By Arjun Dutt & Gagan Sidhu
On February 9, India will conduct the auction of the second tranche of its planned Rs 16,000 crore sovereign green bond issuance for FY23. That it will be conducted amid a challenging global environment marked by economic uncertainty and capital flight from developing countries is a powerful reminder of India’s commitment to sustainability.
CEEW research estimates that India’s ‘net zero by 2070’ target requires $10 trillion in investments. In this context, sovereign green bonds can emerge as a smart policy lever to address the financing challenges of low-carbon transition and stimulate green growth—one of the priority areas identified in Budget FY24.
First, sovereign green bonds can be an effective means of raising low-cost finance. This is evidenced by the greenium, or pricing advantage commanded by several sovereign green, social, and sustainability (GSS) issuances globally. However, pricing is just one part of the story. Scale is just as important. On this point, banks and institutional investors globally are increasingly looking to fund environmental, social, and governance (ESG) investments, particularly those associated with climate action. The Glasgow Financial Alliance for Net Zero, a coalition of financial institutions with $130 trillion in assets under management, is a case in point. But the actual avenues for deploying capital at scale towards such investments remain limited. By designating sovereign green bonds as specified securities under the ‘fully accessible route’, a pathway has been cleared for global capital to be channelled at scale to support India’s journey towards sustainability. Going forward, the government should also consider sovereign Masala green bonds at GIFT IFSC as an additional route.
Second, the low-cost capital mobilised through sovereign green bonds can impart a green stimulus to economic growth. Pandemic-related disruptions and the Ukraine conflict have dampened growth in many economies. In addition, monetary policy responses to inflation have made capital more expensive. These disproportionately impact small businesses and households, and pose risks for low-carbon transition. Further, global capital flows being directed towards climate action are skewed towards large-scale mitigation activities, with adaptation receiving scant attention. The proceeds of sovereign green bonds can be directed to address these twin challenges. Distributed renewable energy for productive livelihood applications, for example, has a market potential of $53 billion in rural India, per CEEW research. Investments in adaptation are needed to moderate the damage caused by extreme climate events. The UNESCAP Risk and Resilience portal estimates that India is at risk of average annual losses of $80 billion from drought, floods, and tropical cyclones. Appropriately channelled sovereign green bond proceeds would both support the vulnerable and stimulate a green recovery.
Third, sovereign green bond issuances can also stimulate the domestic corporate green bond market. To date, domestic banks and NBFCs have been the major sources of debt finance for India’s energy transition. Institutional investors such as pension, insurance, and mutual funds remain on the margins. As a result, their portfolios remain exposed to climate risk. Financial regulators in India are increasingly cognisant of the need to manage this risk, as evidenced by the 2022 RBI discussion paper on climate risk and sustainable finance. The ratings of sovereign green bonds make them attractive investment opportunities; investing in them could also nudge these investors towards corporate green bonds as an additional means to manage climate risk. To further accelerate the corporate green bond market, the Centre should consider regulatory mandates for minimum exposure (as a percentage of debt capital market exposure) to climate-related investments for institutional investors.
Fourth, sovereign green bond issuance could catalyse similar issuances at the sub-sovereign level. While India has witnessed a few sub-sovereign green bond issuances, perceptions of poor governance, particularly in municipalities, are one of the reasons why investors remain wary. The sovereign green bond issuance can serve as an exemplar for sub-sovereign issuers to replicate systems that allay these concerns. India’s cash-strapped discoms could also tap into low-cost finance by issuing sustainability-linked bonds as they green their power purchases per their renewable purchase obligations (RPO).
Lastly, the sovereign green bond framework is an integral element of a wider sustainable finance regulatory ecosystem for guiding capital flows. It complements existing regulation such as the Business Responsibility and Sustainability Reports. Another successful issuance should give policy makers confidence to implement other regulations under consideration as well. These include a taxonomy of sustainable activities and a framework for the management of climate risks in financial institutions.
India’s sovereign green bond issuance has converted into action an idea whose time had well and truly come. It is also very much in sync with the country’s commitment to an “action-oriented” G20 agenda.
(Respectively, senior programme lead, and director, CEEW’s Centre for Energy Finance)