[Priya Garg is a 4th year student at the West Bengal National University of Juridical Sciences (WBNUJS)]
The concept of “green banking” has two primary aspects – first, making banks and other financial institutions conduct their operations in an environment-friendly manner; second, their role of extending credit on favourable terms to eco-friendly projects. For the purpose of this post, I refer to the latter aspect as ‘green finance’. Green finance itself has two aspects – first, financial institutions conducting due diligence of concerned projects or companies must ensure, before granting credit, that no project financed violates existing environmental norms; the second relates to the financial institutions’ introduction of products to support green projects. In this post, I analyse the ‘green financing’ aspect of green banking in India.
Benefits of green financing and conditions presently favouring greater green financing by banks in India
Green financing ensures that companies financed by banks are at lower risk of being subject to liabilities under environmental law because “greenness” of the project is ensured (or at least enhanced) under green financing. Promotion of green projects by green financing also enhances the quality of the underlying assets for banks. Green financing also insures financial institutions against reputational risks that they may face by being associated with polluting projects or companies. Depending on circumstances, green financing can even be cost-effective and can benefit financial institutions in long run.
Hence, recently, financial institutions have marched towards green financing. Besides legal developments, there are several other factors currently prevailing which should encourage green financing in India.
Growing ease for financial institutions in assessment of green companies and projects
Since green financing involves extending financial support, including through credit allocation, to eco-friendly projects or companies, the implementation of green financing requires financial institutions to conduct environment due diligence of the concerned companies and their projects under consideration. This may be costly and tedious for financial institutions which are profit-driven. However, recent developments can enhance the feasibility of the due-diligence exercise.
First, under the Companies Act, 2013, specified types of companies are required to participate in corporate social responsibility (“CSR”) endeavours. Under it, schedule VII carries a list of activities which can be undertaken as CSR endeavours, with ‘ensuring environmental sustainability’ being one of them. Hence, companies undertaking CSR activities through environmental initiatives may be given priority in credit allocation by financial institutions over companies spending their CSR amount through other means. Such companies can also be given priority over companies not incurring CSR expenditure either because they do not fall within the CSR provision or because there is no penalty for violation of the CSR spending requirement under the Act.
Second, BSE has recently taken the initiative of launching an index (BSE Greenex). Listing on this requires companies to fulfil certain carbon-emission thresholds to affirm their eco-friendly nature. Therefore, the companies listed on these types of exchanges, depending also on the performance of their stock on such exchanges, should be easily prioritised by financial institutions in their financial assistance.
Third, green financing by way of instruments such as green bonds has received an upsurge in the Indian financial markets, specifically after the issuance by the Securities and Exchange Board of India (“SEBI”) of its guidelines relating to green bonds. New eco-friendly financial instruments such as blue bonds are also emerging. If, in relation to a project regarding which green or blue bonds have been issued to solicit funds, additional assistance in the form of contribution from banks is needed, then banks can assist such project on priority basis by being obtaining assurance because of the use of green financing instruments for its funding. This would reduce their due diligence costs.
Fourth, the role of proxy advisory firms is expanding in the Indian context. They conduct thorough research of relevant companies, industry, sector, laws and other disciplines to offer reliable recommendations to their clients (specifically institutional investors) regarding the stance they should adopt in relation to any resolution or initiative proposed to be passed by their investee companies.These firms can conduct research in a cost-effective manner, by virtue of reasons such as specialisation, economies of scale etc., even regarding the environment related compliance and endeavours by the concerned companies for their clients who can also be financial institutions. This would make environmental due diligence of companies cost-effective for financial institutions.
Fifth, the Ministry of Corporate Affairs, in 2011 introduced ‘National Voluntary Guidelines on Social, Environmental and Economic Responsibilities of Business’ for companies. Subsequently, as a follow-up measure, SEBI introduced requirements relating to reporting by businesses of the efforts taken by them in this direction of social responsibility. This would also create avenues for companies to go green. For this, they would need green financing assistance from financial institutions, which is another reason for banks to embrace more of green financing.
Sixth, there is recent sprouting of regulatory/nodal bodies such as Indian Green Building Council. This body certifies a building to be green if it meets certain parameters. Banks can use this certification to decide if the building or construction work at hand is green and to thereby offer credit to it on priority basis or at concessional rates.
Addressing the issue of continued lack of awareness about the need for CSR and limited reach of the CSR provisions under the Companies Act
CSR provisions under the Companies Act impose obligations on selected types of companies. Therefore, companies falling outside the ambit of the provision would not be under a legal obligation to undertake the CSR activity. Similarly, some of the companies may be unaware of their social responsibilities as a business. On the other hand, when financial institutions extend credit to companies’ projects, they deal with companies of various types, size and from different sectors. Hence, if financial institutions apply pressure on companies to go green by tailoring their credit policy in a manner that prioritizes or supports green projects, a diverse range of companies would be motivated to turn relatively more eco-friendly. This should inspire financial institutions to resort to promoting green financing.
Changing attitude of clients and customers; change in international investment laws and policies
Two circumstances should further motivate financial institutions to more actively promote green financing. First, their clients and customers are becoming relatively more sensitive to and aware of environmental concerns.[1] Therefore, they may support financial institutions in their initiative of promoting green financing. Second, at the international level, where inter-country trade takes place, some countries’ markets and consumers do not accept the goods coming from companies or countries that show disregard towards crucial social issues. For instance, products of countries violating human rights or child labour laws are denied entry into the US or European markets. Resultantly, financial institutions’ financing of green projects of companies would send a positive message about the environment-related sensitivity of Indian companies and financial institutions.
