India has a climate-smart investment potential of $3.1 trillion from 2018 to 2030 according to the International Finance Corporation (IFC). This is a large sum of money and India can’t afford to lose the opportunity to realize this potential.
Below are ten reformative steps that India should take to capitalize on this opportunity:
- Taxonomy: India needs to standardize what it considers green and establish a set of criteria for green finance. Several countries like Russia, Mongolia, Malaysia, China and the EU have already put in place their taxonomies. India should also come up with its taxonomy with appropriate screening criteria that reflect its domestic realities and aligns with the national norms.
- Use of Technology: India is a leader in Information Technology and should use this benefit to solve issues like availability of quality data, capturing relevant climate data, monitoring projects and enabling financial impact analysis.
- To illustrate, TCS has developed the Climanomics platform that allows organizations to quantify and disclose the financial impact of climate change by analyzing climate risk exposure on assets.
- Similarly, the Originator Engine is a digital platform connecting customers, investors, and ecosystem partners to help navigate the process of securing financial investment for new businesses in the solar energy sector.
- The Swiss firm Carbon Delta has developed a machine learning-based Climate Value-at-Risk assessment method to quantify climate change risks across investment portfolios.
- Startup ecosystem: India should also explore its booming startup ecosystem to contribute to the sustainable finance sector. Many startup firms across the globe are already contributing to this goal in various ways. For example, the personal finance company Aspiration has launched the ‘Plant Your Change’ initiative that allows customers to eliminate their carbon footprint by planting trees while they shop. Similarly, Trine is a Swedish fintech firm which aims to make it easy for people to invest in solar energy by connecting solar businesses in emerging markets with capital through crowdfunding. The Indian government should facilitate this startup ecosystem through initiatives like the Green Fintech Network launched by the Swiss government.
- Innovation: The Indian markets should develop innovative products to advance the green products market. For example, products like Green Infrastructure Investment Trusts can help facilitate deeper green bond markets. India can also explore a formal carbon pricing framework. A carbon price would help nudge investors and consumers to consider these costs in their decision-making process. Nasdaq has taken the lead and has recently collaborated with a Finnish firm Fortum to create an exclusive trading platform for carbon removal credits.
- Data is the key: There is a need to focus on data-collection and use modern techniques like data analytics and machine learning to improve sectoral understanding and forecasting future trends. For example, while making decisions on investment in the renewable energy sector, an essential consideration in determining the project viability is the future price that the company will earn from the sale of electricity. Data-based price forecasting can help investors make better decisions and finance sustainable projects.
- Rating Agencies for Rating based on ESG: There is a need for a reliable rating framework to adjudge the different companies/projects based on their ESG scores. Crisil had launched such a rating last year. There are other agencies in this space as well. However, the problem is the high inconsistency between the ratings provided by these agencies. SEBI had published a consultation paper on its website with a proposed framework to regulate ESG Rating Providers for securities markets and has sought suggestions over its propositions. It should fast-track the process and release official guidelines as soon as possible.
- High borrowing cost: The green financial instruments usually cost more than other instruments available in the market. A significant reason for this is information asymmetry. Therefore, a solid Information Management System in India is the need of the hour.
- Incentivize Green Bonds: Considering the potential that green bonds hold, government should promote these by providing different incentives like tax exemption on interest or tax deductions.
- Cooperation and collaboration between investors: Moving towards a sustainable developmental model comes with several associated risks. The different players in the finance sector need to establish institutional mechanisms to collaborate and coordinate amongst themselves to tackle these risks. For example, during the initial process of underwriting, the primary and secondary finance providers could collaborate, and the secondary provider could provide a suitable refinancing option to the primary provider set out in indicative terms for a few years down the line. This would help build confidence in the residual price of the asset and lower the associated risk.
- A relook at Human Resources: For the finance sector to become a pioneer in the drive towards sustainability, it needs to be staffed and led by people who are well trained and aware of the importance of Environmental, Social and Governance aspects of businesses while assessing any business. Hence, the different stakeholders in the finance sector need to ensure that they hire employees with these skill sets, train them on these skills and incorporate ESG parameters in their performance reviews.
A fresh look at some of the major stakeholders in the finance sector can help:
The stock exchanges form a central component in the financial system connecting investors to borrowers. They can play a pivotal role in ensuring sustainability in several ways. Firstly, the stock exchanges should promote Green products and services, give them high visibility, and create awareness among investors on the different green terminologies and how they could differentiate between products.
Secondly, stock exchanges should proactively involve themselves in educating the market and creating standards and benchmarks for Sustainable product offerings.
Thirdly, the stock exchanges should promote and ensure environmental disclosures by companies by drafting different disclosure rules and training the various stakeholders on the importance and need of those rules and the incremental benefits for the economy and the companies.
Fourthly, the stock exchanges can play an active role in promoting a culture of green disclosure. They can encourage dialogue between investors and borrowers on the green and sustainable aspects of the investments and formulate policies and standards to aid green investments.
Understanding the importance of stock exchanges, UNCTAD, UN Global Compact, the UNEP Finance Initiative, and Principles for Responsible Investments organized the Sustainable Stock Exchanges Initiative. This is a peer-to-peer learning platform that explores how exchanges, in collaboration with investors, regulators, and companies, can encourage sustainable investment. The BSE and NSE are also a member of this initiative.
The Bombay Stock Exchange has already taken many initiatives to promote sustainability. For example, it has made ESG (Environment, Social and Governance) reporting and submission of business responsibility reports mandatory for top listed companies, offers ESG-related training, and has several sustainability-related indices like S&P BSE CARBONEX, S&P BSE 100 ESG, and S&P BSE GREENEX.
Investors are another major stakeholder who can help steer the financial system towards sustainability. They can do so by primarily integrating ESG parameters in their investment analysis and decisions. This exercise will help drive borrowers towards incorporating sustainability in their plans.
Today, investors around the globe are making impact investments to unravel the power of capital for good. Impact investing is a general investment strategy that seeks to generate financial returns while creating a positive social or environmental impact.
Investors should engage in discussions on ESG issues with companies and convince them to incorporate good ESG practices in their work. Investors can also use proxy voting to nudge borrowers towards sustainable practices. Proxy voting is a mechanism to formally express approval/disapproval of a company’s practices through voting.
Several Responsible Investment Initiatives are already in place that bring together investors to use their agency and foster sustainable changes. The UN Convened Net Zero Asset Owner Alliance; a legal Framework for Impact by UNEP FI, Principles for Responsible Investments and Generation Foundation; and the Climate Action 100+ led by investors are some examples.
In addition to the above stakeholders, the banking system can also play a key role in setting up a sustainable finance system. Banks need to align their strategies to the needs of society and incorporate ESG goals in their vision and decision-making. This should be followed by setting up ambitious and sustainable targets which have a positive impact on society. The targets and their updated progress reports should be communicated transparently to all.
The banks should also work closely with all stakeholders and consult, engage and partner with them to achieve the set targets. They should try to incorporate ESG practices as a core part of their culture and governance systems.
The above actions are structured in the form of a unique framework in the UN Principles for Responsible Banking. Over 280 banks representing over 45% of banking assets worldwide including Yes Bank from India have joined this initiative.
Thus, each stakeholder in the finance sector of India should incorporate sustainability goals as a part of their core functioning and work proactively towards bringing positive change in the way investment decisions and investments are made. The government should take the lead and provide foundational support in the form of necessary policies and regulations.
Sustainability has always been a core component of Indian culture. India should incorporate this sustainability in the finance sector as well and set an example for the world to follow.
*Views expressed in this article are personal