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August 21, 2024
Despite the challenges of inadequate climate financing, India has been at the forefront of sustainable development. The country has been ambitious in its climate actions, taking bold policy steps towards its Net Zero goals by 2070. To know more visit Link.
Regulators have actively participated in achieving India’s targets. In a previous Blog we explained SEBI’s role in the implementation of ESG in India which can accessed at Link.
The threat of rising temperatures causing economic havoc is highlighted by NGFS (Network for Greening the Financial System), a global body focusing on green change in the financial system. In response, the Reserve Bank of India (RBI) has taken several initiatives to implement ESG policies within financial institutions.
Problems Caused in India’s Financial Sector by Climate Change
RBI’s Role in ESG Implementation
I. In the Discussion paper on Climate Risk and Sustainable Finance- RBI asserts that Climate change is increasingly recognized globally as a significant financial risk for financial institutions as well as posing a threat to the safety, soundness, and resilience of individual Regulated Entities (REs), which in turn impacts the stability of the entire financial system. Therefore, it is essential for REs to proactively manage the risks and opportunities arising from climate change and environmental degradation. Financial Stability Board (FSB) has acknowledged that climate-related financial risks could jeopardize global financial stability and has developed a roadmap to ensure these risks are adequately reflected in all financial decisions. This roadmap promotes international coordination by unifying the efforts of international organizations and national authorities across various initiatives. FSB’s focus is on four key pillars: disclosures, data, vulnerability analysis, and regulatory and supervisory approaches. The paper offers several recommendations:
a) Understanding Risks:
b) Board-Level Committees:
c) Assigning Responsibilities: REs should assign clear responsibilities for managing climate-related financial risks to appropriate committees. Material climate-related financial risks should be integrated into the RE’s business strategy and risk management framework. The Board and Senior Management should have a sufficient understanding of these risks, and steps should be taken for capacity building and upskilling through internal workshops, training, or external collaboration.
d) Risk Framework: REs should incorporate climate-related risk indicators into their risk appetite framework. These indicators should include objective and measurable metrics, with limits cascading down to the sector and portfolio levels. Examples of such indicators include:
e) Climate-Related Policy: REs should develop a climate-related policy considering material physical and transition risks, with clear definitions and assignment of responsibilities and reporting lines across the three lines of defense:
II. Draft Guidelines on Climate-Related Financial Disclosures- Based on the above suggestions RBI has come up with draft guidelines on the disclosure framework for climate-related financial risks for regulated entities (REs) on 28th February, 2024. These guidelines applies to:-
a) Scheduled Commercial & Co-operative Banks
b) Top and upper layer NBFCs
c) All Financial Institutions
In the draft they have defined “climate related financial risk” in Para 6(a) as “potential risks that may arise from climate change or from efforts to mitigate climate change, their related impacts and economic and financial consequences.”
In the draft they have come up with 4 thematic pillars of disclosures that REs are required to make:-
a) The Board’s oversight of climate-related risks and opportunities;
b) Senior Management’s role is to assess & manage climate-related risks and opportunities.
a) The identified climate-related risks and opportunities over short, medium and long term;
b) The impact of climate-related risks and opportunities on the RE’s businesses, strategy and financial planning;
c) The resilience of the RE’s strategy taking into consideration the different climate scenarios.
a) The processes and related policies to identify, assess, prioritize and monitor climate-related financial risks;
b) The processes used for managing climate-related risks;
c) The extent to which, and how, the processes for identifying, assessing, prioritizing and monitoring climate-related financial risks and opportunities are integrated into and inform the overall risk management.
a) The metrics used to assess the climate-related financial risks and opportunities in line with its strategy and risk management process;
b) Scope 1, Scope 2 and Scope 3 greenhouse gas (GHG) emissions and the related risks;
c) The targets used to manage climate-related risks and opportunities and performance against targets.
REs were requested to provide their comments and feedback on these guidelines by the end of April.
III. Framework on Green Deposits- On April 11, 2023, the RBI introduced a framework for the acceptance of green deposits, which became effective on June 1, 2023. This framework applies to:
The aim of this framework is to encourage regulated entities (REs) to offer green deposits to customers, safeguard depositors’ interests, assist customers in achieving their sustainability goals, address concerns about greenwashing, and enhance the flow of credit to green activities/projects. In this framework, “green deposit” is defined as an interest-bearing deposit received by REs for a fixed period, with the proceeds allocated towards green finance. Similarly, “Green finance” refers to lending to and/or investing in activities/projects that meet the criteria outlined in paragraph 7 of the guidelines, contributing to climate risk mitigation, climate adaptation and resilience, and other climate-related or environmental objectives, such as biodiversity management and nature-based solutions.
REs are required to allocate proceeds from green deposits towards the following green activities/projects that promote energy efficiency, reduce carbon emissions and greenhouse gases, enhance climate resilience and adaptation, and improve natural ecosystems and biodiversity:
Not surprisingly, the framework excludes the following:-
IV. Membership in the Network for Greening the Financial System (NGFS)- RBI joined the Central Banks and Supervisors Network for Greening the Financial System (NGFS) in April 2021. NGFS is a group of central banks and supervisors sharing best practices and contributing to the development of climate risk management in the financial sector.
V. Survey on Climate Risk and Sustainable Finance- In January 2022, RBI’s Sustainable Finance Group (SFG) conducted a survey to assess climate risk and sustainable finance among leading scheduled commercial banks. Key findings include:
VI. Report on Currency and Finance for FY 2022-23- RBI’s report for FY 2022-23 focused on ‘Towards a Greener Cleaner India’. It outlines a roadmap for transitioning towards a sustainable economy, emphasizing the need for reducing carbon emissions and conserving natural resources. The report calls for financial institutions to incorporate ESG principles into their decision-making processes and assess the long-term sustainability of businesses and investments.
Conclusion
RBI’s efforts in promoting ESG have significant implications for the Indian financial sector and the broader economy. By integrating ESG principles, RBI aims to achieve sustainable economic growth while mitigating risks associated with environmental degradation, social inequalities, and governance failures.
As the world increasingly focuses on sustainability, the RBI’s proactive approach positions India as a leader in responsible finance. The continued emphasis on ESG will not only attract sustainable investments but also drive innovation and create long-term value for all stakeholders. Through guidelines, sustainable finance initiatives, capacity building, research, and collaborations, the RBI is paving the way for a greener, more inclusive, and ethically governed economic future.