent upon different structures of financial systems. After COP 27, all signs point to the world hurtling past the 1.5 degree Celsius global warming limit. “The individual is key for moving to a 1.5 world, and the role of the press is even more crucial,” said Semaya. Drawing inspiration from the Japanese system of a full-body health check-up or Ningen Dock, he added: “COPs should be that health check report we must take seriously.”

Futuristic finance

Any transition plan must factor in food and energy security issues, Semaya concluded. Blended finance is a relatively new term, with a focus on developing countries that need help. “The idea of consolidating public-private partnerships is key to achieving this goal,” he added. “Despite initial scepticism about the Japanese transition model, now there is a global consensus about its efficacy, not just for G7 but also G20, as well as developing countries.” He stressed the need for a pragmatic approach that engages rather than excludes. “Engagement may not feel good, but is the only way forward.” © 2023 funds global asia