Barriers in the path
Having highlighted the circumstances that can facilitate green financing by financial institutions, in this section I flag certain hurdles that exist in the path of green financing. While doing this, I simultaneously draw a brief comparative account with other countries.
Lack of clarity on Government’s policy
The Reserve Bank of India (“RBI”) has undertaken initiatives regarding promotion of green financing by financial institutions. Additionally, there have been efforts in this direction by the banking industry itself: for instance, issuance of the ‘National Voluntary Guidelines for Responsible Financing’ by the Indian Banking Association. However, unlike China, in India the Government has not adopted a clear stand or policy on the matter of promoting green financing by banks. For instance, the National Environmental Policy (“NEP”) introduced clear policies, principles and rules to enforce environmental law and regulation. However, the NEP is silent about the role of financial institutions in this matter. Given that the RBI’s mandate does not explicitly include addressing environmental matters (instead it lies in ensuring price and financial stability), the Government’s lukewarm initiative may discourage growth of green financing by banks.
Lack of appropriate level of initiatives by NGOs
Similarly, unlike the case with other countries where NGOs united to pressurize financial institutions to undertake green financing, in India the NGOs have not taken active interest in this direction.
Problems of implementation
First, initiatives taken by RBI and other bodies towards promoting green finance have been merely in the form of guidance. There have been no mandatory regulations or even rules for mandatory reporting by financial institutions. This may create implementation issues for financial institutions as they did when corporate governance norms were first introduced for companies as guidelines which were thereby later introduced as mandatory regulations to ensure their adherence.
Further, unlike China, in India there is no provision providing for inter-agency cooperation, i.e., cooperation between environmental boards, bodies and authorities and financial institutions to promote green financing. Inter-agency cooperation enables environment authorities to provide information and inputs to financial institutions regarding the environmental viability of the project concerned or the past environmental track-record of the company. This reduces the environmental due-diligence costs with respect to companies and their projects for financial institutions.
Problems that exist in India regarding implementation of the prevailing environment legislation by environment authorities would also make it cumbersome for banks to assess the environmental viability of a project or company. This is because lack of legal action against companies or their projects for violation of environment laws cannot be taken as a final word on the matter for the purpose of green financing by banks.
Furthermore, guidelines hitherto issued regarding green financing are indirect and vague. They leave it to the banks’ discretion to not allocate funds exactly for environmental purposes. For instance, RBI’s CSR notification urging banks to undertake CSR activities does not explicitly require banks to contribute towards improving environmental conditions. Since the ambit of CSR activities is vast, banks can allocate funds for any other CSR activity besides environment-related initiatives. Similarly, provisions relating to mandatory priority sector lending (“PSL”) by banks for certain sectors include certain environmental activities within the PSL quota. However, these environmental activities are only one of the several components of the PSL quota. Therefore, ultimately banks have the discretion to adhere to the PSL requirements by allocating funds to any other eligible sector instead of environmental activities.
There are other ambiguities also on this matter. For instance, the absence of a clear definition of ‘green finance’ or lack of a uniform standard to gauge if a project is green may also create implementation problems against green financing.
Other loopholes
The lack of clarity in SEBI’s Disclosure Requirements for Issuance and Listing Green Bonds[2] and ambiguity under law regarding the possibility of allocation of environment funds such as Biodiversity Fund and National Clean Energy Funds for the purpose of encouragement of green financing by banks[3] can also hinder green financing by financial institutions.
Recommendations
Against this backdrop, I offer the following ‘illustrative’ recommendations:
(a) The Central Government should introduce a clear policy on green financing. This would guide and incentivize financial institutions. There should be greater clarity on green bond guidelines, including the definition of green bonds and regarding the parameters to assess the greenness of a project, etc.
(b) There should be a ‘comply or disclose’ or ‘comply or explain’ model for regulations introduced for financial institutions relating to green finance. This implies that even when regulations requiring them to undertake green financing are not made mandatory for practical reasons, they should be required disclose or justify their lack of contribution or initiative in this regard to public or concerned authorities. This will increase the element of accountability.
(c) NGOs should unite and sensitize ordinary customers of banks and create a nudge effect for banks to undertake green financing.
(d) Facilitation of inter-agency cooperation, i.e. cooperation and sharing of information resources between environmental bodies and banks/financial institutions should take place.
(e) There is a need to set up a mandatory certification body to screen green applications and sanction loans.
Conclusion
In emerging and developing countries, such as Bangladesh, Pakistan, etc, initiatives have been taken to promote green financing. Given that India’s pollution levels are becoming alarmingly high, it is imperative to tap the potential that green financing possesses to improve environmental conditions in the country.
– Priya Garg
[1] E.g., Satheesh Kumar, A Study on Customers Awareness on Green Banking Initiatives in Selected Private Sector Banks with Reference to Kunnamkulam Municipality, 4:3 SSRG-IJEMS 49, 50 (2017).
[2] This ambiguity arises because there is an absence of a specific definition of green bonds in the SEBI’s Disclosure Requirements for Issuance and Listing Green Bonds. Therefore, confusion arises while ascertaining the greenness of a project whenever money is raised through green bonds.
[3] It is unclear that if these funds can be used to encourage banks to resort to green financing and also if the banks’ contribution to these funds can qualify as green financing.
