SUSTAINABILITY VS. STABILITY: SHOULD CENTRAL BANKS INVEST IN GREEN BONDS?

Abstract:Over the past few years, central banks have increasingly prioritized sustainable development policies, actively seeking ways to promote sustainability through their financial strategies. One potential approach is investing a portion of their foreign exchange reserves in green bonds, thereby supporting the financing of environmentally friendly projects. However, for green bonds to be considered suitable investments for central banks, they must satisfy key portfolio requirements - ensuring security, liquidity, and profitability. This research explores the viability of central banks allocating part of their reserves to green bonds, analyzing whether these investments align with the abovementioned necessary conditions. The aim of this research is to determine whether incorporating green bonds influences overall portfolio risk and enhances diversification while supporting the achievement of sustainable development goals. To address these considerations, portfolio optimization was conducted using Markowitz’s model, incorporating traditional central bank investment assets such as government bonds, corporate bonds, stocks, gold, and green bonds. The findings suggest that adding green bonds to a central bank’s portfolio has neither a significant impact on portfolio risk nor a notable effect on diversification. Moreover, the study reveals that portfolios containing green bonds exhibited similar responses to COVID-19 shocks as those without them, reinforcing the rationale for such investments. Ultimately, the results indicate that while green bonds do not contribute significantly to diversification, they also do not elevate portfolio risk. Therefore, central banks may consider investing in these instruments primarily as part of their commitment to social responsibility rather than for improving portfolio performance.

 

Keywords: central banks, green bonds, portfolio diversification, foreign exchange reserves, Markowitz’s model