“Go Green” is no longer mere rhetoric, it is imperative in our times. Decision-makers, whether at the level of the country or corporate, need to internalize environmental externalities while framing almost all strategic policies. Financial policy is certainly no exception. The concept that integrates concern for the environment and adequate return on investments is ‘Green Finance’. It is defined by scholars as “financial investments flowing into sustainable development projects and initiatives, environmental products, and policies that encourage the development of a more sustainable economy.” Besides climate finance, it includes financial inflows made in projects with objectives such as controlling industrial pollution, better waste management, encouraging sustainable agriculture, and the protection of aquatic and terrestrial ecosystems.
The role of carbon emissions in causing global warming is a matter of common knowledge and an issue of concern for humanity. According to a World Bank estimate, infrastructure development, construction, power plants, and transport system operations are responsible for 70% of global greenhouse emissions. There is an urgent need to develop technologies that are not based on greenhouse gases and the combustion of fossil fuels.
This shift requires huge investment for green transformation. New investment is also needed for other green endeavours like those that seek to protect biodiversity, or to control all types of pollution. To mobilise this money, innovative financial instruments like green bonds are being issued by corporates, green banks are being set up, and many commercial banks, central banks, governments and institutional investors across the world have adopted policies to ensure green financial governance.
Raising Green Finance
‘Greening’ the financial system requires long term funds that are being made available through green bonds, green grants and the establishment of financial institutions like green banks.
Green bonds are financial instruments whose proceeds are used to encourage investment in sustainability/climate or environment-related projects. The most important institutional investor in this space is the World Bank and as on March 2018, the World Bank has raised over $10 billion through green bonds. It finances green projects all over the world. India’s Rampur Hydropower Project, which aims to provide low-carbon hydroelectric power to northern India’s electricity grid is a case in point. Both developed and developing countries are raising money through green bonds. The first Asian green bond was issued in 2013 by the Export-Import Bank of Korea, raising $500 million. China, the global leader in green finance, accounts for about 40% of green bonds issued globally.
The banking sector contributes to the greening of the financial system by providing green loans and by establishing green banks. Triodos Bank NV, based in the Netherlands is the first bank in the world that started financing green projects in 1991. Banks all over the world followed suit. Green banks are established specifically with the objective of making finance available for environment-friendly projects or for cleaner technologies. The Connecticut Green Bank in the United States, established in 2011, is the first green bank in the world. Similar banks have started operations in the United Kingdom, Malaysia, Australia, and Japan.
Governments provide grants, particularly, to small and medium businesses to invest in green technologies. Non-profit foundations with an environmental mission offer grants or invest in green banks and projects. The Toyota Foundation, the Hewlett Foundation, and the Rockefeller Foundation are among those that give grants to support clean energy. Even companies such as Boeing, Ford, PVR Ltd, and others offer green grants to NGOs and individuals. Oil majors such as ONGC (India), Total (France), BP (United Kingdom), Repsol (Spain) and many others are adopting a futuristic approach and are making substantial investments for development of renewable energy. On December 28, 2018, Anglo-Dutch oil company Shell announced its intention to double the amount it spends on green energy to $4bn a year.
Barriers to Greening of Finance
Projects that need funding through green finance have long gestation periods. Thus, the risk associated with green investment is typically long term in nature while lending is, generally, available for the short term. Mark Carney, the Governor of the Bank of England, has aptly termed this mismatch in lending and investment as a “tragedy of the horizon”. Parameters for risk assessment of green projects are also still evolving. Due to this, it is difficult for banks to assess credit risk and hence there is a reluctance to lend to such projects. Moreover, there is an acute shortage of staff that can screen green projects. Finally, businesses that tap green finance have to bear additional costs as finance for green projects is raised at a higher cost as compared to conventional projects due to the higher risk involved. In this competitive world, such businesses cannot pass it to consumers and hence, their bottom line gets adversely affected.
The Way Forward
Despite the issues outlined, the amount to be mobilised through green finance is huge. For Southeast Asia alone, the amount to be mobilised for high carbon emission sectors like power and transport, and sectors vital for humanity such as water and sanitation through 2025 is estimated to be $110 billion a year (ASEAN Investment Report, 2015). This huge investment cannot come through unless there is a revamp of policy measures.
a. Institutional Support
No country in the world can remain unaffected from consequences of disturbance in its ecological balance. Though the World Bank and International Finance Corporation are doing good work to promote green finance, a multilateral financial institution is needed to give it the desired push. It is surprising that at the Climate Summits, this issue has never been brought up. Mitigation cost is always the core issue of discussion, but never is the issue of green finance required for new projects. The International Investors Group on Climate Change (IIGCC), a network of nearly 150 members, including nine of the 10 largest pension funds in Europe has been formed to encourage the inflow of green finance, but the scope of its activities is limited only to projects involving clean energy.
b. Adequate Disclosures
Many companies in G-20 nations are giving environment-related information in their financial filings. The top 500 listed companies in India have to make such disclosures in a Business Responsibility Report as a part of their annual reports. But these disclosure norms have not been standardised, leading to difficulty in greening finance. Regulatory authorities should ensure that banks disclose their green loan data at regular intervals. Chinese banks do it and their model may be replicated by other banks across the world.
c. Factoring of Environmental Cost in Lending Portfolios
Financial intermediaries, which include multilateral development banks, commercial banks, and private equity firms should develop mechanisms to factor environmental costs to determine the cost of capital for their projects. This will ensure the total cost of projects which are likely to damage the environment is higher than green projects. In this domain, the UNEP Finance Initiative is working with banks, insurers, and investors to remove the issues emanating from difficulty in assessing environmental risk. Natural Capital Finance Alliance (NCFA), a finance sector-led initiative, has recently launched ENCORE (Exploring Natural Capital Opportunities, Risks and Exposure), which is a web-based tool to assess the environmental cost of the project.
To promote green finance, priority areas should be identified by policymakers in consultation with all the stakeholders. Only then an enabling framework can be developed. The regulators and world leaders need to embrace a vision for development that integrates economic growth with sustainability issues. And to do that, they must ensure that money, whether private or public, is pumped into the right kind of activities and projects. After all, without proper financing, no projects or initiatives can achieve tangible results. The same goes for green projects and the dream of a sustainable future.
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