Green Bond Pricing and Greenwashing under Asymmetric Information

IMF Working Papers, December 9, 2022

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Framework: Corporate green bond market analyzed under a rational framework without an innate green preference using a simple adverse selection model.
Signaling: Firms can use green bonds to signal their green credentials to investors.
Transition risk: Stems from uncertainty over the introduction of carbon pricing.
Core result: Green bonds have a price premium over conventional bonds when there are information asymmetry, transition risk, and it is costly to engage in greenwashing (false or exaggerated claims of being green).
Relationship: The extent of greenwashing in the market is a function of the green bond premium.

Green bond premium arises only under the joint presence of:
- Information asymmetry,
- Transition risk from uncertain carbon pricing,
- Costly greenwashing.
Policy timing and magnitude effects:
- A swift and gradual implementation of carbon pricing generates a small green bond premium and a low level of greenwashing.
- Delayed and large carbon pricing has an ambiguous effect on both green bond premium and the level of greenwashing.
Market integrity hinge: The model shows that green bond pricing and greenwashing dynamics are sensitive to disclosure quality, regulatory costs of misrepresentation, and expectations about carbon policy.

Need for swift action on carbon pricing to reduce transition risk and influence green bond pricing dynamics.
Importance of strong information disclosures to reduce information asymmetry between firms and investors.
Need for regulations that increase the cost of greenwashing to preserve the integrity of green bonds.
Combined approach: Swift carbon pricing, robust disclosure standards, and enforcement can reduce incentives to greenwash and stabilize green bond premia.