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Getting green-finance right

Four vectors underpin the development of green finance landscape

Getting green-finance right
The sums of money to be channelised for this transition are very significant as a proportion of India’s current and projected GDP.

The fact that India needs to invest trillions of dollars to meet its ‘Net Zero by 2070’ commitment is, by now, well known. Estimates run to over $10 trillion in the next half century or hundreds of billions of dollars over the next decade. The sums of money to be channelised for this transition are very significant as a proportion of India’s current and projected GDP.

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The “demand-side” of these investments, i.e., the industries that will require these investments, is taking shape. Investments in renewables (solar, onshore wind, hydro, maybe eventually nuclear), battery and power storage, the electric mobility ecosystem including vehicles and charging, smart grids, distributed production, etc, are now becoming large industries. Relatively newer ideas like hydrogen and offshore wind are witnessing active public policy support and private interest. Each of these industries, as it is being created, has its unique funding requirements. Given that they are at various stages of development, the amount and type of capital required and the type of risk and return they represent varies significantly.

This takes us to the “supply-side” of the financial architecture that will be required to channelise funds into these and any future industries. As India prepares for the transition of its industries, it will also need to reimagine the architecture that underpins the financing of the new green economy. One aspect that makes green finance unique is that the challenges created by climate change are global in nature, and hence significant pools of international and multilateral capital are expected to be invested. India needs to create a network of financial institutions that can pool and channelise global resources into Net Zero initiatives.

Vectors of green finance
Four vectors underpin the development of green finance landscape: (1) where will the investments be required? (2) who will lead the pooling of finances and disbursement of investments? (3) how will the architecture of funding look like? And (4) what skillsets and ecosystems will need to be developed? Once we lay down the answers to these questions, we can begin to construct the green finance architecture in India.

Where: Where the investments will be required can be seen with two lenses. First, identify whether the focus of investment is to address (a) mitigation, (b) adaptation, or (c) resilience of societies to climate change. Then see the sectors to which the investment will go: (a) new-age green industries, (b) hard-to-abate sectors, or (c) efficiency improvements in transition sectors. The pools of capital available for a combination on the focus and sectors will be very different. For example, adaptation and resilience may require longer-term, public capital; new-age, high-growth sectors in mitigation might see significant risk-seeking, private capital come through.

Who: Given that climate change is a global challenge, and developed world is committed to significant transfer of capital to the developing world, there will be many forms of public collaborations between governments that will take place: bilateral, small group, or multilateral. Collaborations between private pools of capital (say, long-term pension funds) and public (say, sovereign funds) will also be common. A significant amount of private capital will also chase growth and yield opportunities. Each pool of capital will require specific types of governance structures to align with the varied interest of its stakeholders.

How: This is where all aspects of financial structuring kick in. The nature of instruments—equity, debt, mezzanine, concessional/impact, or grants—can be very varied and span the risk-return spectrum. Each type of capital will also segment itself into different categories: from those willing to take small risks on many investments to those who are willing to bet larger sums on mature technologies and industries.

Financing institutions will play at different ends of the control spectrum: from seeding large majority-owned platforms to passive equity stakes; from underwriting and leading debt or syndicating it; from offering risk cover to providing risk sharing facilities, etc. As is clear from the sheer varieties of instruments possible, the nature of entities will be very varied: alternative investment funds, banks, multilateral developmental organisations, asset management companies, insurance, and pension funds, public sector enterprises, and government departments: all these need to sharpen and develop their green capabilities.

What: Many capabilities will be required in making the green financing ecosystem vibrant: some will require developing completely new bodies of knowledge (say, climate risk ratings), while some need significant reorientation (assurance on numbers that companies and investors report on say, emissions). New platforms that can aggregate and analyse green-related data will be required—linking back all the efforts made by financiers and industry in reducing emissions will finally need to feed into the target for the country. Policy and public financing in various sectors will continue to evolve as sectors mature or technologies change. This will require deft policy professionals on both public and private sides. Finally, investment and debt management teams will need to be conscious of the impact of committing capital to green on their fiduciary duty to their stakeholders for risk-adjusted returns.

Next steps
Many of these building blocks exist in India. Organisations are beginning to define which aspects of these vectors they are comfortable competing in. In segments that they are not, they will need to collaborate with others in building the green ecosystem. All aspects of these four vectors require significant investment and development. The current set of organisations will need to scale up massively, and many new ones will be required to channelise the large sums that need to be intermediated between now and Net Zero. From a public-policy perspective, identifying the gaps in the four vectors and helping fill them in will be critical for creating a seamless set of pipes that link the appropriate capital to the relevant projects.

The author works with National Investment and Infrastructure Fund (NIIF)Views are personal

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