India’s financial sector and the climate change debate

The Reserve Bank of India (RBI), in its Utkarsh 2019 Vision Statement, has for the first time clearly stated its position on climate change. The RBI has stated one of its medium term goals as – “[a]assessment of the risk and compliance culture and business strategy of SCBs to strengthen the health of the financial system, with particular attention to the unique risks posed by climate change and the implications for the supervisory framework” (Utkarsh) [Para VI.53 – VI.54].

Since then, RBI has not hesitated to highlight this problem in various publications. A recent Financial Stability Report states that – “an important factor that is expected to reshape the macroeconomic and financial landscape is the impact of climate change and the political mitigation commitments made at the Conference of the Parties – 26th United Nations Climate Change Conference (COP-26)”.

RBI has also formed a sustainable finance group within the regulatory department to lead efforts on climate risk and a discussion paper on ‘climate risk and sustainable finance’ has been placed on its website for consultation. broader stakeholder.

As it stands, Indian banks have already put in place environmental, social and corporate governance (ESG) policies and green bond frameworks, and have committed resources to finance green projects such as renewable energies.

The banks also adhere to the National Guidelines on Corporate Economic, Social and Environmental Responsibilities and the Association of Indian Banks (IBA) National Voluntary Guidelines for Responsible Finance.

However, as the RBI survey reveals, there are considerable divergences in the understanding and consideration of climate risk in the business decisions of regulated entities.

The gaps in the current state of knowledge are partly dictated by history because commitments made under the Kyoto Protocol were not binding on India, and partly because the climate debate was a essentially in the field of climatology, earth sciences, disaster management and, in India’s case, foreign policy, which the banks rarely deal with.

Second, the banks’ response to the climate debate in the US and Europe has a somewhat different story. In the United States, the increasing pressure exerted on banks through class action lawsuits has made American banks aware of taking this risk into account.

In Europe, it is under public pressure that many European banks fund projects that harm the environment and create climate awareness. None of these factors were at play in India, but they could become important in the years to come.

The first computable general equilibrium models developed for India, to assess the impact of climate change, associated banks with the broader service sector. This diluted the essential role played by banks in channeling financial resources.

As a result, even though the central climate debate in India dates back some two decades, the role of banks and financial institutions has only recently become prominent.

RBI asked six big questions in its discussion paper. However, the focus here is on a very narrow but central issue that has been highlighted in the working paper on the carbon footprint/intensity of banks and the banking sector in general.

The Ministry of Environment, Forests and Climate Change has published regularly since 2015 the Biennial Update Report (BUR) to the United Nations Framework Convention on Climate Change which gives official estimates of the national greenhouse gas inventory. greenhouse of anthropogenic emissions by sources and withdrawals by sinks. The same can be used, with some assumptions and applying the technique of life cycle analysis, to calculate the carbon footprint of the financial sector.

Leaving aside the technical details, the imputed direct anthropogenic emissions for the financial sector (comprising banking and finance and insurance) derived for the years 2010, 2014 and 2016 are presented in the graph below.

The share of direct emissions from the financial sector is around 0.1% of total emissions for each of the three years. The largest component of direct emissions comes from fuel combustion, followed by waste, according to the classification used in the BUR.

It should be noted that emissions increased 3.4 times between 2010 and 2014 and 2.7 times between 2014 and 2016. Since emissions are directly proportional to the production produced, this large increase can be attributed to the expansion of operations between the years 2010-2016, due to the push towards financial inclusion which reached its peak with JanDhan.

This expansion of the banking network is attributed to private banks which added more branches compared to public sector banks in two sub-periods. The total number of operating offices of commercial banks increased by 1.38 times (PSB – 1.36 and private banks – 1.76) between March 2010 and March 2014. The ratio for the second sub-period was 1, 14 (PSB – 1.11 and private banks – 1.36) .

The carbon intensity of any sector is not limited to direct emissions, but also to indirect emissions. In the terminology of the Greenhouse Gas (GHG) Protocol, these are Scope 1, 2 and 3 emissions. In the case of banks, Scope 3 constitutes the credits granted to the various sectors.

The period from March 2016 to March 2017 is quite special when emissions experienced a certain drop. For the years ending March 2016, credit was generally slow, reflecting lackluster demand in the economy, asset quality issues, ongoing deleveraging through write-offs, and some disintermediation in favor of sources relatively cheaper financing options outside the banking system, as reported by RBI in its 2016 annual report.

The following year, the RBI annual report noted that banks pledged to diversify their credit portfolios, reduce their exposure to large industries and move into the relatively less stressed categories of housing, personal loans and services. . One-off factors such as demonetization and redemption of foreign currency deposits from non-residents (banks) had an impact on the behavior of monetary aggregates during the year. Finally, final guidance on the large exposures framework and improving the supply of credit for large borrowers through market mechanisms was also issued in order to diversify the lending base of banks.

The key picture is that in 2016, scope 3 emissions were reduced due to the easy availability of external lending, the move towards market borrowing under a large enterprise, demonetization and halving the GVA growth rate of the financial sector to 3.5% in FY2017.

In conclusion, this study was a revealing exercise because it places the climate debate historically, with regard to the carbon footprint of the financial sector. Since banks dominate the financial sector, the trends observed will be highly correlated to trends in the pure banking sector. The study goes somewhat beyond the scope of the RBI working paper as it also covers non-RBI regulated entities. But, with many banks having a stake in insurance through subsidiaries, these results give a broad view of the carbon footprint of the sector in general.

(The author is a banking system economist. Opinions expressed here are personal)

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