Updated: February 14, 2022 4:23:09 pm
In the Union Budget, the government announced its intention to promote green bonds with a view to support investments in climate-friendly projects. This is a timely move as India needs to urgently scale up the quantum of finance to meet her climate obligations and finance low-carbon development.
Latest estimates published by the Ministry of Finance (2018) project that the cumulative cost of India’s current Nationally Determined Contributions (NDCs) is roughly $ 3.5 trillion. Going by the available statistics, not more than 10 per cent of this is likely to come from the multilateral and international channels. The rest has to be mobilised through the domestic financial system. But green finance continues to remain scarce in India and low in scale, even though India is emerging as a big player in the green bonds market after the US and China.
India’s green finance landscape has three notable characteristics. First, the cost of green capital is higher due to its unconventional nature, the risks involved and the absence of a conducive regulatory framework. Second, there is a lack of sound and verifiable green financial products in the market. The existing ones are skewed in favour of debt instruments which only partially cover the risk and scale of long-term finance. Last, there is a predominance of projects for renewable energy capacity addition, with small allocations for energy efficiency. Difficult sectors like infrastructure, industry, resource efficiency, and transport have few projects.
Although international agreements require climate finance to be concessional or grant-based, private finance has no such assurance. The cost of green finance tends to be higher than normal and acts as a disincentive. The country requires an enabling governance framework to incentivise and mainstream green finance. Strong policy guidelines will help financial institutions comprehend their responsibilities towards greening the finance sector. Mandating a share of lending for green projects can moderate the risks and help enhance the rate of return.
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At the institutional level, one could begin by agreeing on a universally accepted definition of green finance and disclosure norms for companies that seek investments. To overcome multiple definitions, disclosures and reporting practices, the green finance taxonomy can be linked to goals of the NDCs. If the financial sector regulator adopts them as the benchmark for green lending, there may be a positive impact on overall costs and access to finance. In due course, a standardized green taxonomy could be developed to align it with international practices.
Disclosures by companies on the environmental impact of their actions are necessary to promote investor confidence. SEBI obliges the 1,000 largest companies listed by market capitalisation to file business responsibility reports. Setting up disclosure standards in these reports and enforcing them as part of a national information system could help remove the asymmetry of information for investors and lower the cost of foreign capital.
Availability of good and verifiable green products for investment, banking and insurance is necessary for the growth of green finance. Currently, green bonds dominate the market. However, there is a case for the development of equity-based instruments complemented with policy instruments like blended finance or results-based financing.
A major barrier for the private sector is the perception of high risk and the additional costs for developing these products. Mechanisms for mitigating risks are needed. Public funds supported by international finance can be used to provide risk mitigation support in form of first loss guarantees in debt and equity investments, hedge funds for external borrowings, subsidised insurance premiums for climate resilient assets, besides traditional grants and concessional loans.
The renewable energy sector constitutes the largest chunk of green finance today. Other sectors conventionally perceived as financially unviable, such as infrastructure, manufacturing, transport and circular economy, need similar scale of finance. Sectoral targets with provisions for monitoring and a scheme of incentives/disincentives can encourage capital flows as well as innovations. Setting up special funds to cover the risks involved and mandating green lending norms by the central bank could be the other ways of enhancing the viability of such investments.
Mobilising finance for green purposes requires a mix of policy support, regulations and risk mitigation instruments. Its success will be determined by the extent to which we are able to use public funds and policies strategically to fill the viability gap and scale up investments.
The writer is a distinguished fellow at TERI and former Special Secretary in MoEFCC. Climate finance will be an area of deliberations at TERI’s World Sustainable Development Summit 2022 beginning February 16
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