Why Are Green Bonds India's Best Bet To Tackle Climate Change?

India's unique geography, geology, and vast climatic diversity make it vulnerable to this century's existing 'pandemic' climate change. As part of its endeavor to accomplish sustainable development goals, India has made aggressive strides towards a low-carbon economy with ambitious targets like achieving a robust 175 gigawatt of renewable energy capacity by 2022.

Targets like these warrant massive capital funding. While debt is the primary source of funding renewable power projects, we will have to find more innovative methods to achieve development goals with the challenges of climate growing fast. It is where green bonds, as a form of raising debt, come into the picture.

A green bond, in simplistic terms, is a debt instrument, like any other bond, by which investors can finance sustainable assets or projects. The proceeds of the green bond offering are earmarked for financing 'green' projects like electric vehicles, mass rapid transport systems, water and irrigation management, and renewable energy. They can be raised either by financial institutions for further lending to green projects or by the developers directly for investment in their projects.

Evolution of green bonds in India

Green bonds as a means of finance is a fairly new concept and have garnered a lot of traction in the past decade with issuers like Yes Bank, EXIM Bank, IDBI, NTPC Limited, and Axis bank amongst others, raising debt for renewable energy, water management, and low carbon building projects. In 2017, the Securities and Exchange Board of India (SEBI) acknowledged the need for green bonds and issued a circular prescribing disclosure requirement for issuance and listing of 'green debt securities.' Recently, JSW Hydro raised $707 million through green bonds, which were oversubscribed four times.

Benefits of green bonds

The most vital characteristic of green bonds is that it focuses on garnering a positive impact on sustainable development goals and protecting the environment. In addition to this, since these bonds are issued for projects earmarked as 'green,' its credentials have the potential to attract a larger pool of investors globally given the rapid integration of environmental, social, and governance ("ESG") metrics in the process of investment analysis.

Apart from being a good alternative to conventional bank debt, subject to sectoral limitations, green bonds are also an effective tool in driving down the cost of capital and reducing asset-liability mismatches.

Additionally, with the development and growth of the green bonds market in the country, we may see new participants such as debt aggregators who pool loans from banks or developers and issue green bonds, securitizing cash flows from the loan pool.

Challenges

Despite the far-reaching benefits of green bonds, certain challenges persist. This form of financing is seemingly nascent, and public and private sector project developers are still educating themselves on the utility of green bonds in infrastructure projects.

It is imperative to also highlight that demand and performance of green bonds would ultimately depend on the robustness of the country's bond market. In addition, India's sovereign credit rating of BBB- means that many green bonds would also require credit enhancement to attract international investors.

The impact of other government policy measures like the imposition of basic customs duty on the import of solar modules and cells into India from April 2022 might also increase the overall cost of setting up solar power projects given the lack of domestic manufacturing capacities.

Regulatory uncertainty is also created by situations where tariffs are unilaterally revised or allotted tenders are canceled. Such events adversely impact investment into the renewable energy sector and, in turn, would also impact the popularity of green bonds amongst investors.

Conclusion and way forward

India has the second-largest bond market among emerging markets after China. However, India's green bond market is less than a tenth of China's, which points to India's untapped potential.

For the Indian green bond market to be an attractive avenue for investors, perhaps the following areas should be of principal focus:

  • Any decrease in the cost of raising green bonds given the generally high costs of issuing the same in India is key to making it attractive for project developers. It would require regulators like the Reserve Bank of India and SEBI to also get on board.

  • The government may explore formulating principles and standards for certification of climate change projects. From an issuer's perspective, if the country's policy framework provides a direct financial or compliance-related incentive for tagging projects as 'green,' the same would also encourage green bonds as a mode of finance.

  • The introduction of projects with future green bond issuance and strategic green bond issuances by government and semi-government institutions would help improve global investor sentiment in the Indian green bond market.

In light of the tumultuous economic and environmental climate that the world is experiencing today, adopting a proactive stance on issues that have repercussions on the industry is a need of the hour.

Promoting green bonds as a form of debt funding, for a sector that is most adjacent to the overall issue, should be the prime focus, as if we fail to adapt and take action now, we will eventually be forced into a consequential shift from a 'proactive' to a 'reactive' sustainable development policy, where we may have to think even ahead of green bonds as a potential mitigation tool.

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